From trading perspective stop loss plays a key role in protecting one from unlimited damage. Stoploss order is a risk management tool which provides both traders and investors a better control. There are two types of order
1)Stop Loss Order
2)Stop Limit Order
Stop Loss Order
Stop Loss Order are market orders which provides guaranteed execution of trading instrument when price reaches certain threshold. Sell-stop orders protect long positions by triggering a market sell order and buy-stop orders protect short positions by triggering a market sell order. It is recommended for investors to use sell stop order as the order execution is guaranteed when the price reaches the threshold. Even when there is a sudden downside impulsive movement occurs in the market, price may not trade at the stop loss level but execution will happen at the next available price quote. Stop Loss order will create slippages as execution during rapidly rising/falling market may differ from the placed stop level.
Stop Limit Orders
Stop-Limit Orders are limit orders which provides execution of trading instrument at certain price level but doesnt guarantees price execution in case of extreme impulsive movements/ sudden spikes in the market. Stop Limit orders are used when the investor does not want to sell and is willing to wait for the price to rise back to the limit price. If you are a frequent trade in this market then Stop Limit Orders helps you to execute at better price level.
Stop Limit Orders can guarantee a price limit, but the trade may not be executed in a impulsive market or during price spikes in the market. This can saddle the investor with a substantial loss in a fast market.
New investors are often encouraged to use stop loss orders rather than stop limit orders because at times stop-limit orders may not execute under critical circumstances where markets are falling faster where a exit is mandatory for investors to protect them from losses. However stop-limit orders are little advanced and helps a frequent trader to get better price execution at the determined price level.