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Forex Risks and Rewards

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Forex trading is a risky business. This note explains the Stop Loss and Take Profit orders. These are used for hedging your risks and rewards, realizing your profits and minimizing your losses.

Usually your broker places an automatic Stop Loss order on all your trades to prevent you from losing more than you’ve invested. If the rate of your open trade drops below what’s covered by your investment, the trade is closed by the automatic Stop Loss. This means the maximum amount you can lose on a trade is almost always limited to the initial investment of the trade.

Still, there is no reason why you should wait until you lose your entire investment to close the trade. By setting a Stop Loss order you make sure that the value of your trade doesn’t drop below a certain level. This way you control the maximum amount that you are willing to lose on a trade, without having to monitor each trade around the clock.

Take Profit orders are similar to stop loss orders, only referring to profits. Take Profit orders make sure that once your trade reaches a certain level of profit it will be closed. For instance, imagine that you’ve opened a Long EUR/USD trade for at the rate of 1.5400. After a few hours the rate rises to 1.5500, but an hour later drops to 1.5300. Without a Take Profit order, you might miss the rise in the rate, and end up with a loss on your hands.

If you had set a Take Profit order, the potential profit of the trade would have been realized, without you having to monitor the trade around the clock.

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