Stop-loss discipline is one of the most talked about things in the stock markets and holds immense importance for a trader in equities. Stop loss is an automatic order that an investor places with the broker or agent by paying a certain amount of brokerage. Stop-loss is also known as ‘stop order’ or ‘stop-market order’.The stop-loss works similar to insurance so that in case the trade goes bad for whatever reason the investor will have his or her position automatically sold for a loss. Here is how stop-loss discipline is extremely important in trading stocks on Sensex and Nifty.
Capital protection: The most essential mantra that every investor should follow in stock market trading is to find ways to protect his ‘finite’ capital. No matter who you are and where you come from, almost every trader in this universe has limited capital that can be accounted for losses in the stock market. Each trader must outline the maximum loss that she is willing to take on a single trade, in a day, in a week etc. This kind of discipline can only be maintained if the stop-loss is kept for each trade.
Churn money quickly: A trader always wants to churn capital as fast as possible to get real ROI by moving in and out of positions rapidly. Such a strategy works like the power of compounding and ensures profitability in trading operations and it can only be ensured through a stop loss.
Avoids the risk of concentration of position: You carry the risk of increasing your exposure inordinately if you keep holding on to positions or averaging them. If you bought a stock at Rs 50 and if it comes down to 15, then you are tempted to average your position once again to reduce your cost of holding. You may again be tempted to average down your position if the stock goes further down and it only mars your prospects. The stop-loss here is important in cutting the position at the first instance itself.