Day Trading 101: Tight Stops? Wide Stops? Which One Should I Use?

Entry signals are very important but just as important if not more is trade management.

Today I decided to touch more on an educational feature rather than provide a certain market outlook. Many of my clients and blog readers know that when it comes to short term trading I am a fan of adjusting your trading technique/ game plan according to your assessment of the type of trading day that is developing in front of you.

Many new and advanced traders spend HOURS on looking for entry signals. Back testing historical data, creating algorithms to use and much more. I know. I am one of these traders.

Entry signals are very important but just as important if not more is trade management.

Trade management consists of many factors. Some are psychological and some are more mathematical and many are in between.

Some of the basic elements of trade management before even entering the trade are: What will my stop loss be**? will i use a stop loss**? What will my target be? will I use a target or just trail the trade if it goes my way?

The answers will vary from trader to trader but in general here are the few main ways traders go about trade management and specifically for this short article STOPS.

Some trading techniques will provide for a large winning percentage but in general losses will be much larger than winners, hence the trader is using a wide stop.

Some trading methods actually have a lower winning percentage ( around 40% and lower) but winners will tend to be quite larger than losers so the sum of trading is hopefully positive.

I actually use systems from both sides of the spectrum depending on the trade methodology and the market.

In general your stop method will depend on your entry method. A couple of examples:

If you are a very patient trader that looks for set ups where the market tests resistance and fails in order to go short you will probably be using a tighter stop, perhaps a stop that is a few ticks above that specific resistance.

If you are a trader that looks for MACD cross over along with change in momentum for example, it will make more sense to use wider stops unless you really found that crystal ball that I really don’t think exists.

The placement of stops will also depends on how you plan to exit if and when you have open profit in the trade. Are you a breakout trader that looks for big moves to happen following a breakout of price and volatility for example? if that is the case than your stops should probably be very wide.

In general I prefer (my personal opinion/experience) a bit wider stops for a few reasons:

1. Most traders who use tighter stops will tend to over trade. They may get stopped out, see the market go back their way, re-enter the trade place a other tighter stop etc…

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2. I don’t believe in crystal balls. In order to place a very accurate stop that is also very tight you need one of those…

3. Traders need to develop patience while trading. You need to give room for your trade to “cook properly”. In order to do so you need to place your stops in a way that gives your trade a chance.

My advice is to analyze your trades. keep a record of all trades you take when the trading day is over. Keep notes. Keep a journal. Go over the trades at the end of the day and see if there is anything you could have done better in terms of trade management? Try and look for a pattern in your trading that is causing you losses in terms of stop placement.

Every market is different. Some are more volatile than others. Different trading days will have different mechanics and personality. Some are wilder, others are quieter , some are more range bound. All these factors will determine where stops should be placed.

In general stops should be placed below current support or near resistance levels. I like to use both volume and price to determine that. I also publish major support and resistance levels for the major markets , which you can receive via email daily.

Stops should differ based on volatility. The more volatile the day, the wider the stop should be in my opinion and perhaps the more “picky” your entries should be?

One method I like to sometimes recommend is:

If you planned on going long crude oil for example at 51.91 and place a 40 tick stop loss at 51.51, try to enter closer to your intended stop loss, lets say 51.71 and use a stop that is perhaps 10 ticks lower than the original one, 51.41 in this example. You may miss some trades this way but might have higher success rate with the trades you do get in to.

Last but not least for you traders “who don’t believe in stops: or use “mental stops” – as a broker who has been in the business and observed many traders, 99.9% of those traders who do not use stops or use mental stops sooner or later simply blow up on that one crazy day….you may escape many losses on the range bound days but that one day where you do not place a stop and the market keeps going against you in a strong trend, may be the one day where you lost all of your account.

In future articles I will touch base on exit techniques ( targets? trailing stops? Market on Close?) as well as a few different entry techniques. Good Trading!

Disclaimer – Trading Futures, Options on Futures, and retail off-exchange foreign currency transactions involves substantial risk of loss and is not suitable for all investors. Past performance is not indicative of future results. You should carefully consider whether trading is suitable for you in light of your circumstances, knowledge, and financial resources. You may lose all or more of your initial investment. Opinions, market data, and recommendations are subject to change at any time.


About  Ilan Levy-Mayer

Ilan Levy-Mayer has been a commodities broker for over 15 years, and holds an MBA in Finance and Marketing from Hebrew University in Jerusalem. Ilan is currently the Vice President and a Senior Broker at Cannon Trading Company.

Take a step in the right direction and contact me today, Toll-Free: 800-454-9572 or direct: +310-859-9572. You may also directly e-mail me, Send mail.

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