A stop loss is a pre-determined price that we use as the trigger to sell out of a losing trade. If the share price falls instead of rising then we sell and we sell at a pre-determined price to ensure that we minimise losses. We need to have a stop loss price because not all trades succeed - some fail. Even the best trading techniques struggle to deliver a success rate of more than 70%. Therefore even using some of the best trading techniques we will still end up with two or three losing trades out of every ten. For these losing trades we must keep our losses really really small.
Every trade can only have one of five possible outcomes:
A large profit.
A large profit.
Breakeven.
A small profit.
Breakeven.
That's it. Five possible outcomes, no more, no less. If you could eliminate one of these five outcomes, which one would you choose? That's right - the large loss. If you eliminate the large loss you are only left with the other four possible outcomes. If our small losses, breakeven trades and small profits even out over a period of time you will only be left with the occasional large profit, a rather pleasing outcome.
By now there should be no doubt in your mind about the wisdom of eliminating large losses. We use the Stop Loss to eliminate any large losses.
We use a Stop Loss Rule. The stop loss rule has three parts to it:
1. You must have a Stop Loss in place for every single trade that you do.
2. Set the Stop Loss price at a level where your loss will be 2% of your trading capital.
3. When your Stop Loss price is hit then you must sell. No waiting one more day hoping that your trade turns into an "overnight success".
For those new to share trading, and maybe some not so new, the most difficult part of this rule is part 3, selling when your stop loss price is hit. It's the most difficult part of the rule because it brings into play your emotions. And of course our ego pops up and it just hates admitting that we were wrong about anything! Despite this huge emotional drag not to sell - sell we must. When your stop loss price is hit you sell. This simple and straight forward rule protects your hard earned cash.
Every trade can only have one of five possible outcomes:
A large profit.
A large profit.
Breakeven.
A small profit.
Breakeven.
That's it. Five possible outcomes, no more, no less. If you could eliminate one of these five outcomes, which one would you choose? That's right - the large loss. If you eliminate the large loss you are only left with the other four possible outcomes. If our small losses, breakeven trades and small profits even out over a period of time you will only be left with the occasional large profit, a rather pleasing outcome.
By now there should be no doubt in your mind about the wisdom of eliminating large losses. We use the Stop Loss to eliminate any large losses.
We use a Stop Loss Rule. The stop loss rule has three parts to it:
1. You must have a Stop Loss in place for every single trade that you do.
2. Set the Stop Loss price at a level where your loss will be 2% of your trading capital.
3. When your Stop Loss price is hit then you must sell. No waiting one more day hoping that your trade turns into an "overnight success".
For those new to share trading, and maybe some not so new, the most difficult part of this rule is part 3, selling when your stop loss price is hit. It's the most difficult part of the rule because it brings into play your emotions. And of course our ego pops up and it just hates admitting that we were wrong about anything! Despite this huge emotional drag not to sell - sell we must. When your stop loss price is hit you sell. This simple and straight forward rule protects your hard earned cash.
About the Author:
Learn more about share trading education. Stop by the Just Shares site where you can find out all about how to trade shares and what it can do for you.
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