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The Use of Stop Orders

Any trader, no matter how good  their discipline is, should be using stop  orders.  It will definitely help you  act in your own best interest more often than not.

Whenever initiating a position, always  make sure to have a stop order in to protect yourself.  All off-the-floor traders should also use stop orders to protect themselves and their open positions.  You  don’t want to end up like the stock market traders who’ve failed to use  a stop order and then lost 20-25% of their account in a single trade  with only one contract (in the S&P 500 Futures).

The more you trade, the more you  realize what a big part emotional discipline plays in your trading.  Being  successful really has more to do with acting in your own best interest  than it does the technical method or system you’re using, which is  precisely the reason using stop orders will be so important to your  trading. Using stop orders to protect your trades allows you to be a  little less emotionally involved in your trades, and the more you let  your emotions get the best of you, the less likely you are to make  money.

Why Use Stop Orders?

The advantage  of a stop order is you don’t have to monitor how a stock is performing  on a daily basis. The disadvantage is that the stop price could be  activated by a short-term fluctuation in a stock’s price. Also, once  your stop price is reached, your stop order becomes a market order and  the price you receive may be much different from the stop price,  especially in a fast-moving market where stock prices can change  rapidly. An investor can avoid the risk of a stop order not  guaranteeing a specific price by placing a stop-limit order.

It is a surprise when people  say, “I hate using stop orders!”  Stop  orders are the off-the-floor trader’s best friend. Protecting yourself  and acting in your own best interest is the only way to be profitable.  Some people don’t want to use stop orders when trading.   For  some strange reason, they get caught up in thinking that the market  will hit their stop order and then immediately start moving in their  direction after they’re stopped out.  And you know  what?  This will happen sometimes.

For people  who attempt to use mental stops (where they’ll just call and get  themselves out of the market instead of putting the stop order in the  market), the problem comes up when the market does go through their  mental stop order, then reverses and starts moving back in their  direction.   Usually, these  people are at a loss of what to do next.   And the unfortunate thing is it usually costs them a lot of money, as  they do not act in their best interest.  They  let a losing trade turn into a huge losing trade.

The  biggest reason people don’t want to use stop orders is because they  can’t or won’t admit they were wrong about which way they thought the  market was going. This is about the worst trait you can have. There is  nothing wrong with having a manageable losing trade. The difficulty comes in when your losing  trades are unmanageable.  This can easily  happen because you take too much risk on a particular trade by not using a  protective stop order.

These people  are under the impression if they don’t get out of the market (by not  using a stop order), they can’t take a loss because the market can  always come back.  That idea is attractive to some because it  can actually happen like that.  The  market can come back, no matter how far it was once against you.  But you are asking for a disastrous  situation.  If you want to act in your  own best interest, you will not let yourself get into a situation like that in  the first place.

It happens all the time.  People who only planned on risking 200 points  on an S&P trade.  They  didn’t use a stop order, and because they didn’t have their best  interest in mind, they have a trade that is 600-800 points against  them, and they’re hoping and praying the market comes back.  Hoping and praying is  not acting in your own best interest.

About the only way to be a  successful stock market trader is to have your stop order in place and let the broker  get you out of the market if you’re wrong.   Again, small manageable losing trades are fine.  They are part of every successful traders  day.  If you think you can avoid them,  you’re wrong.  And  if you think you can avoid them by not using stop orders, you should  just protect yourself another way and save your money and not even  trade.

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