What is Stop Loss?

Stop Loss refers to a buy/sell order that is placed to limit loss or gain in a trade. This strategy can be used for both long-term and short-term trading. They are specifically designed to safeguard investments. A stop-loss order helps a trader minimise the risk of market instability. This technique is most useful in an unpredictable market because a trader can save his or her capital by setting up a price threshold where an asset is sold to avoid further losses. In this blog, we will explore what is stop loss in share market, how it works, its benefits, disadvantages and a lot more. 

How Stop Loss Orders Work

Now that you know stop loss meaning, let's understand how it works. A stop-loss order simply sets a price at which you want to sell an asset to cap losses. You buy a stock at ₹100 and put a stop-loss order of ₹90. Your asset gets sold automatically in case the price rises to ₹90 to limit your losses.  This helps traders not lose track of important market events due to the continuous falling or rising prices of assets in the market, which takes place very commonly in volatile markets. 

The stop loss order to sell is called a customer order and it instructs a broker to sell security if the market price for it drops to or below a specified stop price. On the other hand, a stop loss order to buy sets the stop price above the current market price.

Do Long-Term Investors Need Stop Loss Orders?

Long-term investors often do not use stop-loss orders for other reasons. Stop-loss orders might be helpful in mitigating short-term market fluctuations, but long-term investors might not use stop-loss orders because they rely on the potential a stock may have over time. Since short-term volatility is less relevant to their strategy, long-term investors generally rely on thorough research, market fundamentals, and strong conviction in the assets they hold rather than setting a stop-loss price.

How Does a Stop-Loss Order Limit Loss?

A stop-loss order limits loss by triggering a sell action when an asset’s price hits a pre-set threshold, preventing further declines. This is a proactive measure that limits loss to an acceptable level from the perspective of the trader, and thus it dilutes the impact of unfavourable price movements. A stop-loss will provide a means for effective management of risk and prevent emotional trading decisions during negative market swings.

Benefits and Risks of Stop Loss Orders

The following are the benefits and risks of stop loss orders.

Conclusion
Stop-loss orders are very important for risk management as they help control losses while making investments more effective. With a stop-loss, investors can automatically execute an exit strategy, gaining more control over their capital. If you are an active day trader or a part-time investor, then having a stop-loss strategy could be worth considering as an addition to your approach. Download a reliable online trading app to efficiently utilise stop-loss and other trading tools to improve your trading strategies.