The Hazards of Stop Losses

By keeping position sizes small, you can mitigate risk better than by using stop losses.

   

Video Transcript

At SlingShot Trader, we don’t set stops. Traders really debate this, so this is not a hard and fast rule; some fall into our school of thought and others don’t but the big reason for this is we’re trading fairly short term, most often in front of news, which means that volatility on a day-to-day basis is going to be pretty big. So, where would you set a stop limit? At 50%? You could get stopped out of a lot of winners.

Now, quite likely, you would stop some of the bigger losers out earlier, but you would stop out more of the winners than you would save on the losers. And, this goes without saying, but options are not stocks. They move so fast on a day-to-day basis that they’re really designed to have an embedded stop in them. If you think about it – although we try to avoid this as much as possible – the most you can lose is what you had invested in it because it’s a derivative. That’s one of the reasons why we invest a small amount per position and we calculate as, basically, our max risk.

With that cautionary tale, I would say we’re reluctant to recommend stop losses with options trades, but every trader has a different strategy, although I have not met very many short-term options traders who are successful using stop losses.

Investor Place advisors John Jagerson and S. Wade Hansen are co-founders of LearningMarkets.com, as well as the co-editors of SlingShot Trader, a trading service designed to help you make options profits by trading the news.  Get in on the next trade and get 1 free month today by clicking here.


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