Understanding Stop Orders

Understanding Stop Orders First, let's discuss the use of stop orders. They are meant to be "NO-BRAINERS," a way to get out without having to think about it when you are in a state of confusion. These stop orders are normally placed at prices that technically 'signal' that an exit is the wisest move that should be made at that time. You don't have to believe exit signals. You just have to obey them. Such signals do not involve forecasting what a stock is going to do. We use them to prevent possible substantially devastating loses. Are these signals always correct? No, but once again no one can accurately forecast the future. We can only use the information we have available at the time, study historical issues and then extrapolate what the significances could be to gauge the risks vs. the potential rewards.

In the end, it is a matter of self-preservation. When things do go wrong- and they will, many investors become paralyzed and do nothing. Many of those now hold stocks that are down substantially. You sell to protect yourself. If you do not use an exit system you certainly risk a much worst fate than missed opportunity. You easily could still be holding on to some of the former highflying stocks that are down 70, 80 and even 90% from their highs. If, for some reason, you are still involved in some stocks that are down substantially in this market, you need to reassess the reasons and find a way to prevent these occurrences in the future. The worst mistake you can make is to allow the market to hand you a lesson you did not learn from the first time.

Two things I caution you to examine about your psychological reactions. One, don't be afraid of making a fool of yourself. It's not a game of self-esteem. It's a game of money. Let the others have the self-esteem. You take the money. Secondly, accept the fact that, no matter how well you might have handled it, you almost certainly would have had to give some of your profits back, as it is doubtful that you would have sold at the ultimate highs. And if you actually lost money on the transactions, it most certainly could have been much worst. Just ask the investors that did not sell their positions in the 'Roaring 90's' stocks when the warning signs were visible in 2000. If you are judging yourself from the point of view of a perfectionist, you will sadly be disappointed. Just because trades seldom work out perfectly, and just because some trades are outright disasters doesn't mean that you are making errors. The market has always been a dangerous animal and many stocks drop 25 to 50% overnight. You can teach yourself just as many bad lessons by blaming yourself for something beyond your control as you can by turning a blind eye on your genuine mistakes. The best running backs in the NFL wind up getting tackled almost every time they get the ball. They don't get up and say, 'Where did I go wrong'? Of course they study their previous game films for ways to improve, but they don't harp on those negative activities in such a way as to dissuade them from taking the ball and running with it again. We, as investors, should do the same.

Regardless of the reasons you sold the stocks you did when you did, I say- I would rather lose any incremental opportunity than hard earned money. I find these tremendous words of wisdom in any market environment and the main reason I continuously harp on a protective plan on every purchase for my clients. However, I will also be the first to admit that I am not infallible. As such, I am susceptible to the same emotionally quarrelsome situations as most investors are and thus prone to making mistakes. I will also admit that the methodology that I employ is far from perfect. With this said, I continually stride for improvement and the techniques I employ stress risk management and will normally err on the conservative side. I highly suggest you do the same.