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.