Today we're going to look at how you can potentially reduce losses and improve your return by managing your stop loss's price.What is it?
Bumping your stop loss to entry is when you edit your stop loss price to the price you entered the trade at after your trade moves some distance into the positive. It is also commonly referred to as "moving your stop loss to breakeven".Pros Reduce your losses Lock in your gains Cons Increased chance of being stopped out Why is it so appealing?
Traders love the idea of eliminating risk. Being able to avoid suffering a loss seems to be hard-wired into our brains. In fact, the bias of loss aversion is so strong that people tend to favour reducing losses roughly 2x higher than the equivalent gains.What does the math say? Volatility
From statistics there are Type I and Type II errors, more commonly known as false-positive and false-negatives. What this means for traders is that the closer the stop loss is to the current price, the higher the probability that it is hit by a random fluctuation in price. The tradeoff here is that the further it is placed from the price the larger the loss if the decrease in price is a legitimate trend, and not just random noise.
When choosing a stop loss in the first place, it will be chosen at a value that strikes a nice balance. So when deciding to bump a stop loss to entry, that balance should be maintained. A simple way to do this is just keeping the same deviation. Ie) if the stop loss was -10%, then it will be bumped to entry when the current price hits +10%. Another, slightly more precise, way to do this is to use the standard deviation indicator (or an indicator which captures this, such as bollinger bands).ROI
Given that locking in gains and reducing losses is a key component of turning a positive ROI, it's worth looking at how different combinations of target and stop loss prices play out.
Scenario 1. Let's look a...