This post is inspired by.....
How do you protect yourself against a fall like this? If you look at the intraday chart for TIVO, it fell within a matter of minutes. If you had a hard stop in place, chances are you got a bad fill. Consider an even worse scenario dear readers. What if a stock in which you hold a long position gaps down over 50%, not even giving you a chance to get out for a decent loss? Can happen. Does happen. Will happen. So, what can you do in such a scenario? Basically, nothing.
But there are ways you can minimize your losses in case this happens. Actually, the key lies in acting properly before it happens. No, I am not asking you to try and predict a fall like this. What I am talking about is proper risk management.
In the end, its ALL about risk management dear readers. Its all about the risk/reward ratio. I like to think that if you take care of the risk, the rewards will take care of themselves. A very important part of risk management is position sizing. And if I can "implement" position sizing with a small trading account, there is no reason why all you readers can't do so with your accounts. Here is how it would have helped you in a situation like this.
Say, I don't believe in position sizing and I went all in a which stock gaps down 60%. Ouch! Now to break even, I will need 150% profits on my remaining capital! Tough, isn't it?? Could take you years to break even after a loss like this.
Now let's consider the alternative scenario where the maximum I allocate in any position is 10% of my trading capital. That's still a pretty aggressive strategy if I have a large trading account. Again, my stock gaps down 60%. But now, due to my allocating only 10% of my trading capital in this stock, I suffer "only" a 6% loss on my total capital. To breakeven, I need a gain of 6.3% going forward.
150% vs 6.3%. Think about it!