The one who trades in the stock market came here for making money. But with time, his losses become so large that he even cannot think logically and blow his complete account. When we think of investing in a stock, only one thing comes in our mind – Return. How much return we will get in returns if the money is invested in that stock. We block ourselves not to think about the losses because nobody wants to lose money.
In the world of investment, we can learn a lot from Judo (Martial art). In Judo, the first and the most important lesson is damage control. The same is the case with the stock market. The most important lesson in the stock market is the loss control. We must learn how to cut our losses short. This means selling a stock when it is down 10% from your purchase price.
It sounds simple, but it is very difficult for an investor to cut his position at a loss. The reason is, cutting a position in loss means admitting that you have made a mistake while analyzing. No one wants to sell his position in loss. But if you keep your ego aside, and take a small loss, still it fits enough both and financially to invest the next day. Cutting your losses too early prevents you from suffering a big loss.
Let us understand this with an example.
Let one person did the fundamental and technical analysis on stock ABC and made an investment when it was trading at 50 and he decided the target based on fundamental and technical was 100 and the downside was only limited to 47. But in a few months, the stock fell to 46. There were two situations now, one is to book loss and exit. The other is, hold the stock and wait for the target.
If you have exited from the position, then you would have been in a loss of 7-8 percent and still, you can invest in some other stock and recover this 7-8 percent as It is easy to make a profit of 7-10 percent in one stock. But if you had a strong belief that it will hit 100, then you should not be worried about a small fall.
Now the stock ABC has fallen to 40. Earlier your loss was 7-8 percent, now it is 20 percent. It is difficult to make a 20 percent return than 7-8 percent.
Here is one problem, Stocks does not care who you are and where you have invested. It says you, you made a mistake, you miscalculated, at least in the short term, the stock drops 50 percent and now start trading at 25.
To recover 50 percent, you need to make a 100 percent return on your current price. It is very difficult to make a 100 percent return in a year. On the other side, if you limit your losses at 7-8 percent, you can stay out of trouble and if 1 out of 4 delivers a 25-30 percent return, then you can be wrong for 3 out of every 4 times and still live to invest another day.