STOP LOSSES 1
Refusing to allow a trade to start running at a loss to the extent that it will damage your capital base is one of the most important aspects of trading. To state the glaringly obvious, if you lose your capital you will no longer be in a position to trade. And what is more you will be psychologically harmed by the process. It is well documented that losses can cause traders to become fearful of putting on the next trade in case more losses are incurred as a result. If you accept the proposition that none of us are perfect then it is easier to accept that losses are as much a cost of trading as is putting fuel in a vehicle is a cost of motoring.
So, how to handle it. If we continue with the motoring analogy, we put as much fuel in our vehicle as we can comfortably afford and so can travel with a degree of relaxation in the knowledge that our costs of doing so are at an acceptable level. We need to apply this logic to our trading plan and we do so by knowing how much we are prepared to lose BEFORE we enter the trade, so we can relax in the knowledge that the trade cannot damage our Capital beyond the level that we are comfortable with.
So far so good, now we have to add in the ingredient of market behaviour. If our stops are too close to our entry price perfectly good trades will be stopped out at a loss which will also make us feel bad. If our Stop is set too far away a trade that is wrong will incur losses beyond that which we are comfortable with. We must find a “happy medium” where losses are set far enough away from the entry price to give the trade a chance to “breath”, put not so far away to incur losses that will cause us damage.
We will deal with how to do this next month.