I can’t stress it enough – risk management is everything in trading. Part of managing risk in both legacy markets and cryptocurrency is properly using stop losses. I have done the heavy lifting and made countless mistakes while trading and paid my dues so you don’t have to. Below are my Do’s and Dont’s of stop losses.

Always trade with a stop loss

Beginning traders tend to trade emotionally, which manifests in refusing to quickly accept losses. The most essential skill that a trader must possess is the ability to accept a loss and move on to the next trade. Failure to do this is the main reason traders lose money. Set a stop loss, and do not move it when the trade goes against you, as this behavior is likely to blow up your account.

Move stop loss into profit

I ALMOST ALWAYS move my stop losses into profit when a trade goes my way to assure that I lock in some gains and avoid a loss on a potentially profitable trade. This is especially true in the crypto market (although legacy markets look the same now), where a sudden move in Bitcoin can quickly destroy an altcoin setup. Most crypto exchanges do not offer a full breadth of orders – they only have a simple stop market/limit and take profit orders. A “real” exchange usually has OCO orders (one cancels the others). This means that you have the luxury of both setting a stop loss and a take profit order on a position – and when one fires, the other is canceled.

How do I set up a stop loss and take profit order?

Legacy traders have the benefit of placing both stop losses and take profit orders, as well as trailing stops. Trades require less babysitting and management. In crypto, exchanges often lack the full breadth of orders necessary to properly manage risk, especially in a market that never closes.

Experienced crypto traders can share countless stories about missing a huge pump while they were sleeping because they had their downside protected with a stop loss and were unable to set sell orders at their targets. Traders should never have to choose between taking profit and properly managing their risk.

As a trader, don’t add to a losing position or lower stop loss

Traders have defined levels of risk and invalidation for their trades. When their stop loss hits, the trade has been invalidated and they should move on to another asset. Period. Investing is different from trading! Investors average down positions in fundamentally sound assets with a long time horizon. Never average down as a trader or continue to lower stop loss in fear of being cashed out.

Your stop loss and invalidation point determine your position size

I only trade with 15% of my portfolio. Of that 15%, I only assume 1-2% risk on a trade. This does NOT MEAN (people have been confused) that I set a stop loss 2% below my entry. It means that I risk 1-2% of the 15% that I trade with, which depending on position size can be a much larger loss on the individual trade. Here’s a simple example.

Let’s say my entire portfolio is 100K. That means I have 70K investments, 15K cash, and 15K to trade with. If this is the case, I can lose $150-$300 on a given trade, which amounts to 1-2% of my 15K trading stack. If I see a trade that I want to enter, and the appropriate stop loss is 10% below my entry, then I back-calculate my position size against my portfolio to reflect this. If I want to risk 1%, then I take a $1,500 position on the trade – I can afford to lose 10% on that trade, which amounts to $150 or 1% of my trading portfolio. If I see a trade that has an invalidation and stop loss 1% below my entry (this is rare but good for illustration), then I can take a 15K position – my entire trading stack. Your STOP LOSS and invalidation determine your position size. This is the MOST IMPORTANT part of trading. Appropriate position size based on your invalidation. If you can simply manage this and then NOT MESS WITH THE TRADE BY MOVING YOUR STOP, then you are likely to be successful.

Your stop loss is a whale’s entry

I read a tweet that made a similar observation about trading – if you can’t spot the liquidity in the market, you are the liquidity.

Have you ever experienced the following scenarios?

You identify a trade, set your stop loss, and take profit, and wait to see it play out. You set your stop loss below a support level, demand area, or Fib level. Price drops down to your stop, triggers, and immediately goes the other way. Your trade idea was correct, but your stop loss was slightly too tight. Why does this happen? You have placed your stop loss in a liquidity pool, which a whale has identified as an area that they can likely fill their order. Your stop loss is a sell order – they need sell orders to buy en masse to fill their large bids.

They are “hunting your stop,” “sweeping the lows” or whatever other euphemism is used for this phenomenon. In the same area that you have placed your stop, others have placed their shorts – support is “breaking” and they want to get in line with the new downtrend. Your stops and their shorts = liquidity for buy orders.

Think like a whale

Widen your stop loss and take smaller positions. It’s not rocket science, but giving your position a bit more breathing room, placing that stop a bit lower is likely to save you from this error. You will still get stop hunted; it will happen sometimes. But trading with more of a margin for error and a looser stop will save you a ton of money in the long run.