There are a few types of stop orders in the foreign exchange market. Stop orders can be used to convert money at preset rates to minimize currency exposure.
Using a Stop as an Entry
A stop entry would be used if you expect the currency rate to move in your favour and are prepared to risk a little bit for that to happen.
Example: If you needed to convert £100,000 into USD for a purchase in a weeks time. The current rate was 1.50 you would receive USD 150,000 at the currency rate.
However, you feel the rate may improve and go up to 1.55. If it did you would receive USD 155,000 (an additional $5,000).
The danger of waiting for an exchange rate to reach your predicted level is that it may in fact move against you in that time and drop to 1.45. Meaning that when you sell your £100,000 you only get $145,000.
By using a stop entry order you can limit your downside risk, while still allowing for any upside potential before converting funds. By placing a stop entry order at 1.49 you would be using the time available before you need funds to see if the price improves. You would also be protecting your downside with the stop so if the currency price went against you to 1.45 the conversion would be done at 1.49.
In this example using a stop entry order you would be risking $1,000 on the downside to potential gain $5,000 if the currency rate hit your target.
You could also use a limit order to do the conversion at your target rate of 1.55.
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Richard started the Good Broker Guide in 2015 and has been a broker for 20 years most recently at Investors Intelligence and previously a multi-asset derivatives broker at MF Global (Man Financial). Richard started his career working as a private client stockbroker at Walker Crips and Phillip Securities (now King and Shaxson) after interning on the NYMEX oil trading floor in New York and London IPE in 2001 & 2000.