What is Forex Stop Hunting?
Stop hunting, at the name suggests refers to the phenomenon when price reverses sharply (usually resulting in a long wick). This sudden and sharp movement occurs usually when some important economic news is released.
Stop hunting happens when a lot of traders’ orders are liquidated. In most cases, these are the stop loss orders. Whether a trader is long or short, stop hunting happens when then stop loss order is hit and soon after the trade moves in the opposite positions.
Forex stop hunting is obviously the most despised event that retail traders wish not to talk about. There are also numerous conspiracy theories surrounding the forex stop hunting. However, the fact remains that given the way the markets behave, stop hunting is often a common behavior.
There is also a reasonable explanation behind forex stop hunting, which is something we will explore in this article.
How does forex stop hunting work?
Let’s say you were in a long position in EURUSD. You have set your stop loss order and you have also defined your target profit level. With forex stop hunting, the trade is triggered but price falls sharply and hits your stop loss order.
This can happen within just a few pips of difference and soon enough, price reverses back and moves in direction that you were anticipating.
This triggering of the stop loss order before moving in the expected direction is what is known as stop loss hunting.
Let’s take a look at the chart below.
Here, we have a EURUSD chart with a long position. The entry price is 1.15282, the stop loss is 1.14852 and the target is 1.16343.
You can see how price initially dips to 1.15282 to trigger the long position. Then after a couple of sessions, price action continues to drop below the entry price. Eventually your stop loss is hit. You can see how price dips to 1.1479, which is a 6.2 pip decline below the stop loss price.
However, price quickly pulls back and rises. So now, you are out of your trade but the market continues to move higher and eventually does break beyond your take profit level that you intended.
Forex stop hunting example 1
This is forex stop hunting at its best.
Most of the times, forex stop hunting can be seen with the candlesticks itself. Typically, the candlesticks with large wicks are easy to stop. This is where you can see forex stop hunting at its best. Price posts a sharp gain or decline, only to pull back but not before hitting the stop loss orders.
Another example of this phenomenon is shown in the next chart.
Forex stop hunting example 2
In the above example 2, one would typically be long on the market given the strong uptrend. Yet you can see how forex stop hunting works as price falls below 1.13097 but only to pullback. Despite the candlestick staying bearish, price action continues to push higher.
This phenomenon would have caught out quite a few traders’ stop loss levels before moving in the opposite direction. Forex stop hunting can occur for both long and short positions. Typically round numbers are a good level for stop hunting to occur as it is widely known that most traders set their take profit or stop loss levels near or at the round numbers.
Why does forex stop hunting occur?
The common prevailing idea is that forex stop hunting occurs because of the broker. Others argue that these are institutional traders who are hunting for the stop orders. There are no genuine facts to back up the claims.
Forex stop hunting can occur for a number of reasons. For starters, stop hunting is usually associated with some news or an event that evokes a sharp reaction from the markets. In such cases, the spreads tend to widen and as a result the stops are triggered.
In other cases, the markets can simply chop around until all the stops are hit before reversing direction. Many traders tend to make the mistake of setting their stop loss at a very tight level not giving their trade enough room to breathe. In other cases, the traders simply get unlucky, especially if they set their stop loss at some round number.
Failure to admit one’s mistakes or to learn from it has led to the myth that forex stop hunting occurs because of some large institutional player or because a forex broker is playing tricks.
While forex stop hunting phenomenon is something that occurs on a daily basis, a careful investigation reveals that this is a commonly occurring scenario. For traders who wish to avoid forex stop hunting, simply stop trading before or right after a news event is released.
This will ensure better success with your trade once the markets are settled and the trend is established.