Recently, the stock market had one of the biggest fluctuations in history dropping 1,200 points in a day. That’s a scary situation! But we weren't scared. Why? Two words: Trailing Stops.
Understandably, lots of people may have sold their shares in the wake of this downturn.
Who wouldn’t be at least a little worried?
But this was not the right move.
The market recovered nearly everything it had lost over the next few days.
If people had waited and held onto their shares, they would have recovered nearly everything.
Most people try not to be impulsive with their stock purchasing decisions.
But that’s hard to do mindfully in a world of massive fluctuations.
Thankfully, there are now more options than ever for preventing impulse selling on your portfolio.
Plan Ahead With “Stop” Options
First, let’s define the most commonly used planning tool for pacing out stock purchases: Stop-loss orders. If you’re planning to stay safe in a fluctuating market, stop-loss orders are your best friends!
A stop-loss is a specific stock order that dictates when you sell a particular stock. It sets specific terms as a condition of a sale.
For example, you can say, “Sell this stock when it reaches X amount.”
Or, more realistically, “Sell this stock when it reaches X percent of it’s normal value.”
Stop-losses are great for people who can’t or won’t track the market on a daily basis.
It allows for fluctuation to happen without ordering complete panic if something changes.
This is a good option for people just learning about the stock market or if they have a large portfolio to manage.
It should be noted that there are some recent restrictions on stop-loss orders, such as a rule against using them on penny stocks.
Make sure you’re following regulations before you implement these orders on a wide scale.
Don’t confuse this with a stop-limit.
This order is also designed to sell off shares if a stock reaches a certain limit, but it’s a little more literal.
If you set a stock to sell when it reaches $10, but the stock opens at $8 that day, it won’t sell according to the stop-limit.
But once it reaches $10, it will be sold automatically.
The literal conditions of this order can be frustrating.
But it also prevents impulse selling when things may just be wonky for a few minutes on the trading floor.
However, if you’re looking to gain from your stock portfolio over time, you’ll want to look into trailing stops.
Trailing Stops are Safer Than Stop-Losses
Think of trailing stops as stop-loss orders 2.0.
These are stop-loss orders that adjust upward as a stock price increases.
The more successful the stock, the higher the standard for dropping down.
For example: If a stock you purchased was worth $100 when you purchased it, setting a trailing stop at 20% means that you’ll sell when the stock drops down to $80.
But if the stock rises to $110, the new indicator for selling is $88.
The 80% rule is still in place in this example. But it has adjusted to still apply even when the stock rises.
If the stock were set to sell at $80 even after a growth to $110, that might be far too low for you to get a reasonable return on your investment.
Here's an example…
Trailing Stops Will Keep You Safe in a Volatile Market
As you may have guessed, trailing stops are a much more preferable method of maintaining portfolio stability than stop-loss orders.
They take the past and present into account!
Now, these orders aren’t perfect.
They’re still orders based on numbers and don’t benefit from a human’s judgment and/or an extensive history of a stock’s background.
Pro investors use them as just one among many different techniques for optimizing their portfolios’ growth.
As always, don’t operate under the assumption that one strategy is going to be perfect forever and ever.
Trailing stops follow an increase and adjust upward. They’re allowing for the rules to change.
That’s really the best way to avoid panic—if you can’t adjust when conditions change, your own rigidity may cost you future wins!
Overall, Remember that Fluctuation Happens
All of this is to say that fluctuation happens in a healthy market. It always does.
And with few exceptions throughout history, the market always adjusts back.
Excluding events such as the Great Depression, the stock market always jumps back into a healthy average when major downturns occur.
The stock market reflects human behavior. As long as people consume goods, they’ll always have cycles of saving and spending.
People don’t ever just stick with one over the other.
Trailing stops allow people to put the classic investing advice of “don’t panic” into practice.
Don’t impulsively sell off your shares just because things are bad now.
Always act mindfully, and your portfolio will grow to reward you.