Divergence Trade Strategy (4) How to cut loss when you enter due to occurrence of divergence

Contents

Introduction
How to cut loss when you enter due to occurrence of divergence

Introduction

This is the 4th article about divergence trade strategy.

Divergence Trade Strategy (1) Difference between Regular Divergence and Hidden Divergence

Hidden divergence implies trend continuation, and Regular divergence implies trend reversal. The most important difference from viewpoint of trade strategy is that Regular divergence is used for counter trend, and Hidden divergence is used for trend follow.

Divergence Trade Strategy (2) How to avoid fake of divergence

How should we avoid the "fake" of divergence? We should Judge high probability to win by not only the occurrence of divergence but also other factors. Also, we should watch whether to exceed last high or fall below last low and pay attention to the price action until just before the entry.

Divergence Trade Strategy (3) Why we delay being aware of occurrence of divergence?

If we don't predict and wait for divergence, we will delay being aware of occurrence of divergence. Both regular divergence or hidden divergence, we analyze charts and indicators that are likely to occur divergence and create scenarios and wait.

In the articles I have written so far about hidden divergence, how to avoid fake of divergence, and how to predict and wait divergence.

However, there are still possibilities that the price goes opposite, and loss increase after your entry with judgement of high possibility to win.

Since trade is based on probability, we cannot make the win rate to 100%. Sometimes we lose.

In that case, if we judge the scenario was wrong, we have to make loss cut as suitable level, and prepare for next entry.

How to cut loss when you enter due to occurrence of divergence

The chart below is an example of a short (sell) entry aimed at trend reversal with the occurrence of regular divergence.

After confirming the occurrence of regular divergence, the next bar became the engulfing bearish candle. So, suppose we make a short (sell) entry at the next bar’s open price (blue dotted line).
In this example chart, the entry level has just become resistance line, and after four bars have passed, it has gone well, price fell, and profit increased.

However, if we didn’t take a profit, unfortunately, the reversal movement started, and unrealized loss increased.

In this case, we had profit at the beginning, so the loss cut is disappointing!
But, when we need to cut loss, we have to cut it.

So, in this case, how should we set loss cut line?

The loss cut line in this case is where the price exceeds previous high. (Red dotted line).

To avoid fake movement, it’s a good idea to set stop loss above the previous high by a few pips.

If price exceed the previous high, it is highly likely that the divergence itself has been denied, that is, the scenario that we drew has been denied. Therefore, it does not make sense to hold the positions anymore.

In the case above, there is a profit once after entry. At this point, if you raise the stop loss line to the entry point, even if price go opposite after that, the profit and loss is zero. I think it’s good to make a habit of moving the stop loss to the entry point when there is a certain level of profit.

Similarly, you can also think of a method of split exiting in which a certain percentage of the lot you entered when a certain amount of profit is gained.