In stock investment, investors often face the problem of what to do when the stocks they bought lose money.

A. Continue to hold and sell when it rebounds.

B. Stop loss immediately to avoid losing more money.

The god of stock, Buffett, once said that the first rule of investment is never to lose your principal, and the second rule of investment is always to remember the first rule.

Therefore, if you want to succeed in the stock market, you must learn to protect your principal. The way to ensure the safety of the principal is to learn to stop losses.

This article will teach you a common stock selling strategy: 7%-8% stop-loss strategy.

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Why do you need to stop loss?

Stop loss is setting a price as a stop loss point. When the price falls to the stop loss point, sell it in order to stop the bleeding and prevent the loss from expanding.

Everyone understands the principle, but for many investors, stop loss is very difficult, and fundamentally it is human nature that is causing this:

• Stop loss means this transaction is losing money. People's fear of loss is stronger than profit. When stop loss happens, it feels like a cut from oneself, that's why people call stop loss cutting flesh.

• Stop loss means denying your previous decision. Not wanting to admit mistakes is part of human nature, and admitting mistakes is a very difficult thing.

However, if you don't stop loss when the stock price drops, assuming that you can wait for it to rise again, the stock price will often move against you, making you deeper and more passive.

For example, Xiaoming has always been optimistic about Tesla's development and wants to use technical analysis to find a suitable low point to buy.

At the end of 2022, the Tesla stock price experienced a decline, and Xiaoming found that the stock price had fallen near a previous support level, where a spinning top appeared, and the next day was an upward trend. Therefore, he determined that the trend might reverse, so on the third day, he purchased Tesla stock at $206 per share with 0.01 million USD.

At first, the Tesla stock price did rise, and Xiaoming was very happy. But it didn't last long, the stock price suddenly turned around and fell below Xiaoming's cost, but he still believed that it could rise back. Who knows that Tesla fell lower and lower, and finally Xiaoming couldn't stand the loss anymore, so he cut his losses at the lowest point of $102, and suffered a loss of nearly 50% of his principal.

From this example, we can see that it is so important to develop a sell-stop loss strategy before trading.

7%-8% stop-loss strategy

In the stock market, there are many ways to stop loss, the most common of which is the fixed percentage stop loss method.

The fixed percentage stop loss method is to set a fixed percentage, such as 5%, 10%, or 15%, as the stop loss point. As long as the loss reaches this percentage, it will be sold at a loss, and this percentage depends on individual risk tolerance.

So, what percentage should be set? The famous writer William O'Neil gave his stop-loss strategy in his book 'How to Make Money in Stocks.'

When a stock falls by 7%-8% on the basis of the buy-in price, it should be stopped at once.

For example, Xiaoming bought stocks of company A at a price of 100 US dollars. According to the 7%-8% stop-loss strategy, when the stock price falls to 93 or 92 US dollars, Xiaoming must sell the stocks.

• Advantages: Simple to operate, reduces emotional impact, can control overall investment risk, and avoids losses from expanding.

• Disadvantages: Can easily lead to frequent stop-loss and miss subsequent rebounds.

In a bear market or a stock market with greater volatility, you can choose to stop loss earlier, such as setting the stop loss ratio at 3%-5%.

Why is it 7-8%?

You may ask, why 7%-8% instead of 10% or 20%?

This is the experience William O'Neil gained from researching the history of the US stock market for the past 130 years.

Historical data shows that if your buy point is the ideal buy point, then the stock price will generally not fall by more than 8%. Once this limit is exceeded, the problem may lie in the buy point you have chosen:

• Either you chose the wrong stock, or the company or industry has problems.

• Or you chose the wrong timing and the overall market began to fall.

For retail investors, in most cases, you can only see the stock falling continuously, without knowing the reason for the decline or when it will stop.

At this time, you need a mandatory risk management measure to prevent greater losses. The 7%-8% stop-loss strategy ensures that losses are limited to 7% or 8% to ensure that there are no greater losses.

How to apply it in practice?

Let's take a look at these two scenarios:

• Stock price keeps falling: Assuming the buy-in price is 100 US dollars, and the stock price keeps dropping to 92 or 93 US dollars, the stop-loss strategy should be triggered to sell the stocks.

• Stock price rises and then falls: Assuming the buy-in price is 100 US dollars, the stock price rises to 130 US dollars, and then falls by 8% to 119.6 US dollars. At this time, the stop-loss strategy is not triggered because there is still a floating profit. In this case, the profit-taking strategy should be considered.

Back to the example of Tesla: Assuming Xiaoming has formulated a stop-loss strategy of 7%-8% before trading, and his purchase price is 206 US dollars, then his stop-loss position should be between 189.5 and 191.5 US dollars. When the Tesla stock price falls to this position, he can avoid losses of nearly 50% if he strictly executes the trading plan and sells his stocks.

Assuming that Xiaoming has set a stop loss strategy of 7-8% before trading, and his purchase price is $206, then his stop loss position should be between $189.5 to $191.5.

When Tesla's stock price falls to this position, if he strictly executes the trading plan and sells the stock, he can avoid close to 50% of losses.

What should you do if the stocks immediately rebound after selling?

Some investors may ask, for some stocks, the moment you stop losing money, the stock rebounds immediately and even rises higher, which feels very uncomfortable and makes you feel like you've missed out of earning millions, what should you do?

In fact, you can look at stopping loss from a different perspective, you can consider it as buying an insurance policy, and the 7%-8% capital loss is the insurance premium you paid for this policy.

Due to the unpredictable market fluctuations, stocks in a declining trend may drop by 20%, 50%, or even more. The function of this insurance policy is to prevent you from losing most of your capital.

Of course, after stopping loss, you can also choose to buy back the stocks. Similarly, you need to plan your trades in advance.

Summary

As the saying goes, it's better to save your energy and not use it when not necessary.

From the first day of entering the stock market, investors should always remember that stock market investment is risky, and one of the most effective ways to prevent risks is to set stop loss levels and strictly follow stop loss discipline.

The 7%-8% stop loss strategy provides investors with an effective stop loss solution. However, there are other stop loss strategies in the stock market, and investors should choose the one that suits their own situation.