Don't you wish you could snap you fingers and order the stock market to stop losses? If only it were that easy. If so, then 2008 never would have its legacy as the “year when Americans realized the economy was, indeed, in deep trouble.”

But, that's not the type of loss-stopping I want to talk about today. It's close, and you can snap a finger (or punch a keyboard) to make it all happen.
A stop loss order is a way to sell a stock when it has dropped to a certain level to eliminate risk. Some people use the 15 percent principle, where a stock is sold automatically when that stock has dropped 15 percent below its purchase price. Other investors might pick a specific price. So, if a stock drops from $100.00 to $80.00 per share, for instance, and the investor set a stop-loss order at $80.00, then the stock will sell when it hits that $80.00 “hot spot.” But, as you'll soon learn, it may not sell at that price. In fact, you may lose even more money.

Upsides and downsides exist for the stop-loss order, and I believe that the negatives outweigh the positives. The day trader might not agree with me, but the long-term investor might stand by my side. The only sore point in agreeing with me is that you may have lost a lot of money in your stocks this past year. A stop loss order might have saved you some money, but I'll argue that – if you have a reliable and viable stock in that portfolio – then it may bounce back when the economy gets its legs again. After all, the only time you can actually lose money on an investment is when you sell it at a loss.

Advantages to Stop Loss Orders
The major advantage to the stop-loss order is that it can 'police' your stocks when you can't find a computer to attend to your portfolio. If you are taking an extended vacation or if you plan to move to a deserted island, the stop loss order can save you when you can't save yourself.

Say, for instance, that you purchase XYZ stock at $80.00 per share and then you decide to spend three months hiking the Appalachian Trail from Maine to Georgia. You can place a stop loss order on that stock, and if it dips below a price that doesn't suit your tolerance for loss, that stock will sell at market value when your stop loss price is met.

That's the trick – to know your tolerance for loss. If it's at five percent from the price of purchase, you might count on that stock selling that day in a volatile market. A five percent loss is feasible for many stocks during a rocky day.
You might think more along the lines of 15-20 percent below the purchase price if you're willing to go this route. This percentage of loss is significant, but in today's markets, you might consider it a small bump in the long ride. Losses at this point are a matter of perspective, as over the years I've seen many stocks drop twenty-five percent and then jump fifty percent or more on good news.

Disadvantages to Stop Loss Orders
If you're a long-term buy-and-hold investor, the only three reasons to sell a stock, in my opinion, are:

• A failing business that cannot recover
• A need for the money (as in you've met a goal to pay for a college education, a house, etc.)
• A better alternative for your investment money

If you are a wise long-term investor, you also have a diversified portfolio. Therefore, a twenty-percent loss in one investment that represents a rock-solid company may not faze you if your other investments are doing well. In today's market, however, there's a slim chance of that happening.

Imagine this scenario: Say that you placed stop loss orders on all your holdings. There's a good chance that many of your stocks met that twenty-percent loss within the past year, as the Standard & Poor's 500 index is down somewhere around 40 percent.. If you placed stop-loss orders on everything in your portfolio, then you no longer have a portfolio – all you have is one huge loss.
Also, you really have no control over the price at which the stock will be sold, even though you stated what you wanted when you executed that stop loss order. The reason for this lack of control is that, once the stop loss order is activated, it becomes a market order. In a rapidly falling market, there is no guarantee that the selling price will be the same as the stop price.

Finally, if XYZ's share price was to suddenly fall to your stop-loss number for just a few seconds and then bounce to a profit on good news, your stop loss would still be invoked and you would make a loss, not a profit. If you had not placed the stop-loss you would be safe.

There's some comfort to holding onto stocks, even when they seem like losers. This is especially true when you know that you're holding valuable companies that have been affected by the economy – not by company failures. Sometimes, for a long-term investor, you often can stop losses merely by being patient.

If you're a BUYandHOLD user, then you can side with me emphatically. You cannot place stop orders with your account here. And, in my opinion, I think that's a good thing.

Until Later,