Stocks and Stop Losses
I’ve had a ton of conversations with individual stock pickers. Some were buy and hold investors, and others were short term traders. But one thing all successful investors or traders had in common was a simple exit strategy, one that would limit their losses before they grew large enough to sink their winners.
Why Use a Stop Loss?
I’ve gotten input from literally hundreds of investors on this topic. Many newer investors like to think that stop losses are for losers. Why use a stop loss if you’re a profitable trader? Why would you need one if your strategy works fine without one?
For these kinds of people, I have just one simple question: Were you around for the Flash Crash?
Consistency
One of the reasons I always set a stop loss limit order on each of my positions is because I like to be as consistent in my exit strategy as I am in my stock selections. If I can justify buying a stock at $30, why can’t I be equally judicious in picking $24 a share as my stop loss?
Setting a stop loss limit order is purely common sense. It allows you to remove all doubt and emotion from your strategy and solidify your stock picks around a common goal. As mentioned previously, proper stock picking comes from a consistent strategy. If you stay consistent with a winning strategy, you’ll always win. If you diverge from the plan, you diverge from profitability. It really is that simple.
Toy with Trailing Stops
Can’t make the step to accept defeat? Fine, begin with trailing stops. I think they’re an excellent solution in that they allow winners to run but cut them short just before they do a reversal.
Stop loss is a strange strategy. It look may smart to control possible losses, but I think other risk control rules should be used (reasonable allocation and diversification).
If are buying some assets you have to believe that there is some upside. If price drops, assets should be even more attractive, so why to sell it?