Monday, November 30, 2020
Education

The Beginner’s Guide To Understanding And Using Stop Losses And Targets

The trading and investing world can be very intimidating to an outsider. With billions of dollars in shares and money being exchanged on a daily basis, the share market is often synonymous with high risk and high payoff.

While many people indeed lose money trading, and only a few earn big bucks, it isn’t the complete truth. There are some rules and strategies that can help beginners understand and get a feel of the market without losing a lot of money.

One set of such components within trading are ‘stop losses’ and ‘targets.’ Stop losses are basically set up so that the profit can be capitalized when it is optimal, and losses can be kept to a minimum. Targets help set a cap while investing so that you know how the share has performed, when to retain the share and when to sell it.

Understanding Stop Losses

A stop-loss order is when a trader sets a price/percentage below the purchase price so that when the stock value falls to that value, it is automatically put on the market to be sold.

This is done so that the losses on a certain stock can be minimized. It is often seen that traders get emotionally attached to their investments. This is due to the expectation that, given the time, the stock will overcome the slump and perform better.

But analysis of data from stock market trends shows that the probability of a stock rebounding after a fall of a certain percentage is low. Thus when it comes to investing, one’s emotions and ego shouldn’t be the deciding factor in making decisions.

Stop losses work on the automated system, which is set with the broker. This system works such that when the value of the share diminishes below a certain point, the sale order is executed, and the share is put on the market to be sold. The said share is then sold not at the value at which the sale order was decided, but on the market’s highest bid for that share.

Advantages Of Using Stop Losses 

The biggest upside to stop losses is that, for beginners who don’t have complex investing plans of holding on to stocks, it allows them to minimize their losses. The process of stop loss is automated and thus doesn’t need one to keep looking at stock market charts to make decisions.

Sometimes markets can have a sudden downturn, which means that the value of stocks will fall fast. With automated processes, the functions are more efficient, which helps lower the margin of losses. Also, stop losses do not charge you any extra money over the normal brokerage commission and act as a free insurance policy.

Disadvantages Of Using Stop Losses

The major drawback is that the market has many fluctuations in the short term, and even blue-chip stocks fluctuate more than 10 percent in a week. This makes setting a stop loss value difficult and would need some kind of investment plan and background research on the industry and the company.

Also, for investors with long-term investment plans or buy-hold strategies, the stop loss options are virtually useless as the market fluctuation would make long-term investment plans impractical and difficult to execute.

Understanding Targets In Trading

Traders set targets before they buy shares as a road map or plan, predicting the stock’s value for the next 12 to 18 months.

Targets are set so that the trader can understand whether or not the stock is performing according to the plan’s predictions. Stocks in industries with great risks often have targets set, since most traders only invest in such shares with detailed entry and exit plans.

Targets are often seen as a must for most people starting off with trading, who may not yet understand when it is best to hold or sell a stock.

Use Price Target Analysis By Experts

Price targets set by analysts, which are published in financial papers, magazines, and journals, are a good way to set the targets for your stock.

The price targets are mostly calculated predictions made by analysts based on various factors like industry growth/health, company management, market sentiment, volume movement, stock history, and balance sheet values of the company.

These price targets suggest what the real value of the stock is and when it will top. These analysts often make suggestions on when to buy, hold, and sell.

Though these price targets are a great insight, they have been wrong on more than one occasion. Thus when buying stocks online or selling, making a comprehensive plan while factoring in new developments is imperative.

Practice Online With Paper Trading Accounts

A lot of trading is about developing an eye and a gut feeling of when to buy and when to sell.  Online trading on paper trading accounts helps you gain experience and practice without investing in real capital.

These online trading paper accounts act as a mock trading simulator. They take real-life data from stock markets across the world, and you are allowed to practice buying and selling securities. This allows you to gain experience faster without losing money in the process.

paper trading account not only helps you get over the fear of investing big but also lets you understand the market and set plans for the share, which you may buy in the future based on data collected through practicing on paper accounts online.

The Takeaway

Practicing online on paper accounts and understanding strategies such as stop losses and targets are important for beginners to bridge the gap of experience without actually going through losses. It is always important to remember that information is power, and it should be the driving force behind your modern trade market decisions.

Though experience does indeed play an important role in trading, it also has a lot to do with planning. In fact, following the golden rules and building a plan will help minimize your risk while also maximizing whatever profit is achievable with the amount of risk undertaken. Once you have properly laid out your trading strategies, over time, with experience on your side, you are bound to succeed!

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