What is a Stop Loss in Trading?
A stop loss is a pending order that automatically closes your position when the price reaches a specified level, limiting your maximum loss on that trade.
How It Works
When you enter a buy trade, your stop loss sits below your entry price. When you enter a sell trade, it sits above. If the market reaches your stop loss level, the position closes automatically. You don't need to be watching the screen. Stop losses are not guaranteed to execute at your exact price. During high volatility or gaps (common over weekends), slippage can cause your stop to fill at a worse price than specified. Some brokers offer guaranteed stop losses for an additional cost. The distance of your stop loss (in pips) combined with your lot size determines the dollar amount at risk. This is where position sizing starts.
Why It Matters
A stop loss turns a potentially unlimited loss into a known, bounded risk. Without one, a single adverse move can wipe out weeks or months of gains. Disciplined traders decide the maximum they're willing to lose before entering, not after.
Common Mistake
Moving a stop loss further away to 'give the trade more room' after it starts going against you. This changes the original risk calculation and turns a planned loss into an unplanned one.
Example
You buy EUR/USD at 1.1050 with a stop loss at 1.1025 (25 pips below). If the trade goes against you, the position closes automatically at 1.1025. On a 0.5-lot position, your maximum loss is roughly $125.
Stoic Insight
Epictetus: 'Make the best use of what is in your power, and take the rest as it happens.' A stop loss is the line between what you've decided and what the market decides. Moving it after the fact surrenders the one thing that was in your control.
Related Terms
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