Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when trading spread bets and CFDs with this provider. You should consider whether you understand how spread bets and CFDs work, and whether you can afford to take the high risk of losing your money.
Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when trading spread bets and CFDs with this provider. You should consider whether you understand how spread bets and CFDs work, and whether you can afford to take the high risk of losing your money.

Using stops and limits to manage risk

Lesson 1 of 3

Using orders to control your trading

It can be hard not to involve emotions when you’re watching a position make or lose money – and emotions make your trading harder to control.

You might snatch a profit and miss out on further movement in your favour, or close a losing position too early only to miss a market rally. Or worse – leave a losing position open too long in the hope of a rebound, but end up incurring even greater losses. Likewise, jumping into a trade on a surging market, with little or no research and no defined plan, isn’t a good idea.

Tempting as it can be to react in the heat of the moment, enforcing some discipline in your trading is important. You can then develop a consistent trading strategy which will help you achieve a positive risk-to-reward ratio – winning more when you’re right than you lose when you’re wrong.

Using stop and limit orders is an easy way to lock in profits and guard against loss automatically, having your trades open or close at a logically predefined level and removing emotion. Ultimately, orders can help you achieve a risk-to-reward ratio that suits your trading strategy and goals.

You can set both stop and limit orders in the deal ticket of the IG trading platform. You set orders to close in the ‘deal’ tab, as shown below, and orders to open in the ‘order’ tab.

Using orders

Before every trade, you need to consider how you’re going to control your profit and loss. For instance, what risk-to-reward ratio do you want to achieve? A 1:2 ratio means you’ll be profitable even if you’re only right 50% of the time – we’ll be putting this into action later on in the course.

You should also think about the percentage of your trading capital you want to risk on each trade. 1% is sensible – we’ll look at why in the next lesson.

Once you’ve determined these, it’s easier to plan how you’re going to get in and out of the trade, to ensure you stay in control of your profit and loss.

It might seem obvious, but the best way of doing this is to use entry and closing orders.

Entry orders enable you to have positions automatically open when the market reaches a specific level. Useful if you’re speculating on a market trend, or support and resistance levels. You can set these in the ‘order’ tab of the deal ticket.

Closing orders enable you to lock in profits automatically at your target if a market is moving in your favour, or cap losses if the price moves against you. You can attach these to an entry order using the ‘stop’ and ‘limit’ fields in the ‘order’ tab, above. Or, you can attach them to a trade you’re about to open in the ‘deal’ tab of the ticket:

Stop and limit orders

Stops and limits are the most common types of order you can use to enter and exit positions.

Stops are an instruction to execute an order when the price of a market hits a specific level less favourable than the current market price.

So, if you were putting a stop to close on a long position, you’d place it lower than the current market price, while on a short position you’d put it higher than the current market price.

Limits, on the other hand, are an instruction to trade if the market price reaches a price more favourable than the current price. Meaning you’d place your limit to close above the market price on a long position, and below the market price on a short position.

Example

Let’s say you open a long position on the FTSE 100, trading at 6037.9, at £100 a point.

The government is due to make a Brexit statement later in the day. Based on your analysis of market trends following previous statements, you expect the FTSE to fall in the short term before rebounding.

You set a stop order at 6017.9, 20 points below the current market price, and a limit order at 6077.9, 40 points above the current price. So you can leave your position open to benefit from a rally, but know the maximum you can lose if the market does drop.

Working out whether you need a stop or limit can get confusing, especially when you’re going long on some positions and short on others. You can use this matrix of all the options to refer to:

Order Sentiment Open/close Market level Why?

Stop

Long

Close

Open

Below

Above

Limit loss

Trade upward trend

Short

Close

Open

Above

Below

Limit loss

Trade downward trend

Limit

Long

Close

Open

Above

Below

Take profit

Take support

Short

Below

Above

Take profit

Trade resistance

If you’re setting a stop or limit to enter a trade in the ‘order’ tab, the type of order will display automatically in the deal ticket – so you won’t be in any doubt.

Homework

Have a look at your open positions in the ‘positions’ panel of the platform – have you thought about how you’d exit these?

If you haven’t already got stops or limits in place on your open positions, think about where you could add some to pre-plan your exit. For instance, are there any positions which would put you at risk of losing more than 1% of your trading capital if the market moved suddenly against you?

You can add stops and limits to open positions easily in the ‘positions’ panel.

Lesson summary

  • It’s important not to let emotions adversely affect your trading
  • On every trade, your potential profit should outweigh the risk to your capital
  • You can use entry and closing orders to manage how you get in and out of trades
Lesson complete