As an investor, the biggest risk you face is losing money. While the goal is to make money in the stock market, no matter how much research you put into a stock it doesn’t guarantee that you will see a positive return on your investment. If only there was a way to lower the risk of losing money. Well there is and it is called a stop-loss order.

Understand that a stop-loss order won’t eliminate the possibility of losing money, but it can help you to lessen the risk. The good news is that a stop-loss order is simple to set up and almost every broker will offer this option for you.

So let’s take a look at what a stop-loss order is and how it can start helping you to lower your investing risk.

What Is A Stop-Loss Order?

At its most basic, a stop-loss order is an instruction you place with your broker to sell a stock in the event the price drops below a certain limit.

For example, let’s say you want to buy stock in XYZ company. It is currently trading at $75 per share and it is releasing it quarterly earnings in a few days. You think they are going to blow their estimates out of the water, but there is always the risk that other investors won’t be impressed and sell the stock.

You feel that a share price of $70 is what you don’t want to go below. So you place your stop-loss order with your broker. You buy 100 shares at $75 per share and place the stop-loss at $70.

Fast forward to their earnings release and the stop price pops to $80 per share. You have nothing to fear as you were only worried about a potential loss.

But let’s say the stock did drop to $65 per share. When the price hit $70, it would trigger your broker to sell your shares, protecting you from further loss.

So while you did lose money, you limited your loss by having a stop-loss order in place.

Other Ways To Use A Stop-Loss Order

While the example above was for a long position, you can also use a stop-loss order on a short position as well.