One of the key things you must realise when Spread Trading is that it can be very risky. Trading with leverage can result in losses that can grow quickly if a position goes against you.
If you are to maintain profitability as a trader you need to be able to manage your risk. In order to do so you need to use stop losses effectively.
A stop loss is an order you can attach to an open position, or a trade order you want to place, that will automatically close your position if that level is reached. These are designed to prevent you losing more than you are prepared to should a trade go against you.
An example: You buy the UK100 index at 5750 as you think there is good support and that it could rally towards 5900. You want to trade £5 a point, but you also feel that should the FTSE 100 fall below 5700 you want to close your position.
So you set a stop loss order at 5690, which is 60 points away and your risk is now capped to 60 points X your stake of £5 a point, or £300 in total. Now should the FTSE fall over the next few days to 5700 and then to 5690, your position is automatically closed for a loss of £300.
There may be occasions when a market ‘gaps’ against you though, when a product, say an equity, that doesn’t trade overnight opens below where your stop loss was placed. This may result in you losing more than you had intended to. This is why it is recommended that for added security you place a ‘Guaranteed Stop’ on your position.
There is a small fee for having a Guaranteed Stop on your position, but it adds complete security of knowing that you will never lose more than the stop level you have selected.
On the other side, you may want to set a Take Profit Order or a Limit Order, to close a position that has reached your profit target – you can’t always be watching your trade during a trading day!
So let’s take the example above again - you buy £5 a point of the UK100 at 5750 and you think it will reach 5900 before stalling. You therefore set a Take Profit Order at 5890, to close the position at a profit automatically, should it get there. Now should the FTSE rally to 5890, your position is closed for a 140 point profit at £5 a point, netting you a total profit of £700 on the trade.
So make sure you use these tools available in the Spread Co trading platforms to help you control your risk and maximise your profits.