This account is pending registration confirmation. Please click on the link within the confirmation email previously sent you to complete registration.
Need a new registration confirmation email? Click here
TheStreet Open House

The Art of the Stop Loss: Technical Primer

BALTIMORE ( Stockpickr) -- The stop loss. Ask any active trader or investor what they think of stop losses, and you're bound to get a unique, passionate answer. Some market participants won't enter a trade without them, while others vow to never use a stop loss again.

Even if some investors decry stop losses, if used properly stops can be an incredibly effective tool to limit risk and increase the occurrence of profitable trades.

Today, we'll take a look at how to effectively use stop losses from a technical perspective.

First, though, let's take a look at exactly what a stop loss is. Stop losses, or stops, are sell orders that trigger if and only if a stock reaches a predetermined condition. That condition may be a set price, a set percentage decline, or a set absolute (dollar value) decline. They're used for one of two reasons: to avoid losing too much money (this is known as a protective stop), or to lock in gains.

Related: Must-See Charts: Apple, Bank of America, Intel

To fulfill that task, there are also a few different kinds of stop loss orders. The traditional stop loss order sends your broker a market order when it's triggered, whereas the stop-limit order not surprisingly sends a limit order. As you might expect, stop-limit orders can often secure you a better fill price on your stock -- but only when they get filled. For a stock that's quickly crashing, a market order may be your only option.

Another type of stop order is the trailing stop, which is used primarily to lock in gains. As your position increases in value, your trailing stop ratchets higher and higher -- but it only triggers if your percent-decline or dollar value decline conditions are met.

The Value of Stops for Technical Traders

It doesn't surprise me that stop losses are so controversial. For a fundamentals-only investor, stops can be downright terrifying. The oft-described stop loss nightmare comes from the fear that an investor will get stopped out only to see shares rocket in the ensuing weeks and months. Part of the problem is that fundamental investors can only base their stop loss levels on how much pain they're willing to take. If you're not willing to take more than a 10% hit on a stock, that's where you place your stop -- regardless of the market conditions.

1 of 3

Select the service that is right for you!

Action Alerts PLUS
Try it NOW

Jim Cramer and Stephanie Link actively manage a real portfolio and reveal their money management tactics while giving advanced notice before every trade.

Product Features:
  • $2.5+ million portfolio
  • Large-cap and dividend focus
  • Intraday trade alerts from Cramer
  • Weekly roundups
TheStreet Quant Ratings
Try it NOW
Only $49.95/yr

Access the tool that DOMINATES the Russell 2000 and the S&P 500.

Product Features:
  • Buy, hold, or sell recommendations for over 4,300 stocks
  • Unlimited research reports on your favorite stocks
  • A custom stock screener
  • Upgrade/downgrade alerts
Stocks Under $10
Try it NOW

David Peltier, uncovers low dollar stocks with extraordinary upside potential that are flying under Wall Street's radar.

Product Features:
  • Model portfolio
  • Stocks trading below $10
  • Intraday trade alerts
  • Weekly roundups
Dividend Stock Advisor
Try it NOW

Jim Cramer's protege, David Peltier, identifies the best of breed dividend stocks that will pay a reliable AND significant income stream.

Product Features:
  • Diversified model portfolio of dividend stocks
  • Alerts when market news affect the portfolio
  • Bi-weekly updates with exact steps to take - BUY, HOLD, SELL
Real Money Pro
Try it NOW

All of Real Money, plus 15 more of Wall Street's sharpest minds delivering actionable trading ideas, a comprehensive look at the market, and fundamental and technical analysis.

Product Features:
  • Real Money + Doug Kass Plus 15 more Wall Street Pros
  • Intraday commentary & news
  • Ultra-actionable trading ideas
Options Profits
Try it NOW

Our options trading pros provide daily market commentary and over 100 monthly option trading ideas and strategies to help you become a well-seasoned trader.

Product Features:
  • 100+ monthly options trading ideas
  • Actionable options commentary & news
  • Real-time trading community
  • Options TV
To begin commenting right away, you can log in below using your Disqus, Facebook, Twitter, OpenID or Yahoo login credentials. Alternatively, you can post a comment as a "guest" just by entering an email address. Your use of the commenting tool is subject to multiple terms of service/use and privacy policies - see here for more details.
Submit an article to us!
DOW 17,279.74 +13.75 0.08%
S&P 500 2,010.40 -0.96 -0.05%
NASDAQ 4,579.7890 -13.6380 -0.30%

Brokerage Partners

Rates from

  • Mortgage
  • Credit Cards
  • Auto

Free Newsletters from TheStreet

My Subscriptions:

After the Bell

Before the Bell

Booyah! Newsletter

Midday Bell

TheStreet Top 10 Stories

Winners & Losers

Register for Newsletters
Top Rated Stocks Top Rated Funds Top Rated ETFs