Using stop-loss limits is a way to limit your losses. Whenever you buy shares in a company, a unit trust or other collective investment, set a stop-loss limit, say 10% or 15% below the purchase price. When the price increases, move your stop-loss limit up accordingly, so you are ‘protecting your paper gains’. The technique requires that when the price falls to your stop-loss limit, you sell and do not procrastinate. This requires more self-discipline than most people have, but if you follow it religiously your losses will be limited.
Investors have a tendency to watch prices go down, convincing themselves that the share will bounce back. It may well do – eventually; but you need to recognize that the price of many shares and collective investments will fluctuate over a wide range in any twelve month period. The stop-loss technique is arbitrary, and is designed purely to limit your losses. It is entirely contrary to the approach of Warren Buffet, the legendary investor, whose approach has been to buy a share and hold it though thick and thin for the long-term.
Locking in your gains is another arbitrary technique. Some people sell one half of their holding each time the price increases by 50%. It is another approach designed to ensure you avoid watching the share price rise and then continue watching your gains disappear before selling.
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