I have never thought blanket use of stop orders was a good idea and have also written countless times about fast declines being followed by fast snapbacks. The reader's comment reiterates my beliefs on this subject.
I tend to use stop orders after a stock has had a big move up for a portion of the position. However not every stock lends itself to a stop order. I wrote something for TheStreet.com about this where I looked at Baidu (BIDU). Normal volatility for that stock makes most of the stop loss "rules" very difficult to apply.
This is not to say you should avoid stops altogether or not have some sort of concept to sell a stock but stop orders are wildly flawed and you have to know what the limitations are.
This chart from the other day shows that good companies don't necessarily have to be sold, given the right time horizon.The context for this comment is that even if you hold onto a stock when it would have been better to sell; time can bail you out, again assumes a certain time horizon. If you manage your own portfolio you clearly could have absorbed the rotten first few months of 2000 for JNJ (client holding) and by now probably forgotten about it.
A 50 year old in good health, with a normal time line for for retirement plus a normal time line during retirement doesn't really need to worry about a great company that cuts in half in a down 15% world when he is 53. This is especially true if no more than 5% is allocated to any one stock.
Anyone selling JNJ at the start of 2000 would have felt good about the trade for a couple of months but since the start of 2000, so including that puke down and one other in 2002, JNJ is up 30% while the S&P 500 is flat.
This is what works against you when you get too heavy into stop orders and assuming you are able to pick stocks that can stay in business.
15 comments:
If you didn't have stop orders during the tech bust, you'd still be sitting in the poor house with quality paper from CSCO ORCL CMVT....the list goes on. Time is not always a cure for even the best companies.
your comment implies that stop orders are the only way to sell a stock. If that is what you are saying, I would disagree completely. There are many determinants, like fundamentals, like the trend of the market and so on to decide to sell.
Anon 6:24, like many other savvy investors, Roger says: "I tend to use stop orders after a stock has had a big move up..". You could safely say that in 2000 stocks did have a big move up. So a stop loss strategy would certainly have been an option. Not for everyone however. In 2000 (hell, even in 1999), I was replacing my long positions with calls or simply raising cash.
Not only is a stop loss not the the only defensive measure, but, when to use a defensive measure also varies on investment style. Roger seems to use determinants like fundamentals and market trend. Others may use investor sentiment, money supply and TA.
Bottom line: yes there is a time and place for stop loss orders, however, not for all situations and it certainly is not the only way to protect your portfolio.
There is more than one way to skin a cat.
But Roger,
You have to admit that selling a loser is one of the hardest thing for people to do. Behavioral finance supports this. Stops can help take the emotion out of the question. Fundamental analysis gets harder as the loss increases..
If you held your tech holdings for the last 7 years, you have wasted a great deal of time.
What if you retired on January 2000? What if your health, or your spouses health took a downturn during that time?
There is a balance between trading, and buy and hold/hope, and alot of it does come down to time. But also good health...
Wishing all readers huge quantities of both!
Linda,
to the extent that is true i think there is an element of re-training our brains. your comment addresses the human tendancy to care more about where a stock has been than where it is going.
your next point I think is more about managing time horizon.
lastly the tech bubble is turning out to be the exception that proves a lot of rules.
The only time I use a stop loss order is when I buy a stock and set a price target.
If the stock hits my price target but it still looks good, I will set a stop loss order just under the current price.
For instance if I buy a stock at $40.00 and set a price target at $46.00 and the stock hits that price fast and still looks good, I will set a stop loss order at say $45.50 and re-adjust it as the stock rises.
Roger,
I have to agree with the problems of stop losses after a snap down/snap up. I had one nasty one, where an ETF opened down about $4.00 for what was probably a single trade and then went right back up to its previous close. I had set a stop about 8% down a day or two earlier and, of course, I got stopped out.
I generally don't trust the first 30 minutes of trading. I wish there were a way to set a stop so that it wouldn't be honored before, say, 10AM.
Rick C
Well, wouldn't that be called "paying a money manager?"
1. Stop orders are great, if a stock doesn't open gap down and below your stop.
2. Stops can also be mental.
3. Aren't target prices arbitrary? I have heard many experienced traders say that once they stopped using them they started making real money.
This is a ridiculous discussion...if i may be hyperbolic. Hard stops are more appropriate for some trading styles and less for others. For Roger, makes sense that he is not. Now can we get back to more important discussions! For instance, why is MY word verification getting longer. Love the blog....humour attempt as roger says.
I was in a deli in NY when I ordered a egg and cheese on a roll...just as the guy was putting it all together I saw a mouse run across the floor.
I told the guy I no longer wanted the sandwich, which was probably the best stop order I ever executed.
roger,or anyone.....
Is there an etf or cef that's "agriculture"...other than dba
Say, I read an article last week quoting a statistic that less than 15% of financial advisors/brokers beat the
major indexes over 5 years+, and that amateurs like most of us do just about as well as the other 85% of the "professionals". The article goes on to question the value of "Financial Advising" education, given the
poor performance of "experts" relative to indexes.
With that in mind, I assume that you are in the 15%,
and just wonder what classification "Roger's Mutual
Fund" would be (International Growth, etc.), and what your thoughts are about the value of your formal investment education relative to the real world of portfolio management.
Thanks, Scoot.
nice to see this whipped up a little chatter, thank you.
The big macro is that stop orders are not the best possible thing for every stock in every circumstance. Knowing the flaws hopefully leads to a more successful use of them.
The ag ETF questions, ETF Securities has a bunch that only trade in London and as best as I know they cannot be accessed in the US. I think iShares has a live cattle fund in the hopper.
Scoot, a comment I have made before is that it makes sense to think that any decent manager will beat the market every so often. Of course he will lag every so often too. In a way of thinking that is too generic the more beats/fewer lags the better the manager.
I say too generic because not every one needs to beat the market. A guy with a lot of money (I mean serious money) who wants to keep working needs his portfolio to something completely different than the guy who wanted to quit last year but needs an 8% draw for his income needs.
A practice with a bunch of guys like the first example is unlikely to have market beating results; because that is not what his clients need.
Conceding I might be decent at my job I would expect to lag some times and beat others. what is important is a portfolio that the client can live and gets them to where they need to be.
Using a stop order is akin to kissing your sister. I have not regretted avoiding them since 1987, when I learned in a not too painful way a valuable lesson:
Retain the courage of your convictions.
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