A stop loss order is placed with your broker to sell when the price of a stock reaches a certain level. It can also be an order that will buy when the market reaches a certain price level. Stop loss orders are usually used as a risk management tool to sell if a stock goes too low. This prevents losses from becoming too big. A stop loss order will execute at your determined price level.
Stop losses are an essential part of stock trading. Understanding concepts regarding application of a stop loss order will minimize losses and increase your profit potential. The next few paragraphs below should give you a deeper understanding of the mechanics.
Explanation of Stop Loss Order
Let’s say that Google is trading at $550 and you decide to buy a few shares because you think it’s going higher. However, you also must have a plan B if things go wrong. If the stock goes lower, how much are you willing to lose? You decide you are not willing to take more that a 10% loss. You decide to put in an order with your broker, a stop loss order to sell at $495, with is 10% below your purchase price of $550. So if the Google starts to go lower, the order will automatically sell at $495 preventing you from further losses.
Stop Loss : Automatic Risk Protection
Life can get busy, and staring at quotes all day long can be unproductive. Having a large trade on the line poses issues if you need sell out immediately. If a stock you own is crashing, you don’t want to be rushing to a computer just to put in an order to sell. It may be too late, and losses can be catastrophic in a matter of seconds. Use a stop loss order that will automatically sell for you. When you buy stock, you should immediately put in a stop loss order for insurance. Once you have a stop loss order in place, you can carry on about your day.
How To Use A Stop Loss Correctly
The stop loss order is one of the most powerful tools stock trader can use. From this day forth you will always use a stop loss. Make that a rule you never break, and you will survive. The stop loss is the foundation of solid trading methodology. Unfortunately, most fail to use the stop loss order correctly. The explanation above is very over simplified. While using is a stop loss is wise and clever. You just can’t randomly place a stop loss order 10% below the purchase price. R
There is more to it than just putting in an order. A stop loss must be placed correctly. Nothing is more frustrating than to getting stopped out early and seeing the stock skyrocket the next few weeks. Finding the right price to place the stop loss order is a matter of application of technical analysis. Considering price action, volatility, support levels, and other technical indicators, a stop loss order can be placed for optimum performance. Read more on where to place your stop loss order using technical analysis.