Good forex traders always know when to cut their losses in the market. Cutting profits early and letting losses run on in anticipation of recovery is the mistake made by many novice traders.
Detecting Bad Trades
To cut forex losses, traders should know how to detect a bad trade and be able to exit from that trade, without any emotions. A trade which is nearing a reversal point is a sign that the trade is a bad one. This trade would include the sign of having a long order placed at pivot or psychological resistance. It may also be a short order which is too close to pivot or psychological support.
If a reversal candlestick appears in the trading pattern, it indicates that the trade may be a bad one. Even a piece of news which swings the price of the currency pair being traded, to a direction contrary to open positions, can indicate a bad trade. If the currency you are trading with is losing consistently with regard to most currencies, then this can also be the sign of a bad trade.
Taking Action on Bad Trades
After detecting a bad trade, you should take the step of exiting that trade. Close the trade immediately to cut your losses. Additionally, do not try and recover your losses through other trades very quickly; as this is likely to result in impulsive decisions leading to more bad trades. You should assess the extent of your losses, and attempt to recover those only when the market is showing a good opportunity.
You should also devise an exit strategy for every bad trade. This could include setting an amount on every trade till which you will stay invested. It could also be a percentage retracement method i.e. that you set a fixed percentage of your total account and exit the trade if losses are at that level.
Placing a stop loss at times when traders feel that the market is changing is a common exit strategy as well. In an uptrend, many traders place their stop loss below the latest swing low. In a downtrend,they place their stop loss below the latest swing high.
Other traders place stops when they detect areas of support and resistance for their trade. A fairly good exit strategy is employing the 2 period RSI. When the trade is in a long position and the RSI drops below the 70 line, it is time to exit the trade. For a trade in a short position, the ideal time to exit is when the RSI goes above the 30 line.
Some traders also devised an exit strategy based on fixed time periods. They stay invested in a trade for a particular time period only, and exit at the end of the trading day. The time period is also arrived at through thorough analysis of technical analysis tools and forex charts.
Successful traders always adhere to the rules that they have set for themselves in order to exit a trade. It is important that you too adhere to the rules you have set yourself for exiting a trade. You will see that your losses will be significantly cut.