Stop Loss Orders - I Never Use Them

To the best of my recollection I have never used stop-loss orders. Also I have no intention of using them in the future. What is a stop-loss order? A stop-loss order is an order to sell a stock at a pre-determined price sometime in the future. For example you own a stock that currently is trading at $50 per share. You bought at $30 and have made some nice profits. In order to "protect"  your profits you place a stop-loss order with your broker at say $45. If the stock declines to $45 per share your stop-loss order becomes (and this important) a market order to sell the stock. If the stock is liquid you will probably get a decent fill but you can never be sure. But In today's world of flash crashes anything could happen.

The whole thing sounds sort of logical - after all you prevent any further losses in your investment. The stock could crash 80% and you were smart enough to enter a stop-loss order. This is all great except it doesn't work. Think long and hard about what you are doing. A stop-loss order is an ARTIFICIAL CONSTRUCT in logic. If they consistently lead to superior profits everybody would be using them including Warren Buffett. You are placing an order to sell a part of a business at a pre-determined price based on what information? Is the business doing poorly? Remember that stock prices vary greatly week to week and month to month. You could be stopped out for no other reason than the general stock price level went down. Maybe some large pension fund came into the market and dumped a bunch of shares driving the stock down. Another important reason is that stop-loss orders don't work is that stock prices are not predictive. Past prices have no bearing on future prices in my opinion. Stocks are not serially correlated as the statistical people would say. It also demonstrates why technical analysts are not the richest people in the world but that will be another post.

In conclusion when a stock price declines significantly and the business fundamentals are fine you should perhaps be thinking of buying more shares.