Traders employ various methods to maximize profits and limit losses. How to set stop-loss orders and take-profit orders is an integral part of any trading strategy, helping you reduce exposure and make gains, as the case may be. This blog will educate you on the differences between the two approaches and how to use them effectively.
What is a stop-loss order?
Traders place stop-loss orders when they want to achieve one of the two things:
- Protect a portion of their unrealized profits on a coin’s position
- Limit risk of losses on an existing position
For both, these orders are placed on existing positions—buy or sell. A stop-loss order triggers a market order when a specified threshold is reached. For instance, if a stop-loss order is set at $15, a market order for sell (or buy) is automatically triggered when the price reaches $15.
Stop loss orders are usually set when trades are first executed, that is, when positions are first taken. For instance, an ADA trader could enter an order to buy 10 ADA at $0.5 each and set a stop-loss at $0.35 to limit further losses. When the price reaches $0.35, the ADA gets sold automatically, reducing exposure to any more dips.
Determining stop-loss order
Most traders set their stop-loss as a percentage of their buy price. At a stop-loss of 10%, for instance, a coin bought at $10 will have a stop-loss set at $9. Whenever the price goes to $9 or lower, the coin is sold, limiting further losses.
There is no rule of thumb to determine levels of stop-loss. Traders with lots of capital to lose could set it at 5%, while long-term investors with higher tolerance could have stop-loss at 15% or more. The amount of money you’re willing to (hypothetically) lose in the market completely depends on your investing style.
Stop-loss placement methods
While the percentage method described above is pretty straightforward, some also use support and resistance levels to determine stop-loss. For this, you need to determine the support level—the price range at which falling prices have often bounced back. Stop-loss, in this case, can be set just below the support level.
Other strategies include placing the stop-loss just below the moving average line or at everyday high/low levels. However, these techniques need advanced trading skills and not suited for the novice investor.
What to consider with stop-loss orders
Here are some things to keep in mind:
Stop-loss orders should be placed proactively: They could lose more money in the long term if placed willy-nilly without proper risk management.
These orders cost fees on exchanges: Make sure you’re not paying more by using this service on your platform.
Stop-loss may need to be changed regularly to keep up with market trends: It is not always a static order. Keep checking in with your positions.
What is a take-profit order (T/P)?
A take-profit order is similar to a stop-loss order as they’re both automatically triggered by the exchange. However, they serve different purposes. A take-profit order specifies the price at which an open position is closed for profit. If the price doesn’t reach the profit-taking threshold, the order remains pending.
Take-profit orders are often used in conjunction with stop-loss orders and are usually placed at the same time as them—during the opening of the position.
Example of take-profit order
If a trader opens a buy position at $100 and expects the coin to go to $117 in the next few days, he could set a take-profit order at $110 and a stop-loss order at $95. This way, while his profit is limited to $10, his loss is limited to $5 only.
Of course, these levels will differ depending on how much risk you can afford.
What are the advantages of stop loss/take profit?
Here are some advantages of these orders:
They help define your risk ratio: You know exactly where you need to exit in loss-making or profit-making circumstances.
The orders don’t usually need constant monitoring: While it is a good idea to keep track of your positions, stop-loss and take-profit orders minimize impromptu decisions during market dips or rallies.
They limit exposure to violent movements: When you have your tolerance range defined, violent movements aren’t as intimidating – which is saying a lot about crypto.
What types of orders can use stop loss and take profit?
Investors generally use a sell-stop order to add stop-loss to their positions. However, this can also be done using limit orders. The key difference to remember is that while limit orders will only execute when prices are at the specified number or below, stop loss can execute at a price point significantly below the specified price.
This usually happens in stock markets when prices on a new trading day open significantly lower than the closing price from the day before. Therefore, stop losses set the day before get filled at that price the next day, translating to unexpected losses for the trader.
How do I set take-profit and stop-loss on order form?
Stop-loss and Take-profit orders can be set using a Sell-Stop order on an exchange or even a limit order. We advise you to refer to the difference between the two above and make an informed choice.
Trading can be thrilling, but it can often trigger losses. Both these orders are meant to take the stress and impulse out of trading to make it hassle-free.
Can I set stop-loss and take profit at the same time?
Yes, of course. In fact, it is a standard practice to set them both at the same time.
Is it better to take profit or stop-loss?
Both these tools are incredibly useful in their own ways. While we recommend using both these orders for best results, you can also gauge market sentiment and use orders accordingly depending on expected price movements.
How do you calculate stop-loss and take profit targets?
There is no set number. Your stop-loss and take-profit targets depend on the risk you’re willing to take with your capital and the realistic profits you set for yourself.
What is the 2% stop loss rule?
The 2% stop-loss rule is a risk management strategy used in trading to limit potential losses. It involves setting your stop-loss order at a level where, if the trade moves against you, you would only lose a maximum of 2% of your total trading capital on that particular trade. This rule helps protect your overall capital and prevents significant losses from a single trade.
What is the 6% stop loss rule?
The 6% stop-loss rule is another risk management strategy used in trading. It involves setting your stop-loss order at a level where, if the trade moves against you, you would only lose a maximum of 6% of your total trading capital on that particular trade. Like the 2% rule, this strategy aims to protect your overall capital and limit potential losses from individual trades.