Both countries are causing the market turbulence and stomach aches for queasy investors. As I’m writing this, Greece, still doesn’t have a solution as their PM flip-flops more than pancakes on a griddle. China’s stock market has been such a mess, that 25% of stocks stopped trading due to deep losses and heavy fluctuation on Tuesday, 7/7/15. This isn’t an article on further issues with either country. It’s to get you thinking about what happens what markets can wildly fluctuate and more importantly, how to protect the investments in your portfolio.
I want to explain how to take action in order to limit potential losses. It’s a very simple tool to use that is available in every brokerage account (but not in a DRIP plan). It’s a really cool investment tool called Stop Losses. Now your next natural question is what is a Stop Loss?
A stop-loss is open trade placed in a brokerage account to cap potential losses. This is used as a protection in case something happens with a company or the stock market in general. This only works with brokerage accounts, not accounts sponsored by major DRIP providers like Computershare and Wells Fargo Investment Services. This tool will automatically trigger a sell at a specific price level if a stock begins to trade down or even goes into free-fall mode. This helps in those situations where the investor has no time to send in a trade to prevent further losses. In order to enter a Stop Loss on a brokerage account, you will need to follow these instructions:
- Login to the brokerage account
- Select Trading from the Tool Bar
- Select Stocks
- Under Transaction, select Sell from Holdings
- Enter the symbol and quantity
- Order Type – Stop (Do not select Sell Limit!!) See below on why
- Enter a Price – Select a price you are comfortable taking a loss with risk, suggested 15-30% below current market price or original purchase
- Duration – Good till Canceled
- Account Type – Enter Account Type
It’s that simple…
This will setup an automatic trigger to sell a position if the stock falls below the threshold you setup in the price stop. This trigger will keep you protected from larger potential losses down the line in your strategy. Now, let’s discuss Sell Stop Limit for a minute as another option.
This is a very, very bad investment option that should have never been provided to investors because it just confuses folks like you and me. It’s confusing because it’s setup right next to “Sell Stop” (without the limit). The Sell Stop Limit works like this, using Stock A as an example:
- Stock A has a sell stop limit of 35.50 setup
- Stock A is trading at 40.00 at the beginning of the day
- Stock A announces earnings miss, and suddenly drops to 36, 35.75, 35.51, 35.45 and falls all the way to 31.25 at the end of the day
- The sell stop limit never triggers, and you lose more than you wanted to because you don’t trade on Wall Street and watch the channel everyday
- This is not what was supposed to happen
- That stinks!
- If you had used a simple Sell Stop instead, the sell would have triggered at 35.50 and you would have saved those points and more importantly, money
By understanding Sell Stop Limit and Sell Stop, it’s much clearer which choice can alter your investment strategy and minimize potential losses. This should let you sleep better at night and not worry about this stuff.
Alex Richwagen is an investment research analyst. Any of his recommendations are that of Mr. Richwagen, the information presented by him is the opinion of his research. All investment decisions are your choice and should be based on your own analysis.