Stop Loss - A Surefire Way To Improve Your Profits

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How to calculate a trailing stop loss (part 2)

The method behind this madness is that you’re allowing a stock, once it’s in profit, a little bit more room to move. Sure you’re limiting your risk at the beginning of the trade by keeping a tighter stop loss; however you’re going to become risk seeking in a profitable situation. That is to say you’ll have more risk once you’re already in profit.

Personally, I think this is one way of taking a step further than most people do when adhering to those two cardinal rules of trading. That is let your profits run and cut your losses short because you’re keeping the losses small but you’re letting the profits run by taking on more risk when you’re already in profit.

With this strategy, I also mix and match my stop loss methods. For example, for one of my trend following systems, I set a two and a half ATR initial stop loss, and my trailing stop loss is calculated using a completely different method. I use what’s known as the lowest low stop. The way this stop loss works is I simply find the lowest low in the last X number of periods. Now, for that trend following system, I actually find the lowest low in the last 40 days. I then position my stop loss one cent below this low. Where I find this stop effective, is it’s almost as though it’s consulting the price action itself, and by identifying where the lowest low is. Many times my stop is set one cent below a support line.

So, when in action, the way this trailing stop loss works is as a new trading day is added to the chart, one of the old days drop off. I then find the lowest low in the last 40 days, and reposition my stop at that point. I find this stop to be fantastically effective and it may be a stop loss that you look at testing.

Before you go looking for that perfect trailing stop loss, realize that it’s very much like the initial stop. There is no perfect stop that’s going to get you out and save you the most profit. Sometimes it’ll work for you. Other times it won’t. In fact, the real key and the real secret of having a stop loss and an initial stop in place is that it’s not how you calculate it, rather it’s just having one in place.

You need to find an initial and trailing stop loss that you’re comfortable with. You understand how it works and it makes sense to you. So, how do you find a stop loss that you’re comfortable with? Really simply, you checked a whole lot of charts of stocks that you’ve been looking to trade, marking where you would receive and entry signal, and then marking various initial stops and trialing stop losses. Progress through the trade, revaluing your trailing stop loss and seeing which one works the best and makes most sense to you.

What I find works best at this point in time is to design a system with simple stop loss concepts. Simplicity seems to work best because it’s based upon the understanding rather than optimization. If you can come up with a generalized, simple concept, that will be able to be applied across a number of markets in trading instruments.

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