It’s unbelievable, but many people don’t actually use forex exit strategies in their forex trading systems. If you had to break a system down to it’s various components, most traders will argue that the most important parts of a forex trading system, or any other kind of trading system for that matter, are its exit strategy and its money management.
Of course, the other parts of a system are also important, such as the entry rules, the instruments that are traded, and the time frames that are used, but the exit strategy in particular can really determine the overall success of a system.
What we’re going to talk about in this article are the 5 things that you must know about forex exit strategies. If you understand these 5 points, you’ll be able to much more quickly pick up the rules and skills when learning a new forex trading system.
Here they are:
1. Trailing stops are one type of exit strategy used in forex trading systems.
Their main purpose is to protect profits. They do this in 2 ways. Firstly they allow enough “room to breathe” so that minor fluctuations in the currency price will not stop you out of the trade, and therefore “allow profits to run”. This is important.
Secondly, they’re trailed upwards in a long trade, therefore protecting your profits as the trade goes is your direction, but eventually exits you from the trade when the trade does go against you. In general, trailing stops do not go backwards (which for a long trade is back down), because if they did, they’ll no longer be protecting your profits.
2. Initial stops are also important in forex trading systems.
The purpose of the initial stop is to get you out of the trade if the trade goes in the wrong direction near the beginning of the trade.
In general, many systems have both an initial and trailing stops, but the trailing stop may not be known until later in the trade, when say a peak or trough has formed thereby causing the trailing stop to be placed. That is, in some systems a trailing stop is based on price movements, and these technical points may only be formed some time after the trade is entered.
An ideal initial stop should allow “room to breathe” as well, but not so large as to cause the risk in the trade (the difference between the entry price and the initial stop) to be too large. If the risk in the trade is too large, then the trade sizes will be very small (assuming that you’re using a fixed percentage risk model for your money management).
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