We often read headlines of how the Sensex and Nifty crashed in a single day due to some event, causing huge monetary losses. What these headlines don’t highlight is the fact that during such crashes, many investors and traders get wiped out forever. During such big market falls, many naive traders crash and burn as they don’t use stop loss in their trades. In this article, we shall explain what a stop loss is, how to use it, and its advantages and disadvantages.
Getting caught on the wrong side of the trade
On 23 March 2020, the stock markets saw one of the most brutal sell-offs due to COVID-19 and the resultant lockdown of the economy. The Sensex ended 3934 points down, and the Nifty ended 1110 points down. Now, as a trader, what if you had taken a long position (that is, expected the market to go up) on this day? Imagine you could not close your trade due to some reason when the sell-off was happening. What would be the magnitude of the loss that you would incur during such a manic day?
Similarly, two days later, on 25 March 2020, there was a big move in the market, but this time it was on the upside. The Sensex gained 1865 points, and the Nifty gained 496 points. As a trader, what if you had taken a short position (expecting the market to...