What is a stop loss in trading?
A stop loss is an order that automatically closes a position when the price reaches a level you set, to limit your loss. It’s usually placed as a stop order: when the trigger price is hit, it becomes a market order and fills at the best available price.
How it works
If you hold a long position, you place a sell stop below the current price. If you hold a short position, a buy stop above it. When the price touches the trigger level, the stop becomes a market order: execution is practically assured, but the exact price isn’t.
Example: you buy 100 shares at $40 with a stop at $38. The planned loss is 100 × 2 = $200. If bad news makes the stock open straight at $36.50, the stop triggers at the open and sells near that price: the actual loss is about $350.
Types of stops
- Stop order (stop-market): fills at market once triggered. It guarantees the exit, not the price.
- Stop-limit: becomes a limit order once triggered. It controls the price, but in a fast drop it may not fill and can leave you stuck in the position.
- Trailing stop: follows the price at a fixed distance when it moves in your favor and never moves back. Example: with a $2 trailing stop, if you buy at $40 the stop starts at 38; if the price rises to 45, the stop moves up to 43.
Some traders use a mental stop, with no order at the broker. It demands total discipline and doesn’t protect you if you lose your connection or the price moves while you’re not watching.
Where to place it
A good stop goes at the point where your idea stops making sense, not at a randomly chosen percentage. For example, below the last relevant low or below support. It also has to respect the asset’s volatility: if the price moves $2 a day, a stop $0.50 away will get triggered by normal noise.
First you decide where the stop goes. Then you calculate how many shares you can buy so that, if it triggers, you lose only what you agreed to risk. That’s the foundation of risk management, and the distance to the stop is the starting point for the risk/reward ratio.
Example: the stop sets the size
Example: you have a $5,000 account and decide to risk 1% per trade, which is $50. If you enter at $40 and your stop is at $38.50, you’re risking $1.50 per share: you can buy 50 / 1.50 = 33 shares. If on the next trade the stop is $0.75 from the entry, the size rises to 66 shares and the risk stays at about $50. The stop sets the risk per share; the size sets the total risk.
Common mistakes
- Moving the stop farther away as the price gets close, to avoid taking the loss.
- Placing it too close and getting stopped out by noise right before the price goes your way.
- Believing it guarantees the price: in gaps and sharp moves, the fill can be much worse than the stop level.
- Not using one at all because the company looks good. A good company can fall much further than your account can tolerate.
Ben · the MentorDecide where you’re wrong before you enter, not when you’re already losing. A stop you move every time the price gets close isn’t a stop; it’s a hope.
Learn it in depth in lesson 1.4: Brokers, accounts and order types
In the course you practice it with real charts, pop quizzes and an exam that tells you whether you really got it. Start free with lesson 1.1; no card required.
Frequently asked questions
Does a stop loss guarantee I won’t lose more than planned?
No. A stop order becomes a market order once triggered, so in a gap or a very fast move it can fill much worse than the level you chose. It limits the loss in most cases, but it doesn’t lock in the exit price.
Is a stop-market or a stop-limit better?
It depends on what you’d rather guarantee. A stop-market guarantees you get out, though at a worse price. A stop-limit controls the minimum sale price, but in a fast drop it may not fill and can leave you with the position open while the price keeps falling.
What percentage should I set my stop loss at?
There’s no correct percentage for every case. The stop distance comes from the chart, from the point where your idea is invalidated, and from the asset’s volatility. What many traders fix instead is the risk per trade, as a small fraction of the account, and then they adjust the position size.
Related terms
Educational content from The Trading Path. Not a recommendation to buy or sell any asset.