What is a Stop Out Level And How to Avoid It

In a nutshell, a Stop Out is actually a trader's bankruptcy. It occurs when there is not enough capital in the account to maintain open trades, and the broker closes them forcibly. This unfortunate situation is caused not only by losing positions but primarily by inappropriate money management.

Today we will analyze why and under what conditions Stop Out occurs, and most importantly, how to avoid this situation.

Stop Out: What Is It?

We have already mentioned that Stop Out in simple terms is the process of automatically closing all positions on the trader's account at the moment when there are not enough free funds to maintain them.

To understand when this happens, it is necessary to understand the peculiarities of margin trading.

Suppose that you use 1:100 leverage. You want to open a trade on EUR/USD. One lot contains 100 000 units of the base currency (in our case it is the euro). At a quote of 1.1700, the trader needs to give $117,000 to buy, if he works without leverage. The amount is large, and not available to everyone. And with the leverage 1:100, it is necessary to pay 100 times less for the opening of the transaction - this is the broker's pledge - $1170 for the whole lot.

It seems financially successful, but the problem is that the risks increase at the same time.

What Is a Stop Out Level?

Every brokerage company that gives the possibility to trade with leverage actually gives the trader credit funds. But the company will not lose its own funds due to wrong trading decisions. That is why all losses come at the expense of the trader's own capital.

What is a Stop Out from a broker's side? It is a level at which the trader's funds are almost exhausted and there is nothing left to support negative trades. All positions are closed by force. To determine this point the margin level indicator is used. It can be calculated independently or seen in the trading terminal MetaTrader 4.

The critical depletion of deposit on the trading account is indicated by two indicators - Stop Out and Margin Call. The second of them is the level at which the company warns about the forthcoming Stop Out, but does not close the positions yet.

The Stop Out level is often set by the broker in the amount of 50%. And the formula of calculation looks like this:

• the trader has $1000 in the account;
• the leverage is 1:100;
• the trader buys the EUR/USD pair at 1.1700;
• position volume is 0.2 lots.

In this case, the following will be taken as a margin: $1170 * 0.2 = $234.

Free funds will amount to $1000 - $234 = $766.

The margin level, in this case, will be equal to 327%: 766 / 234*100 = 327.

327% is a safe margin level, but if the price goes against the open position, it will decrease, and when it reaches 50%, according to the broker's conditions, there will be a Stop Out.

Stop Out: Example of Calculation

At what level of loss on the trade the Stop Out level will occur? Let's continue calculations based on the example described above, remembering that the forced closing of positions occurs at a margin level of 50%.

Let's calculate the amount of allowable loss using the formula: amount on deposit - Stop Out level * amount of margin.

We have: $1000 - 50% * $234= $883

However, there can be more than one open position. It is quite difficult to calculate losses for all of them simultaneously, therefore it is better to be guided by the margin percentage that is displayed in the trading platform. A level higher of more than 300% is considered safe - then you can be sure that you are covered.

What Causes a Stop Out

What trading situations can cause a Stop Out to trigger? In fact, it happens when the price goes against you, but that alone is not enough. A critical level of loss can be reached if:

• Losses on trades are not limited - there is no Stop Loss. In this case, the situation can get out of control at any moment;
• Stop Losses are placed, but there are too many open trades. This means that your money management is calculated incorrectly;
• The allowable volume of the lot is exceeded. Even with a correct entry point, earnings potential, and a set Stop- Loss, the Stop Out level may occur before the price reaches the risk limiter.

How to Avoid a Stop Out

A trader needs to understand the mechanism that causes a Stop Out to trigger. It is even more important to understand how to avoid it. After all, a trader's first task is to learn not to lose funds on the market.

The way to avoid losses is simple, but not easy. A trader needs to keep control in three main directions:

• The mathematical expectation of the trading strategy;
• Risk management;
• Money management system.

And that means that before you start trading, you need maximum clarity on each of them, you need to make all calculations and understand what risks you can afford.

Let's break it down in order.

The mathematical expectation shows what will be the yield of your strategy over the long term (quarter, year). You have to test the strategy and make sure that it is income potential. If you do not know how to do this, you need to fill in the gaps, take training or seek help from experts.

Risk management allows you to manage risk in the market. It should include:

• the Stop Loss level (you do remember that a stop should always be in place!);
• maximum allowed number of losing trades per day, per week;
• insurance against emotional decisions.

A money management system means, what volume you will place orders, what ratio of Stop Loss and Take Profit is acceptable in your trading strategy, and under what conditions you can increase trade positions.

All three areas should be taken into account in the trading algorithm and prescribed in the checklist for opening a position.

Summary

The first thing a trader must learn is not to lose capital on the market. The inability to control losses will lead to trading bankruptcy, that is, the onset of a Margin Call and Stop Out.

• A Margin Call is a warning from your broker that open trades will soon be closed automatically if you incur further losses. The margin level at which this occurs is specified in the conditions of the brokerage company;
• Stop Out (can occur at a margin level of 50%) is a forced closing of positions.

You can avoid the occurrence of these two events by placing Stop Losses, selecting the correct volume of entering a position, and controlling the level of margin in the trading platform.

If you notice that you are constantly approaching dangerous numbers in the "Level" column, close all trades and find the mistakes that lead you down this slippery slope.

About AdroFx

Established in 2018, AdroFx is known for its high technology and its ability to deliver high-quality brokerage services in more than 200 countries around the world.  AdroFx makes every effort to keep its customers satisfied and to meet all the trading needs of any trader. With the five types of trading accounts, we have all it takes to fit any traders` needs and styles. The company provides access to 115+ trading instruments, including currencies, metals, stocks, and cryptocurrencies, which make it possible to make the most out of trading on the financial markets. Considering all the above, AdroFx is the perfect variant for anyone who doesn't settle for less than the best.