What is closing a position? A thorough explanation of open positions, forced liquidation, and rollover.

Author: Mitrade Analyst Updated on: 2024-01-04

You often hear terms like “hedging”, “unsettled”, “forced liquidation”, and “rollover”, but do you really know what they mean? Are you troubled by such questions? Don’t worry. Today, I will explain in detail the meanings and usages of these technical terms.

What is Closing Position?

Simply put, closing a position means to end a trade. If you no longer want to hold the stocks, futures, currencies, etc. you own, you sell or buy them back to realize profits or losses. This way, you no longer incur any risks or returns.

Closing positions and new orders: What's the difference?

Closing a position and opening a new order are antonyms. Opening a new order means starting a trade. You buy or sell something and hope that the price moves in your favor. However, at the point of placing a new order, you have not yet actually made a profit or incurred a loss; there is only potential. It is only after closing a position that it is determined whether you have won or lost.

For example, let's say you think Apple stock [AAPL] will go up, so you buy it. This is referred to as “holding a long position” or “taking a long position.”

You can continue to hold Apple shares as they are, or you can increase or decrease your position according to price fluctuations. However, as long as you still hold Apple shares, the position is not closed.

When I think that Apple stock has risen to a satisfactory price, or if I no longer want to bear the risk of a decline, I will sell all the stocks. This is what is called “liquidating a long position.”

Closing a position may sound simple, but it is actually very important. Only by closing a position can profit and loss be confirmed, and the return rate and risk-reward ratio can be calculated. Moreover, the timing and method of closing a position also affect trading results, so wise traders need to learn appropriate closing methods. Be careful not to close too early and miss out on gains, or to close too late and miss out on losses.

What is an Unsettled Position?

It refers to the state of not closing a trade and holding a position. For example, if you buy one [gold futures contract] and expect the gold price to rise, but it has not reached your expected price yet, you will continue to hold the contract and wait for the opportunity.

When should I place a new order or close a position?

New orders and closing positions are trading techniques used to earn profits or reduce losses in the stock market. However, one should not close positions recklessly. Otherwise, you may miss better opportunities or be betrayed by the market.

There are many reasons for placing a new order:

• Confident in market predictions and believe that prices will move in the direction I desire.
• I want to profit from market fluctuations
• I want to build a long-term investment portfolio and have sufficient funds and patience.
• I want to participate in special trading strategies such as arbitrage trading, hedging, and long-short strategies.

There are various reasons for closing positions:

• I want to use the money for other purposes (e.g., buying a new car) since I have made enough profit.
• I want to stop the bleeding since I have suffered enough losses (e.g., selling stocks)
• I want to reduce risk and no longer want to take risks (e.g., reduce the position by half)
• Need cash and can't wait any longer (e.g., rent payment)

The timing for closing a position depends on your expectations for the trade. Before placing a new order, set targets such as the target price, expected return, or acceptable loss. Once these targets are reached, you should consider closing the position.

However, it is not always possible to close your position at your own will. The market changes, and you need to respond flexibly.

• If the stock price plummets and there is insufficient margin, the brokerage may [forcefully close] the long position. In this case, there are no options.

• If stock prices soar and you have a short position, you may face the risk of a short selling trap (short squeeze). In this case, you may have to forcibly close your short position. This is also unavoidable.

Therefore, hedging is not a simple matter. You need to make decisions based on your own strategy, risk tolerance, and market conditions. Set your goals at the point of preparing new orders, and also set your stop-loss points.

What is Forced Liquidation?

Forced liquidation generally occurs in futures trading and leveraged trading. This is because it is necessary to borrow funds (using leverage) to amplify profits, and trades can be initiated with a small amount of margin.

When the market moves in an unfavorable direction, investors face the risk of losses exceeding their principal, and exchanges or brokers may require additional margin. If this cannot be met, forced liquidation, that is, forced loss-cutting, will occur.

If investors fail to meet margin requirements in response to market fluctuations, they will be liquidated by the platform.

Forced liquidation is a very painful experience for investors. Not only can they lose all their principal, but they may even incur debts. Therefore, investors who utilize leveraged trading must possess sufficient risk management skills and set stop-loss and take-profit points to avoid the possibility of forced liquidation. It is also important to pay attention to market changes and timely adjust trading strategies and expected returns.

Of course, if you do not want to take risks, you also have the option of not using leverage or using only a very low leverage ratio.

What is a rollover?

Rollover is a concept specific to futures trading, which involves switching a held contract to another contract with a different expiration date. For example, if you bought a gold futures contract expiring in December but later determine that the market demand in December is weak and that there is a possibility of a decline in gold prices, you can roll over and exchange the December contract for a contract expiring in January of the following year, thereby extending the trading period.

If you are only trading stocks and foreign exchange, there is no rollover, and it is sufficient to understand only the concepts of closing positions, open positions, and forced liquidation.

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It was only after I actually started trading that I felt the difficulty of timing when to close positions. What seems simple in theory can become difficult when emotions are involved, leading to irrational decisions. Especially when I'm making a profit, I might get greedy thinking, “It might go up a bit more,” and end up losing, or on the contrary, I might close my profits too early and miss out on a big opportunity… But this experience has shaped my current trading style.

The last thing to say is that the decision to close positions should align with your personality and investment goals. If you are a short-term trader, you should secure small profits frequently, while long-term investors need to be prepared to endure larger fluctuations.