To begin let’s clarify what a stop order is, this is the definition from www.sec.gov
A stop order is an order to buy or sell a stock once the price of the stock reaches a specified price, known as the stop price. When the specified price is reached, your stop order becomes a market order.
Buy Stop Order – Investors typically use a stop order when buying stock to limit a loss or protect a profit on short sales. The order is entered at a stop price that is always above the current market price.
Sell Stop Order – A sell stop order helps investors to avoid further losses or to protect a profit that exists if a stock price continues to drop. A stop order to sell is always placed below the current market price.
In this article I’m going to concentrate on sell-stop orders. When I buy a stock I already have a preset price where if I’m wrong I’m out of the position. After entering a position I immediately place a sell-stop order so that, if the stock falls below my predefined stop price the order automatically sells at market. For example, I buy a stock at $50. I notice that the support for the stock is at $45. Therefore, I place my stop a bit under $45, lets say $44.99. If the stock falls below support ($45) my sell-stop is triggered and I’m automatically out of the position. I walk away from the trade with a small loss and I live another day.
One of the biggest mistakes investors make is when they buy a stock, the price falls and they continue to hold onto the position hoping it will come back. In this business “hope” is a bad word, it’s denial that you made the wrong decision. You’re are better off cutting your losses quick and keeping the loss small.
Jason Martin, CFP & CMT
Good Risk Reward, Inc.
For professional investment advice on this topic contact:
Allgen Financial Services, Inc.
888.6ALLGEN (888) 625-5436