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I assume most of you have heard about the missile scare over the weekend and what the good people in Hawaii faced. I’ve listened to stories, and it is obvious that many people were extremely frightened. My heart aches for them.
Now that the dust has settled and we now know the scare is over, I wonder what would have occurred if this had happened during the week when the market was open? No doubt there would have been a significant drop in stocks and most likely a flight to safety into T-Bonds and Gold. It highlighted to me what happens from time to time with stops and how they can actually do damage to a portfolio. Let me explain. Suppose the scare over the weekend was not a scare but the real thing. With the market closed, stops would be useless. Those developers that held positions and used stops as a safety mechanism would find themselves with a big loss. In a leverage setting, the damage would be severe. Now let’s suppose the scare ended up being just a scare but occurred during the week when the market was open. No doubt the market would rip down and then, once better information was available, rip right back to where it was to begin with. The danger with just using stops is that you could easily get stopped out with a loss only to see market come back without you. Why do I bring this up? Because I’ve had it happen to me in years past. It’s the reason I employ a much different risk method today. For example, OTM put options provide protection but don’t take you out of the game. They also work during market close. I know they cost extra, but over the long pull, they can be a big contributor to success. I’d be interested in hearing how others use stops or whatever and how they would trade during an event like we saw this weekend. Thanks!
Question about stops on futures.
Would those stops be honored?
On sudden gap down, like 3% down open in ES futures. ES is now at 2789; let’s say
there are stops at 2760, and market opens at 2705. Would stops be executed or developers
would be stuck holding positions?
Agree that over leveraged positions would suffer a lot.
In your scenario, if the market opens at 2705, stop orders will execute at 2705, if liquidity allows.
Stop limit orders will execute at the limit price when (and if) the market hits the predetermined stop price level.
To be clear, a stop order issues a MARKET order once the stop price is hit. It does NOT guarantee that you will get the stop price you placed. You are only guaranteed that a market order is place. In a falling market, the the price you exit at can be significantly below the stop price you desire. A stop-limit is similar but instead of a market order being issued, a limit order is issued. Again, in a falling market, it could fall and STAY significantly below where you wanted to get out. Everything I say above assumes the market is OPEN. If it is CLOSED, nothing happens! You ride it down. When the market opens, then, and only then will the market order be placed. It could be WAY below your desired exit. Ask those how stops worked out when Standard & Poor’s downgraded the credit rating for United States on a Friday night.
You’re not the only one that misses the point about market open/closed. The good news is that many strategies on C2 are really day trading systems. BUT unplanned market closures do occur as well. Things like planes flying into buildings, missiles, earthquakes, and whatever can quickly cause officials to close the market. Don’t forget market circuit breakers either. I’m not a scaredy cat. I just like to sleep at night AND know what the most I could lose.
Imagine another scenario.
Something happens. And market drops. And then drops. And more. and more. and more.
Without a stop in place, you might end up with a tap on a shoulder or call from your margin clerk.
I do agree that options are better in that respect, but they are not always available for all products, or liquidity is very thin.
So I would rather take my stop, and re-enter market again if it rips higher, rather than sit and watch it keep dropping and hoping that it will bounce back any minute now.
Nothing wrong with that approach as long as you’re at/near the computer for reentry. My experience is that it is not always obvious if/when to get back in (like 2008). Some guys are good at it. I find it necessary to keep an iron fist on the emotions when things are going crazy. Another approach to getting back in is to use a call option. You’re also right about liquidity. Mostly I use options on SPY or another ETF with a deep market.
In my portfolio I presently have three strategies, including yours, which hedge with options and I often manually increase the numbers of those options, especially over weekends, to hedge my rather large overall portfolio. While stops are necessary, for overall protection options are vastly superior.
Karl, you are a wise man and will be well served. I’m glad when subs take an active role. I don’t know what options you are purchasing, but since I am trading the ES contract in the strategy you are in, I would consider ES options if you’re not buying those already. In my personal TDA account, I buy short term OTM puts (1-3 days) and often short OTM calls to reduce or completely eliminate the cost of those puts. I like ES contracts because that they are traded 24 hours (except weekends), settle in ES contract, and are considered to be 1256 contracts for tax purposes (60% long term and 40% short term capital gains). Unfortunately, C2 does not support options on ES. That’s why I use SPY which work but are not optimal.
C2 does not allow anymore auto traders to manually trade in their auto trading account. So until recently I was limited to add to existing option positions via the Manage Positions page. Now, finally, IB has revamped its Account Management page which allowed me to open a linked account where I can freely trade on my own. So thank you for your advice.
