Hello erg61, You asked "how to use stop losses", so let me explain how TO and NOT TO use them.
First, there a few different "stop losses" you can use.
#1, a straight stop loss, ie: you bought a stock for $5 and it goes to $15.
You put in a stop loss for let's say $12.
What you are saying is I am willing to give back $3 of profit, but if it goes lower than that I want to protect my profit.
You can do this for ALL of your shares, or just a PERCENTAGE of your shares if you are worried about selling all your shares and then not having an opportunity to buy them back before the stock takes off up.
THIS IS NOT - NOT - NOT how to use stop losses, because by doing it this way you will constantly have to be changing you order, and here is why.
Same Example, bought at $5, it goes to $15, you put in a stop for $12.
NOW if it goes up to $20, you don't want to keep a $12 stop, so you have to change your stop to $17 ….. it goes to up $30, you have to change your stop (again for all or a percentage) to $24, etc., etc..
OK, so if you don't do the above stop loss, what do you do.
You use TRAILING stop losses.
There are 2 kinds of TRAILING stop losses.
#1, by % and #2 by $.
I will explain both, BUT I suggest that you STAGGER your TRAILING stop losses.
Let's start with #2 by $.
Same Example, bought at $5, it goes to $15, you put in a TRAILING stop loss at $3. What that means is if the stock price goes down $3, you will sell.
BUT that $3 TRAILS, so if the stock goes up to $20, the $3 trail automatically adjusts to $17 (making you more money), if it goes up to $30, the $3 trail automatically adjusts to $27 (making you even more money by protecting more of your profit).
But, I DO NOT suggest you use a $ trailing stop loss either.
I suggest you use a % trailing stop loss.
It is the exact same principle as $ trailing stop loss, except you trail by a set percentage as opposed to a set dollar amount.
I will explain how BEST to use this in a staggered strategy.
First let us assume something.
You bought a stock because you BELIEVE in it.
That obviously means that you DO NOT want to sell all of it, because if you do you may never get a chance to buy back in to it and then you will feel terrible when it goes up 8000%.
SO, there are 2 "BEST" things you can do.
#1, get back your original investment.
#2, get back your original investment, PLUS some profit.
I will go through #2 and then #1 will be understood.
OK, You believe in a stock, you invest $10,000 and buy 2000 shares at $5 per share.
It goes up to $15, put in a trailing % stop loss for 2500 shares at 15%.
You also put in another trailing % stop loss for 2500 shares at 25%.
If it goes down 14%, you will not sell, if it goes down 15% you will sell and STILL own 75% of your shares.
If it goes down 25% you will sell your second lot of 2500 shares and YOU STILL OWN 50% of your shares (in case it takes off back up) and you got your original investment money back PLUS some profit and that means that the 50% of the shares that you STILL OWN are FREE, as in FREE.
Now, if that stock continues down to down 40% or down 50% (whatever you are comfortable with), IF - IF - IF you STILL believe in the stock, then you buy back in.
If you put back all the money you got from your staggered training stop losses, you will then own many mores shares the you originally bought.
OR, you can just buy back the 5000 shares you get stopped out of and KEEP the rest of the profit.
SO, without writing a book, that is basically it.
One more thing, it does not matter if you are a long term buyer or a trader, whether you trade in a taxable account or a tax deferred account or a tax free account, this works just as well for all cases.
And remember, you NEVER EVER either buy or sell based on taxes considerations.
If you sell and make a profit, be happy and pay the taxes.
I have thousands of shares, in dozens of companies, that are ALL FREE, because I took back my original investment money, kept the remaining shares, and then invested that original money in other stocks and did the same thing over and over and over, decade after decade. (in some cases, I did reinvest after it went down a good bit more, like TPIV, $3 to $12 to $7)
Understand what drives stock prices, understand greed and fear and overreaction on both sides of the equation. Understand that VERY RARELY do stocks just keep going up and up and up without profit taking happening, and that drives the price down, and that price going down leads more people to worry about not losing all their profit and that leads to more profit taking, etc., etc..
It works, period.
The "worst" thing you can do is have a great profit and then sit by and do nothing but watch every penny of it disappear by inaction.
Not trying to ram anything down anybody's anything, just trying to HELP AND INFORM those willing to listen and learn.
Good Luck to you.
