A Stop Loss order is an instruction given to a broker to buy or sell a security once its price reaches a specified price, known as the stop price. It's designed to limit an investor's potential loss on a security position.
Let's say you buy 100 shares of Company XYZ at $50 per share. To protect yourself from a significant loss if the stock price falls, you place a stop-loss order at $45.
If the stock price drops to $45 or below: Your stop-loss order becomes a market order, and your shares will be sold at the best available price. This limits your potential loss to approximately $5 per share (excluding commissions).
If the stock price rises: Your stop-loss order remains active but is not triggered. You can continue to profit from the stock's appreciation.
Key Points:
Protection: Helps protect against significant losses, especially in volatile markets.
Automation: Once placed, it doesn't require constant monitoring.
Not Guaranteed Price: While it aims to sell at the stop price, in fast-moving markets, the actual execution price might be slightly different (slippage).
Can Be Triggered Prematurely: A temporary price dip can trigger the stop loss, leading to a sale even if the price later recovers.