So, lets talk briefly today about stop loss orders. They’re supposed to be that one simple thing every trader uses to protect themselves from catastrophe, right?
But Why? Do they really offer protection?
Theoretically yes, a trader should always use a stop loss. Because its logical to want protection from an extreme downtrend, or uptrend, if short. But this isn’t theory, this is my money! This is real life, money on the line, fight till your P&L bleeds, real world. And as such I’m hoping today I can share some reasoning behind why I think stop losses are a complete lie!
Before I jump into my Saturday rant about stop losses I’d like to first ask a question.
How often, in estimation, would you say you’re stop loss orders are triggered and eventually closed?
*Please respond in the comments below. I would really like to know.
I can’t speak for you but I estimate that my stop loss orders are triggered on about 2 out of every 3 trades or roughly 67% of the time. This is infuriating, because I’ve been told by everyone, NEVER trade without a stop loss. In fact, most “gurus” tell you to place your stop loss orders immediately after placing your entry order.
This is so frustrating because it doesn’t take rocket science to figure out that I’m losing money 67% of the time. From a probability standpoint I’m doomed from the start.
This is exactly what the so called “gurus” and market makers want. They want you to fail on nearly 70% of all your trades, so they can be profitable on 70% of there own.
With that knowledge, doesn’t it make sense to question what you’re being told?
I’ll answer that with this:
Pretend for a second you’ve placed a bull call spread on XYZ stock. You’ve done the research and you’re confident a move to the upside is coming. You enter your order and follow it with a stop loss entry. All par for the course, right.
Day 1 the trade moves as planned and you’re making money. I’m a genius, this trading thing is like taking candy from a baby, you’re thinking. But then Day 2 hits and price takes off to the downside in the first hour of trading. Your stop loss is triggered and you’re out with a loss.
Now consider this… If a market maker or institutional trader see’s a given level with an abundance of orders just sitting idle, doesn’t it make sense for them to want them executed and off the books?
Theoretically the answer is no, but what if the market maker or institution could trigger those orders and place an opposing order? Wouldn’t that make them money instead of you? In the real-world, YES!
They trade it down to the pool of stop loss order’s that have been made public, trigger those stops, buy it at the new lower price, and watch there profit rise as they take the other side.
All the while, John Q. Public is thinking, WHEW! Thank goodness for that stop loss or I could have really been hurt.
So, you see, we’re being lied to on every front. Not only are we losing money, we’ve become convinced that when our stop is triggered it’s just part of trading and even more disheartening, we’re almost happy about it.
This hacks me because we’re being conditioned to believe that smart traders use a stop loss every time and none of us would dare be the dumb trader.
In essence, our emotion is being played against us. We’ve been dared to be dumb and only a fool would want that!
*Here is an article from MarketWatch.com, a credible source, discussing this exact situation. Let me know what you think.
Ok, so I could go on but I think I’ve made my point. Stop losses are a good thing but not when they’ve been broadcast to the world. The big fish will chew up your small worms over and over again until your finished.
No stop loss, No Problem!
Well, it isn’t as cut and dry as I’d like because your situation may be different than my own. I’m in a position where I can monitor my trades throughout the day and make closing trades as needed. You however, may be in a situation that doesn’t afford that luxury and in that instance I can’t say I have another revolutionary way to provide trade protection than entering the traditional stop loss.
For those of us that can access our portfolios during market hours however, the answer is simple, mental stops. You’ll trade in exactly the same way, with the same stops, they’ll just be entered when price reaches that level.
I personally use alerts to signal price levels at which I would exit a position. That way I’m not tied to the screen and I’ll get a friendly text letting me know it’s time to act. This way no one knows my intention, even if the broker can see my alerts. For all they know I’m playing chess and that alert could be to signal my next entry or possibly a hedge trade. Whatever the case may be, it isn’t clear and that’s precisely how I like it!
Well, that’s it, no extraordinary new found method to trading. Just normal operation as usual, only much quieter so your hand isn’t tipped.
Have questions or maybe completely disagree with my argument? Ask me in the comments below.
Wishing you only profitable trading,
Jeff “the OptionBoxer”