To unravel the mystery within the mystery related to stock market trends, one has to evolve the strategy within the strategies relating to the trade. Which is important in a stock market? Buying or selling? The answer is within the question itself, with modification of the intervening word. It is buying and selling.
Investing is all about buying and selling at the right time.
When one builds a portfolio, one takes into account all the relevant factors then governing the stock market. Even if one factor changes, it may upset the whole applecart. Stop loss system is sort of an insurance to protect the investor from the unexpected losses. A good investor is the one who makes profits, and also the one who is able to control the losses. If one has fifteen companies in the portfolio, due to a variety of reasons, all of them may not fare well to one’s expected level, over a long period. So from the practical point of view the immediate task ahead of the investor is to prevent the losses with a sure-shot method, and analyze the reasons for the share going bad, at a later date.
Stop loss is the protective shield for the investor!
Stop loss is essential whether you have entrusted the responsibility of taking care of the portfolio to your broker or you handle it independently. There are two divergent views as for building a portfolio.
- The first option is to invest in several companies, say fifteen to twenty, to maximize the earning potential. But this is only half of the story to make profits through stock investments. Considerable time is involved in studying the balance sheets of the companies to keep a watch on their quarterly reports/performances.
- The second option is, select a few companies, three or four, and invest the money that you have earmarked for stock investment.
Your natural apprehension is what if the market collapses? Market doesn’t collapse for a few shares only. Recession, when it arrives, advances like the avalanche. The answer to face the situation is the provision of the stop loss. Recession is powerless with this arrangement.
Stop loss – how it works
- When you buy a share set a price level when you must sell the share, if the downward trend seizes the market. The market may be otherwise fine, still your particular share may fare badly due to many reasons. Sell the share at the stop loss level that you have set, without the second considerations and without giving room to sweet imaginings that something dramatic will happen and the share will make up the lost ground. This is unlikely.
- The range to fix the stop loss limit is 10-20% of the price you paid at the time of investing. If it is a large company, and if you have invested substantial amount, the percentage may be 5-10. In case of small companies the percentage can be up to 30.
- Arrange stop loss in such a way that if the price rises, the stop losses limit also increases. For example, you have bought a share for $1000. The stop loss price is $900(10% of the original investment). If the price of the share rises to $1200, the revised stop loss price is $1080.
- The instructions are simple and straightforward. Your marking is 10% under the stop loss arrangement. You will never lose more than 10% of your investment.
The golden rule for an investor is to give up emotions and wok on facts and figures. Never be sentimentally attached to a company. You are not working on human alliances; you are a hard businessman and deal with the stock market accordingly. Sometimes, the price of the share you have sold under the stop loss arrangement may rise substantially. Have no regrets. It is one of those things that happen in stock investments.