STOP LOSS by Ryan Cooper of StockTeacher.com
This is the point where you admit you were wrong. No one can pick winning stocks 100% of the time. Accept this fact. You can only play the odds. Let’s say we buy a stock at $20 with the plan that it will go up to $24. Now we have to decide what to do if the stock does not go up, but suddenly starts to fall.
Let’s decide that if the stock moves below $19, we will accept that we were wrong about the direction of the stock, sell the position immediately, and take a small loss. By taking small losses, we preserve our trading capital, which allows us to trade again tomorrow. Before we even get into a position, we have to measure our risk-reward ratio.
In the above example, if we were correct about our stock pick, we would have made 4 points. If we were wrong in our stock pick, we would take a loss of 1 point. That is a risk-reward of 4:1. Let’s say we were only correct about our stock picks 50% of the time and we make four trades. Two were winners (2 x 4 points) equaling 8 points. Two trades were losers (2 x 1) totaling 2 points. We now have a gain of 6 points by only selecting winning stocks 50% of the time.
Assuming we were the worst stock pickers in the world and were only correct 25% of the time, we would still have a gain of 1 point.
Read article source: STOP LOSS by Ryan Cooper of StockTeacher.com