Ignore stop losses at your peril… Here’s why

Julie Brownlee, Fsp Invest, 24 Mar. 2015

Tags: stop losses, why use stop losses, risk management, investing, losing share, investment portfolio,



Risk management is the cornerstone of successful investing. If you let your losses run, they can drag your whole portfolio down.

If you’re not convinced about the importance of using stop losses and other risk management strategies, read on…



The impact of a big loss on your investment portfolio


As an investor, you want to make money from the stock market. But investing is risky. There’s a chance a share you buy into could fall in value. And it could fall further than you think.

Even if you use stop losses, you’re going to encounter some losses on your investment journey. But at least by using stop losses, you know how much you could potentially lose.

To illustrate the impact of not using stop losses, here’s what could happen to your portfolio.

Say you invest in three stocks. You invest R10,000 in each of them. Imagine that two of your shares perform and gain 25%, but the third share flops. The company goes bust and you lose your entire investment.

This means of the R30,000 you invested, you only have R25,000 left. But if you’d stuck with a stop loss of 50% (which is generous), you’d be in no worse a situation. You’d still have investments worth R30,000.


Why you can’t hold onto a losing share with just hope


The message here is that losses can have a big impact on your portfolio. The more a share falls in value, you more you need it to over perform to get you back to breakeven.

Think about this:

  • A 25% drop in share price needs a 33% gain to get back to breakeven.
  • A 50% drop in share price needs a 100% gain to get back to breakeven.
  • A 75% drop in share price needs a 300% gain to get back to breakeven.
  • A 90% drop in share price needs a 900% gain to get back to breakeven.

The more you let a share price drop, the lower your chances are of recouping your losses. You’re looking for a tremendous performance from a share. That’s why it’s so important to keep your losses small.

Stop losses give you a way of cutting the losers from your portfolio. Holding onto a share because you don’t want to accept a loss can make the situation a whole lot worse.

So there you have it, why you should ignore stop losses at your peril.

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