nControl Risk and Loss in the Stock Market

Risk is the probability of loss. It is best to estimate it and to adjust your purchase and sell strategies to it in order to control loss before the purchase is made. Correct timing of purchases, buying near support, limiting loss potential, and stopping the decline by using volatility stop losses are all ingredients of a good risk control system. Let’s look at a few of these loss control discipline components.

One method of controlling risk is by timing purchases so that they occur at or near support,Jordan 5 Grape. That way,Jordan 5 Retro, your stop loss can be a very small distance away from your purchase price. If you buy when the stock is 5% above its trendline, for example, it will mean little if the stock declines 5% to reach its trendline. Since stocks often return to support, why would you sell? You would sell only if it broke to the downside through its rising trendline. Therefore, your loss would be calculated by adding the distance the sell point is below the trendline to the distance the purchase price was above the trendline. Buying at the trendline instead of above it would eliminate that unnecessary 5% loss,Jordan 5 2013.

However, stocks often make a small temporary penetration through a support line and then resume their climb,Red Bottom Shoes. When, precisely do you sell? Let us use the suggestions offered in Technical Analysis of Stock Trends by Edwards and Magee as an example. If you are using stops that are based on closing prices, they suggest a trendline penetration of 3% would warrant selling,Jordan 5. If your stop loss is placed with a broker, they recommend that the stop be placed 6% below the trendline because of the possibility of inconsequential intra-day spikes. Therefore, if you buy when the stock is 8% above its rising trendline and place the stop loss 3% below the trendline, you will lose 11% before your stop is triggered,Jordan 5 Grape. On the other hand,Retro Jordan 5, if you wait for the stock to return to its trendline before buying, you will lose only 3% if your stop is triggered. It is important to buy right so that you can sell right,Red Bottom.

Risk is also blunted when the downside behavior of stocks is strictly limited to predefined tolerances. For example, a stockdisciplines.com trader might plan his purchases so that the projected profit is about three times the expected loss if the trade goes against him. Thus, in order to try to capture a gain of 6%, the stop loss must be no more than 2% below the purchase price. If he can reasonably expect a gain of 12%, then his stop loss would be no more than about 4% below the purchase price. Long-term investors can use a ratio perhaps as low as two to one because they have a presumptive tolerance for wider price swings and a longer time-horizon. It can take more than one price cycle to reach the targeted profit, and the uncertainty associated with the accomplishment of that is already part of the risk accepted by the long-term investor. Therefore, there is greater tolerance for negative price movement relative to the expected gain. The trader, on the other hand, does not have that luxury. He must put into effect more rigorous profit to loss ratio requirements.

Another approach to blunting the downside behavior of stocks is to reject as a purchase candidate any stock that has a logical stop loss placement greater than a certain amount. Let’s say that our investor or trader finds a stock with a great story and feels he must have it. The stock is climbing rapidly and it looks as though it will never be at the current price level again. If the stock is rising at a steep angle of ascent, an appropriate stop loss may be 16% below support. If his rule is never to risk more than a 1% portfolio loss because of a single position and he has 15 positions, the stock must be rejected. A 15% loss on one position when there are 15 positions would cause the portfolio to lose 1%. A 16% loss would exceed the limit. Though downside behavior would be permitted within the parameters and tolerances of the prevail

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