Wide Stop Losses - An Alien Concept
Why Wide Stop Losses Work
OK, let me begin by saying i know what you're thinking.... is this guy CRAZY???.... how can he possibly be advocating the use of wide stop losses - does this guy know ANYTHING about risk or capital protection.
So now that I know what you're thinking and we've got your disbelief out in the open - please allow me to explain myself and let me ask you a question..........
How many times have you entered into a trade and then the price has immediately gone against you - and the inevitable sell order / stop loss is hit before the price then advances in the direction of the trend that you expected it to - it's frustrating isn't it?
When answering that question - most Traders will explain the same frustration - and most traders will clench their fists at the number of times this has happened to them - I know this - because I've been there MANY TIMES - and i too still clench my fists at the distant memory.... so to those reading this that it still happens to, please let me explain, and before I do so, please just be open to the idea of what I'm about to say - because I do realize it's an alien concept to most of you Day / Swing Traders and it might take a bit of time to get your head around it.
Firstly... when applying the wide Stop loss rule.... it goes without saying that pinpointing a good entry into the market is critical (this is a separate subject matter which I won't get into here) - but once you have a good entry - the last thing you want to do is be stopped out of an Excellent Linear Trending Stock because you had a tight stop loss - because the second you place your trade - the algos pick it up and the market sees you coming with your small position - and they pull out ALL of the stops to steal your shares for a lower price.
Shaking Out the Weak Hands
The industry term is called "Tree Shaking" but you can also think of it as the market shaking out all the weak hands and manipulating the price of the stock (selling thousands of shares to drive price down - then buying back thousands of shares + your small stake at a lower price (which then pushes price back up). Tree Shaking is the most frustrating aspect to trading - and the only way to eliminate this happening to you - is by having a wide stop loss.
If you are taking long term positions on stocks - a couple of swings to the wrong side of your trade isn't really a big problem if you pick the correct stock - the Trend will generally continue on its path - and by eliminating being pushed out of a successful trade - you are actually enhancing your odds of generating profit in the longer term provided you are allocating the correct amount of risk for each and every position that you take.
The key to successful trading is riding the trend ALL the way to the end - and this includes walking through the fire and dealing with the wild swings in price (as we all know the natural movement of price is NOT straight up) - it goes up, it goes down, it moves sideways and ultimately price will go where it wants to go.
I am not saying that you won't have casualties along the way but the wide stop loss approach has aided me A LOT more than it has hindered me and in order to see the big returns - you need to understand that the odds are more in your favor by avoiding the Tree Shaking (which only results in losses).
Needless to say - finding the correct stock for this approach is critical and that is why you must use this approach with Good / Excellent Linear trends that are well established and you must also have an understanding of WHERE to place your stop loss coupled with a deep understanding of Support & Resistance... there obviously comes a time where you simply say you got it wrong... but a well placed stop loss should be factored in when calculating your overall risk and IF you get it wrong - you should NOT lose more than 2% of your overall account in any 1 trade.
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