Stop Losses You Can Actually Use

Smarter Stop Losses Without the Numbers

No calculations needed—just smart ways to manage your portfolio and reduce risk.

Marcus Padley | 21 June 2024 | Education Corner

The Reality of Stop Losses

Stop losses are a discipline that allows you to let your profits run and cut losses. But as anyone who has started using stop losses for the first time will tell you, you get the logic. You think it's a good idea, you start out with the best intentions, but after selling a few stocks that immediately bounce, or selling what you consider to be long-term investments in the short term, only to see them continue to trend up in the long term, you lose your resolve. The reality is that stop losses will involve getting stopped out of some share prices that then immediately shoot up. It's inevitable. Sometimes. And those are the ones you remember, and those are the ones you tell everyone about. Stop losses are not a golden bullet, they are a discipline, and sometimes, you do need a sense of humour. The art of it is to not care about things that happen after you have sold. Regret is not going to help you in your mission to make as much money as possible in anything that has a price over any timeframe.

How to Use Stop Losses

The best use of stop losses is not as an instruction but as an alarm bell to unemotionally point out that a trend has changed against you. They can be used by any investor on any timescale, even long-term value investors and wealthy people with large individual stock positions. It's a tap on the back of the head that says, "Have you spotted this? What are you going to do about it?" How many times are you going to ignore the fact that you are now losing money, and it's trending against you? As we discussed in the initial stop loss article, stops can be set in many different ways. They include technical and mathematical stop losses like a dollar-based stop loss and profit stop, a set percentage stop loss, a trailing stop loss, a chart-based stop loss, a volatility-based stop loss, and a percentage of capital stop loss.

The Truth About Stop Losses

But there is more to stop losses than that. Yes, you can invent and monitor complex formulas that purport to spit out the perfect stop loss price, but the truth is that only a small part of the value of using stop losses is delivered by using the right price. Most of the value comes from the fact that you had a stop loss at all. There is no 'correct' stop loss. Stop losses are not some finely tuned method of achieving an exact outcome. Their primary purpose is to avoid a mega-loss that you can’t afford to have. They are a loss-stopping mechanism, and for the constipated, procrastinating investor who habitually lets their losses run, it is more important to do it than to do it perfectly. There is no perfectly.

Alternative Stop Losses

So for those of you who are not mathematically minded and don't want to engage with arithmetic, here are a few other less calculated stop losses that you might be interested in employing. These stop loss methods include most of the value of a stop loss—strategies that are more ‘real life’ and don’t require a calculator. 1. The Holiday Stop Loss Sell everything before you go on holiday. Nothing is worse than a ruined holiday because you’re fretting about some dumb stock position. When you have your head in the stock market all day, every day, a holiday isn’t a holiday unless you get it out. 2. The Insomnia Stop Loss Sell anything that could possibly, or does, keep you awake. Anything that is disturbing you. You need to put a high value on your frame of mind, and with a finite number of days left to live, you can’t afford to waste time being miserable, especially not about money. Anything that’s making your life miserable has to go. If in doubt, get out. 3. The Objectivity Stop Loss When things are about as bad as they can get, you need objectivity, which means you need to talk to someone. Use someone else as your stop loss. If in doubt, discuss it with others. And if you can't tell your partner, sell. 4. The Punching the Air Stop Loss This is an old broker's saying: sell anything that provokes you to stand up at your desk and punch the air in delight. Any stockbroker will tell you, euphoria means “Sell”. It means a price has exceeded your expectations, and asking for more is simply greedy. You have to book the wins sometime. This is as good a moment as any. 5. The Denial Stop Loss Sell anything you’ve got wrong. Making money by predicting share prices is not a science. You cannot pin down certainty. There are so many variables and so much sentiment in stock decisions that getting it wrong is to be expected—it’s inevitable. When you do get it wrong, you have to act, not deny. There is no room for pride in stock decisions. We all get things wrong. Accept that, and half of the battle—the not-losing-money half—is won. 6. The School Fees and Mortgage Stop Loss Paying essential bills takes priority over trading, I’m afraid. 7. The Divorce Stop Loss Only triggered it once, and if you can recognise the “engagement ring thrown at you” stop loss first, you’ll never actually need it.

It's Not What You Buy, It's What You Do After

It’s not about what you buy, it’s all about what you do after you buy. Managing the investment, not making it. Most high (or low) brow investors working off Buffett quotes have been brainwashed to think it’s all about choosing what to buy. For a disciplined investor or trader, it’s all about what you do after you buy. That’s the part that needs a plan, discipline, and vigilance, and it’s where almost everyone goes wrong and doesn’t bother. If you are one of those "Set & Forget", Buffett-quoting, ineffective "Invest as if they are going to shut the market for ten years" investors, shut your eyes, exercise your first stop loss, and see what happens. You will instantly move from confused, indecisive, and unfit to invest, to something... better. Forever. It’s not hard. Try it.

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