When it comes to investing in stocks, exchange traded funds (ETFs), bonds, options or just about any other investment, the use of stop losses could save you a lot of headaches.
Alexander Green of Investment U.com defines a trailing stop loss as a stop-loss order set a certain percentage below the market which adjusts as the price rises. [Why does it matter?]
Stop losses are important. Why?
- They remove the emotional aspect of selling.
- They eliminate the question millions of investors have asked themselves: “How do I know when it’s time to let go?” If you have a stop loss, this question is answered for you. All you have to do is execute it when the time comes.
The sell point you choose is up to you, but it’s important that it’s neither too small nor too large. A stop loss at 30% means that you would have to endure a 30% loss before you sold. A stop loss set at 4% means you’d be buying and selling pretty frequently and racking up fees that will eat into your returns.
Our stop loss is either when a position drops below the 200-day moving average or 8% off the recent high. The 8% point is high enough that we’re not in and out frequently, low enough that a big loss would not have to be sustained before selling. [How to use stop losses and a moving average strategy.]
There’s no guarantee that when you sell, the position you just sold won’t turn around and move higher. The purpose of trend following is to learn to focus on the next uptrend in another position, rather than regretting what was just sold.
For more information on trend following and stop losses, check out our new book, The ETF Trend Following Playbook.
For more on trend following, visit out trend following category.
The opinions and forecasts expressed herein are solely those of Tom Lydon, and may not actually come to pass. Information on this site should not be used or construed as an offer to sell, a solicitation of an offer to buy, or a recommendation for any product.