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Should I Add a Stop Loss to My ETF Positions for Additional Protection?

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Q: Should I Add a Trailing Stop Loss Order to the ETFs for Additional Protection from Loss?

 

A: The short answer is 'No,' because our strategies make their trades at mid-day on Mondays – after the weekend update of each model. But even if we were trading every day of the week, we wouldn't use (and we highly discourage the use of) stop-loss orders.

We have run thousands of backtests on trailing and entry-based stop-loss orders, and they invariably result in less profit and frequently higher drawdowns than if the investor uses their strategy's rules as designed. While it may seem counterintuitive that a stop loss would cost you money, it is a logical result of equity prices being very *noisy.* 

Prices being noisy means there is a lot of mostly inconsequential ups and downs during every market session as investors test the high and low thresholds of market prices – technical levels that may only be important to a select (but often important, volume-wise) group of short-term traders. Instead, the ETFOptimize strategies always base decisions on the weekly closing prices on Friday.

Weekly closing prices on Friday have far less noise, are more aligned with fundamental values, and for our purposes are the only numbers that matter.

One practical reason is that data providers update key investment numbers at midday on Saturday, then each of our Premium Strategies is reconstituted/rebalanced on Saturday afternoon/evening with the new data – generating fresh stats, performance charts, and any recommended trades for Monday.

An investor could argue that if the bottom drops out of an ETF in the middle of the week, a stop loss will prevent losses in that event. But 99% of the time that's simply not true. One reason is that rarely does the "bottom drop out" of an ETF as can occur in individual stocks from bad news. 

Dozens, hundreds, or even thousands of different companies comprise ETFs, and it's highly unlikely that they're all going to collapse at the same time. If there is something like another "Flash Crash,' the best policy is to ignore it. 

Using a stop-loss order when a flash crash occurs will mean you risk losing an enormous amount of money. The Stop Loss Order will cash-out your positions near the bottom at an enormous loss. Many thousands of investors lost 40%-50% in the 2015 Flash Crash because they used stop-loss orders, amounting to billions of dollars trading hands because of a trading glitch.

 

Stop-Loss Orders tend to do the opposite of what they promise; they can LOCK IN LOSSES – rather than prevent them – by selling your position on a brief and temporarily tick lower – often a trade that has been manipulated to that lower level, only to surge higher in the subsequent hours, robbing you of your savings.  

 

It is far better to put your investment choices in the hands of a well-conceived, emotionless decision system that is constructed well in advance of market turbulence – rather than selling at a price only selected because that's all the temporary downturn you felt you could emotionally handle at the time. 

Learn more about Stop-Loss Orders and how professional insiders manipulate them to make hundreds of millions of dollars in profit every year from unwary investors! View the article.

 

 
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