How to Stay in a Risk Defined Trade: AMZN

AMZN tanked on earnings down to a Support level I liked for a long trade. I talked about the Support level and drew up the trade during my Livestream last Friday.

This morning's price action breached the Earnings low and I was made aware by an alert. It did not trigger my Stop Loss though. A lot of new traders may try to play bottoms such as this but not have clearly defined risk. This can prove disastrous if price does break the level and continues to move against the trade.

One way that a trader can define their risk is to use a multiple of Average True Range (ATR). ATR is a measure of the average range of a user defined number of bars in history. It is a great tool for assessing the volatility of the instrument being traded as it will be relative and responsive to the specific instrument. An instrument that moves in a tight range for a period of time will have a low ATR and an instrument that moves a lot will have a high ATR. If the instrument experiences a price movement that exceeds the recent ATR it can often signal a significant change.

Using ATR for setting Stop Losses defines the risk at the start of the trade so that the position size can be calculated and standardized. Rules such as this are important for standardizing a strategy and making it consistently profitable.

In the example of Amazon I used a Stop Loss that was set 65% of ATR below the Earnings Low. This allowed price to do a false breakout of the low but left enough space for the trade to remain active.