Stop-Loss

Order to sell a security when it reaches a specified price to limit loss.

A stop-loss is a pending order placed with a broker to buy or sell a security once it reaches a specific price, known as the stop price. For investors holding a long position, a sell stop-loss is placed below the current market price to protect capital and limit potential losses if the asset's price falls. Once the stop price is reached or breached, the stop-loss order automatically triggers and converts into a market order, which executes at the next available market price. Investors use stop-loss orders as a core risk management tool to automate their exit strategy and remove emotion from trading decisions. It is particularly useful for monitoring positions when an investor cannot actively watch the market. While most commonly associated with protecting long positions, short sellers also use buy stop-loss orders placed above the current market price to limit losses if the security's price rises unexpectedly. While highly effective, a major pitfall of a standard stop-loss order is execution risk, specifically "slippage" or "gapping." Because the order converts to a market order once triggered, it does not guarantee the exact execution price. If a stock closes at $50, bad news breaks overnight, and the stock opens the next morning at $45, a stop-loss set at $48 will trigger, but the trade will execute near $45, resulting in a larger loss than anticipated.

An investor buys shares of Company XYZ at $100 per share. To limit their maximum potential loss to approximately 10%, they place a sell stop-loss order at $90. If the stock price declines and touches $90, the stop-loss is triggered and becomes a market order. The broker sells the shares at the next available market price, which might be $89.95, successfully capping the investor's loss close to their 10% target.