Last Updated on Mar 30, 2020 by James W
An important term to know, and also learn how to apply when you’re involved in the world of finance, and more specifically, stock trading, is the stop-loss order. A stop-loss order is designed to provide a level of security for the trader because it’s an order given to a broker that automatically triggers a sell of a particular security if it reaches a pre-determined price.
As well as triggering a sell when a stock dips below a certain level, it can also be used with long positions. In this case, it would be applied if a stock trades above a certain price.
As an example, if a trader earns shares of a tech company, but they want to protect themselves against a potentially significant decline in the price of those shares, they could issue a stop-loss order to sell these holdings at a certain threshold. The shares are then sold at the next available price.
While they can be useful, stop-loss orders can also be difficult to use, and highly experienced investors do not always favor them.
For investors considering their use, below are four essential tips to consider:
They’re Not Ideal for Active Trading
If you’re an active trader or even just getting started with day trading, it’s not really advisable to use stop-loss orders at all. It doesn’t make much sense since the very nature of active trading indicates you’re constantly watching the market and your shares, rendering a stop-loss order useless.
Double-Check for Success
A big problem can arise when investors assume all of their stop-loss orders go through successfully. This isn’t always the case, or an order may be filled, but not entirely. It’s up to you to check for confirmation that the order has been carried out, and done so appropriately.
Don’t Use A Stop-Loss with Penny Trading
Most penny experts agree that a stop-loss is not a tool you should be relying on. The reason is becausepenny stocks are inherently volatile, so a stop-loss really provides no level of protection. Rather than putting yourself in a situation where you might think you need a stop-loss for your penny stock trading, it can be more advisable to choose better trades instead of going for thehigh-volume trades. It’s a matter of quality over quantity.
Know the Stock
Generally,when you’re considering a stop-loss, you’re putting it in place to protect yourself, particularly if you’re going to be in a position where you can’t watch your stocks for a period of time. What’s important to realize is that if your stock is prone to fluctuations, this could lead to a sell-off that isn’t going to be the ideal strategy. Before you put a stop-loss order in place, make sure you’re aware of the typical movement and fluctuations that are normal and inherent in that stock. If you have a stock that tends to move 5%, and you set a stop-loss at 7%, you may be doing yourself a disservice.
A stop-loss can be a valuable tool in stock trading under some circumstances, but it can also be one that’s tricky to use. The key is knowing when to use it, as well as when the stop-loss order should be avoided.
