Controlling Risk – Stop Loss Orders

24
May

When people are trading stocks, then they will want to show some concern and regard for the possibility of risk. Most investors do not have the time and ability to sit around and keep an eye on their portfolio of stocks all day long, each and every trading day. Because of this, a type of order that can be set up to help manage risk on any stock that is traded is a stop loss order.

About Stop Loss Orders

In trading stocks, these stop loss order are perhaps the simplest and most effective means of limiting how badly one bleeds out on a given stock in which he or she has invested. For day traders and short term traders, this is particularly the case. Sadly, many people remain either ignorant or blatantly against employing a strategy of stop losses, even after they have been hammered by a rapidly declining stock in the past.

Stop losses are actually a special type of order set up for the future. They are conditional on a certain price being hit as the stock declines in value when a person owns a stock. These orders are placed below the present value of the stock. For a person who has shorted the stock, or bet on its going down, they are made condition on the stock rising in value against the person. Such stop loss orders would be placed above the present price of the stock in question.

Examples of Stop Loss Orders

As a real life example, a stock trader purchases a hundred shares of IBM stock at $100 per share. He or she has invested $10,000 in this stock. The person then decides that losing more than a thousand dollars in the value of the IBM stock would not be a good idea. This means that if the stock declines by $10 per share, down to $90, then the person would want to exit the stock trade. The individual is able to simply create a stop loss order with a stop loss at $90 per share.

When the IBM stock trades down to $90, then the order will be triggered. It is important for a stock trader who is new to stop loss orders to understand that this does not guarantee that the stock will be sold at exactly $90 per share. What actually happens at $90 is that the stop loss order will become a market sell order. The stock will be sold in the next trades at the then market price. On a high volume stock like IBM that is heavily traded, the vast majority of the time this stock will sell very close to $90 per share. But on other stocks that are more thinly traded, or that make significantly more volatile moves, the execution price could be below the stop loss order amount.

Benefits of Employing Stop Loss Orders

The greatest advantage to setting up stop loss orders on stocks lies in the peace of mind, convenience, and discipline that they provide. Once a stop loss order is in place, the investors do not have to be consumed all day with wondering how their stock is doing and if some terrible event has befallen the company, resulting in their position crashing and burning. Similarly, with a stop loss order in place, the individual is freed from feeling like it is necessary to be glued to the computer screen or financial network in order to follow the stock’s daily up and down progress. Finally, investing takes discipline and the removal of emotions in order to be successful. A person who believes in the stock that he or she has purchased will be less likely to actually pull the trigger and sell a losing position if he or she has to do it right in the heat of the stock’s decline. It is all too easy to simply watch and hope that it will come back. With a preset stop loss order, all emotions, such as fears, and hopes, are simply removed from the trade, as it becomes an automatically executed order based only on the conditions being met.

This post was written by

jason – who has written posts on Budget Clowns.
Father of three and married to a lovely women. Always looking for ways to save money, and invest it properly for my children's future.

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