The Stop-Loss Concept
In a traditional investment model, a security is bought and then held to fully participate in both upward and declining markets. The stop-loss concept aims to curb losses in market downturns. It works by stopping out (selling) at a given percentage decrease from the market peak, and reenters once the market rises a certain percentage from its trough. In this way, gains can still be made when the market rises while losses can be capped at the stop point, regardless of how much further the investment falls.
The following example compares a buy and hold of the S&P 500 versus a stop-loss strategy for the period of October 1st, 2007 to December 31st, 2009. For illustration purposes, the decision to buy, sell, or hold is made at the open of the month. It is also assumed that the sell metric is a 10% loss from the highest previous month open and the buy metric is a 10% gain from the lowest month open.
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Chart Source: Yahoo Finance S&P 500^GSPC, Date Range: October 1st, 2007 to December 31st, 2009 (http://finance.yahoo.com/echarts?s=%5EGSPC+Interactive#symbol=%5EGSPC;range=1d) Past performance is not an indication or guarantee of future results. Investments in securities involve investment risk, including possible loss of principal amount invested. The return and principal value of stocks fluctuate with changes in market conditions. Shares when sold may be worth more or less than their original cost. This example is hypothetical, and is only meant to illustrate the stop-loss concept. Investments in securities do not offer a fixed rate of return.Principal, yield and/or share price will fluctuate with changes in market conditions and when sold or redeemed, you maymore or less than originally invested. This presentation is meant only to illustrate the stop-loss concept. It is unlikely that the assumed buy/sell metrics could be met exactly in a real-life situation. When a security is not owned it is assumed to be placed in a liquid asset earning 0%. This illustration does not take into account any fees or loads associated with trading securities. The S&P 500 is an unmanaged, capitalization-weighted index. Performance figures assume reinvestment of capital gains, dividends, but do not include any fees or expenses. It is not possible to invest directly in the S&P 500.