A stop loss is an order to automatically exit a trade if price reaches a specified level. It's the mechanism that converts "this trade might keep going against me indefinitely" into "this trade can cost me at most $X." Every trade should have one before you enter, not after.
How Stop Losses Work
When you open a long position, you place a stop loss below your entry price. If price falls to that level, the order triggers and your position closes automatically at the next available price. For short positions, the stop loss sits above entry.
In fast-moving or gapping markets, execution may occur at a price worse than the stop level — this is called slippage. During normal market hours for liquid instruments, slippage is usually small (0–2 pips on forex majors).
Types of Stop Loss
- Hard stop: A fixed price level that won't change once set. Most common and recommended for disciplined risk management.
- Trailing stop: Moves with price as the trade becomes profitable, locking in gains. Useful for trend trades where you want to let winners run.
- Mental stop: A price level you watch for manually — no actual order in the market. High risk: emotions often prevent you from pulling the trigger when you should.
- ATR-based stop: Set at a distance of 1–2× the 14-period ATR. Adapts to current volatility automatically.
Where to Place a Stop Loss
Place stops at levels where the trade thesis is invalidated — below a support level for a long, above a resistance level for a short. If price reaches your stop, it means the setup you identified no longer exists. The stop is not an arbitrary risk limit; it's a signal that you were wrong.
Avoid placing stops at round numbers ($50, $100, $1.00) — these are obvious levels where other traders cluster orders, making stop runs more likely. Place yours a few points or pips beyond the obvious level.