how stop loss orders work
traders or investors may choose to use a stop loss order to limit their losses and protect their profits by placing a stop loss order they can manage risk by exiting a position if the price for their security starts moving in the direction opposite to the position that they ve taken a stop loss order to sell is a customer order that instructs a broker to sell a security if the market price for it drops to or below a specified stop price a stop loss order to buy sets the stop price above the current market price 1a stop loss order becomes a market order to be executed at the best available price if the price of a security reaches the stop price a stop limit order also triggers at the stop price however the limit order might not be executed because it is an order to execute at a specific limit price thus the stop loss order removes the risk that a position won t be closed out as the stock price continues to fall 1one disadvantage of the stop loss order concerns price gaps if a stock price suddenly gaps below or above the stop price the order would trigger the stock would be sold or bought at the next available price even if the stock is trading sharply away from your stop loss level another disadvantage concerns getting stopped out in a choppy market that quickly reverses itself and resumes in the direction that was beneficial to your position investors can create a more flexible stop loss order by combining it with a trailing stop a trailing stop is an order whose stop price rather than being a fixed price is instead set at a certain percentage or dollar amount below or above the current market price so for instance as the price of a security that you own moves up the stop price moves up with it allowing you to lock in some profit as you continue to be protected from downside risk 1some traders and investors may also use option contracts in place of stop orders to allow them to control their exit price points better benefits of stop loss ordersexamples of stop loss ordersa trader buys 100 shares of xyz company for 100 and sets a stop loss order at 90 the stock declines over the next few weeks and falls below 90 the trader s stop loss order gets triggered and the position is sold at 89 95 for a minor loss the market continues trending downward a trader buys 500 shares of abc corporation for 100 and sets a stop loss order for 90 after the market closes the business reports unfavorable earnings results when the market opens the next day abc s stock price gaps down the trader s stop loss order is triggered the order gets executed at a price of 70 00 for a substantial loss however the market continues dropping and closes at 49 50 while the stop loss order couldn t protect the trader as originally intended it still limited the loss to much less than it could have been 