Those who have only traded on a retail level with an online broker will find it interesting to see the difference between how banks treat stops for their customers and the way online platforms treat them. This was a big adjustment for me coming from the institutional side. It is something you should be aware of as you should be aware of. can have an impact on trading.
The difference between how banks and online brokers treat stops
- A bank triggers a stop when the market trades at that price and then goes bid or offered there depending on whether it is a buy or sell stop. For example, a buy stop would get triggered when the stop price trades and then goes bid there. Vice versa for a sell stop.
- By contrast, online brokers execute a buy stop when their offer is at the stop price and a sell stop when their bid is at the stop price. The wider the spread the easier it is to get stopped when the price gets close to a stop even if the market never actually trades there. The explanation for this is that an electronic platform can only execute a buy order (e.g. a buy stop) at the offered price quoted and a sell order (e.g. sell stop) at its bid price. This gives a big advantage to the online broker as it can execute a stop before the market trades there.
Why does this matter?
I can answer that with a question. Have you ever gotten stopped out of a position by a fraction of a pip even though the market never actually traded at the price? It has happened to me and I am sure it has happened to you as well.
There is also the risk of getting stopped by a widening spread. This can occur when the day switches to a new day after 5 PM NY time as well as after a news event when spreads tend to widen
How should a trader place stops?
- Trade with a tighter spread plus commission. This would reduce the risk of getting stopped by the spread in normal trading conditions.
- Only get stopped if the market trades at your price. , For example, if a retail trader is looking to exit a position only if EURUSD 1.0925 trades, the stop should be placed below that level adjusting for the spread (if the spread is 1 pip, the stop should be placed at 1.3504. . This is not an issue for stops placed with a bank.
- Be aware that bid=offered spreads will likely widen when the trading day crosses over time and on reaction to key news events. This poses a dilemma for a trader given the risk of being stopped out on a widening spread. This is a hard one to suggest a solution and I would like to hear how you treat this situation since…whatever the case you should always trade with a stop!
Jay Meisler, co-founder, global-view.com
jay@global-view.com
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