How to Use Stop-Loss Strategies for Bitcoin Investing
Every investor fears this situation. Your portfolio is doing well and has been picking up value against a bull market. Suddenly, the market collapses and all of that value you have lovingly cultivated evaporates. This was the nightmare scenario that occurred September 29, 2008, when the Dow Jones Industrial Average dropped a resounding 777.68 points after Congress' rejection of the bank bailout bill. While the altcoin market has not had a day like that yet, the market has had its share of bad days since December 2017.
A way investors can limit their risk is through a mechanism called a stop order. Stop orders are exchange trading levels at which a buy or sell action is automatically triggered, should the price of a commodity exceed or fall below the specified level. These mechanisms can potentially protect your portfolio or position you to take early advantage of a new pricing position.
This article explains what these mechanisms are and how to use them to improve your portfolio.
Understanding Stop Orders
The simplest way to think of stop orders is that they are standing instructions you give an exchange about how to handle your commodity under certain situations. Say, for example, bitcoin is currently tracking low at $10,000 per coin, showing a prolonged loss. However, you suspect that bitcoin will have a breakthrough and will rally soon, but you do not know when. You can set a stop order to buy bitcoin at $11,000, but not more than $12,000 to ensure you are in a position to profit should your hunch pay off.
Conversely, you can have a second stop order in place to sell at $8,000 just in case bitcoin continues to drop. This creates a limited insurance policy for your portfolio to help secure its value against unexpected loss.
Stop orders are useful for automating certain market positioning gestures. Leaving these moves to a computer takes the emotion out of decision-making, enabling objective and disciplined investing. They are not, however, an excuse to stop paying attention to your portfolio. A phenomenon known as"trading through" - where a commodity drops value after the markets close due to poor news - can lead to a stop order trigger not being hit should the price drop below the trigger while no one is watching. Similarly, in a high volatility market, prices can change too rapidly for a stop order to be fully effective as a stop-gap.
It is best to think of stop orders as a sophisticated tool for risk management, but not the only tool at your disposal.
Types of Stop Orders
There are two different types of stop orders: stop-market orders and stop-limit orders.
Market Orders: A stop-market order is a BUY or ASK order for when a commodity hits a certain price or price range. A buy-stop order, for example, will trigger a market order when the commodity's price breaches the trigger. The order will always buy at the BID price and will continuing buying until it has hit its preset buy limit or until the BID price exceeds the buy-stop trigger. Likewise, a sell-stop order will sell your commodity automatically at BUY until the BUY price falls beyond the trigger's limit, all commodity shares are sold, or the sell-stop limit has been exceeded.
Limit Orders: At times, you may need more precision in your purchasing. Limit orders allow you to set a certain amount of your commodity to be sold at no less than a minimum price or allow you to buy a certain amount of a commodity at no more than a maximum price. Like a stop-market order, this has a trigger point at which it would engage, such as a commodity hitting a certain price point.
Tips for Success
- While it may seem that limit orders would be the best option, they are tricky to set up and maintain. When getting started with stop orders, stick with market orders.
- Set your limits at major price levels. It is better to set your stop limits at major levels, such as increments of $250 for bitcoin, than at smaller increments, which could be easily "traded through".
- Assume nothing. Always monitor your stops and assure that your orders went through.
- Evaluate your stops and adjust them as your positioning change.
Stop orders can be the first step toward building the discipline needed to be a professional trader. By understanding the risks and benefits of these different tools, you can develop a platform to effectively manage and mitigate your investment risk.
Want more information about investment strategies in the world of New Finance? Read Bitcoin Market Journal and learn to invest like a pro!
Stop losses can be risky in the event of market crashes
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