Stop Loss to make money and win

The Stock Markets are unique and full of uncertainty. In real-time the markets are complex, but after the fact everything looks simple. It’s this dichotomy that tricks many into thinking that there is easy money in the stock market. That’s where Stop Loss comes in.

As an investor or a trader you can hope for a stock to go up or down, but you can’t control it. Stock market is a collective reflection of thousands and millions of participants and no single entity has any control over it. You are dealing with geopolitical, environmental, financial, technical, human and many other uncontrollable factors every single day.

You control the following:

  1. Which stock to buy?
  2. When to buy and quantity?
  3. What price?
  4. When to sell?

Almost everyone is good at the first three steps. It’s the “when to sell” that’s hardest in the stock market. If the stock has moved in your desired direction then selling is somewhat easy.

So, lets focus on when the stock has moved in the opposite direction and there is a loss. Many of us are reluctant to sell and close the position when there is a loss. Even if it’s is a small loss, it’s against the human nature to accept defeat. Often times a small loss turns into a major setback – both emotionally and financially.

The problem is the missing Stop Loss strategy in investing. Solution is right in front of us but we don’t use it.

Winners use Stop Loss.

The deeper the losses the longer it takes recover to get back to break-even. Let’s say you have a $100 stock and you sell it at 5% loss ($5). Now you are left with $95 capital. If you recover just 5% on your next trade you are at an overall loss i.e. $95*5% = $99.75. Therefore, you will need to recover 5.26% to break-even i.e. $95*5.26% = $100.

Loss Recover to break-even
5% 5.26%
10% 11.11%
15% 17.64%
20% 25%
40% 66.67%
50% 100%
70% 233.33%
80% 400%

The table above highlights the effort required to break-even. To stop the situation getting out of control, it’s important that you enter stop order as soon as the position is filled. Think of this stop order as an insurance to protect you in case the trade goes against you. If your stop loss order is triggered, 1) you are protected from deeper losses and 2) you now have the capital available for other trades.

Types of Stop Loss orders

Conclusion

  • Cut your losses sooner rather than later. The deeper the losses, the longer and harder it gets to recover.
  • Select stop price within the range provided in the stock pick alert.
  • Always enter stop loss order immediately after the position is filled.
  • Honor the stop loss. Only then you’ll find the next trading opportunity.
  • Watch your trade and narrow the stop loss as the trade starts moving in your direction.
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