Why moving stop loss up or down is a bad idea

A novice stock market trader is often tempted to move the stop loss further up if he has shorted the stock or move the stop loss further down if he has gone long on the stock. This temptation is better avoided and it can lead to financial loss that may be unbearable. Let us understand with an example why it is a bad idea for a daily trader to keep moving the stop loss up or down and why it is a good strategy to stick to the stop loss strictly.

Ramesh, a day trader on the stock market, buys (takes a long position) 100 shares of company ABC at Rs 200 per share, expecting the price to go up to Rs 210 during the day. He places his stop loss at Rs 197, assuming that if the price declines from his purchase price of Rs 200, it would bounce back from the level of Rs197.50 and sets the target (book profit) price at Rs 210. Now, contrary to Ramesh’s expectation, instead of the price going up from Rs 200 to Rs 210, the price of ABC declines to Rs 197.20 At this point, Ramesh decides to move the stop loss further down to Rs 192 as he reckons that the price of ABC is likely to rebound from around the second demand zone at Rs 192.50-Rs 194 and, thereby, he would be able to avoid getting stopped out of the trade with a loss of Rs 300(i.e. Rs 3 per share). Now, the price of ABC further declines to Rs 192.20 and Ramesh panics. His notional loss on this trade has mounted to Rs780 (i.e. Rs7.80 per share). He decides to move his stop loss further down to Rs 187.5 as he finds yet another demand zone at Rs 188-190, but the stock price relentlessly breaches one demand zone after another and reaches Rs 188. The notional loss suffered by Ramesh on this trade has now mounted to Rs 1200 (i.e. Rs200 minus Rs 188 x 100). Now, he has two options, either to square off the trade and exit with a loss of Rs 1200 or to move his stop loss further down to yet another demand zone at the price level of, say, Rs 185 and look at the prospect of increasing his loss on this trade to Rs 1,500.

Instead of moving his stop loss and incurring a heavy loss on a single trade, Ramesh could have strictly stuck to his stop loss and allowed the stop loss to be triggered at Rs 197 in the first place. He would have incurred a loss of Rs 300 on his first trade. Then, he could have placed a fresh buy order at Rs 194, with a stop loss at Rs 192. This trade would have also resulted in a loss of Rs 200. If Ramesh was still confident of a bounce back, he could have placed a third order at Rs 190 with a stop loss at Rs 188, which if triggered, would have again resulted in a loss of Rs 200. Now, compared with the loss of Rs 1,200 suffered by Ramesh on a single trade by moving the stop loss progressively down to Rs 188, the total loss suffered by him on the three trades would have been much lesser at Rs 700 (Rs 300+Rs 200+Rs 200) if he had allowed the stop losses to be triggered on all three positions.

The same applies to stop loss on a short position (sell trade), in which case it is a bad idea to move the stop loss higher up when the stock price is moving against the short position, i.e., rising higher up from the sell price.