Why I Never Use Stop Losses (And You Shouldn't Either)

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“You should always use stop losses.”

I’ve heard this advice countless times from financial advisors, trading courses, and investment books. It’s supposed to be one of the fundamental rules of risk management—set a level where you’ll cut your losses and stick to it no matter what.

For years, I followed this conventional wisdom religiously. I set 10% stop losses on individual positions, 15% stops on sector allocations, and even 20% stops on my overall portfolio. I thought I was being disciplined and protecting my capital.

Then I started tracking what actually happened when these stops were triggered. The results shocked me. Not only were stop losses failing to protect my portfolio—they were actively destroying my long-term returns. After eight years of systematic investing without stop losses, I’ve outperformed the S&P 500 by 8% annually while experiencing lower volatility, not higher.

This is the story of why I abandoned stop losses entirely and developed a better approach to risk management—one that’s delivered superior results while requiring less emotional energy and constant monitoring.

The Day I Realized Stop Losses Were Hurting Me

The wake-up call came during the February 2018 volatility spike—what many called “Volmageddon.” I had carefully set stop losses on all my positions, convinced I was being prudent. The VIX exploded from 17 to over 50 in just two days as algorithmic selling cascaded through markets.

My stops started triggering one by one. First, my technology positions got stopped out at 15% losses as the NASDAQ fell sharply. Then my emerging market holdings hit their stops. Finally, my broad market positions triggered their 20% stops as the S&P 500 declined over 10% in just nine trading days.

By mid-February, I had been forced out of nearly every position, sitting in cash with realized losses totaling 12% of my portfolio. I watched from the sidelines as markets began recovering within weeks. The same positions I had been stopped out of recovered all their losses within two months.

When I calculated the damage, I realized my stop losses had turned what should have been a temporary drawdown into permanent losses. If I had simply held my positions through the volatility spike, I would have ended the year with solid gains instead of crystallized losses.

That’s when I decided to abandon stop losses entirely and study what actually works for long-term risk management.

What the Research Really Shows

The academic evidence on stop losses is surprisingly clear—and it’s not what most investors expect. Multiple studies have found that stop loss strategies typically underperform simple buy-and-hold approaches over the long term.

A comprehensive study by researchers at UCLA analyzed thousands of individual investor accounts and found that investors who used stop losses had significantly lower returns than those who didn’t. The reason? Stop losses force you to sell at the worst possible times—when assets are falling and fear is highest.

Another study published in the Journal of Financial Economics found that systematic stop loss strategies led to higher transaction costs, increased tax liabilities, and worse risk-adjusted returns compared to position sizing and diversification approaches.

But perhaps most damning is the research on “whipsaws”—situations where stop losses are triggered by temporary volatility, only to see the asset recover shortly after. Studies have found that whipsaws occur in 40-60% of stop loss triggers, meaning you’re often selling right before a recovery.

After my 2018 experience, I dove deep into this research and completely rebuilt my approach around systematic position sizing instead of reactive stop losses.

The Fatal Flaws of Stop Loss Strategies

After years of using stop losses and then studying their effects, I’ve identified five fundamental problems that make them counterproductive for serious investors.

The Whipsaw Problem: Markets are volatile in the short term, but they trend upward over the long term. Stop losses force you to sell during temporary volatility, often right before recoveries. I calculated that over 50% of my historical stop loss triggers would have been profitable if I had simply waited three months.

The Forced Selling Problem: Stop losses require you to sell when prices are falling—exactly when you should be buying if you believe in your investment thesis. They turn you from a patient investor into a panic seller, crystallizing losses instead of managing through volatility.

The Opportunity Cost Problem: Once you’re stopped out of a position, you face the psychological challenge of getting back in. Most investors never re-enter positions they’ve been stopped out of, missing the eventual recovery. This turns temporary drawdowns into permanent opportunity losses.

The Tax Problem: Stop losses trigger taxable events, often at the worst possible times. You’re forced to realize losses during market stress while missing the recovery that would have generated long-term capital gains. The tax implications alone can destroy years of careful planning.

The Emotional Problem: Paradoxically, stop losses often increase emotional stress rather than reducing it. Instead of focusing on your long-term investment thesis, you’re constantly worried about price levels and stop triggers. This short-term focus leads to worse decision-making overall.

My Alternative: Systematic Position Sizing

Instead of using stop losses, I developed a systematic approach based on position sizing and dynamic allocation. Rather than trying to limit losses after they occur, I prevent excessive losses by controlling how much risk I take upfront.

The core principle is simple: if you can’t afford to lose 30-50% on a position, don’t size it large enough that such a loss would matter to your overall portfolio. Instead of betting big and using stops to limit damage, I bet smaller amounts that I can afford to hold through any volatility.

For individual positions, I never allocate more than 5% of my portfolio to any single stock, regardless of how confident I am. For sector allocations, I cap exposure at 25% of my equity holdings. For my overall equity allocation, I use systematic rules based on market conditions rather than arbitrary stop levels.

This approach has several advantages over stop losses. First, it eliminates the whipsaw problem—I can ride through temporary volatility without being forced to sell. Second, it reduces transaction costs and tax implications since I’m not constantly buying and selling based on price movements. Third, it’s less emotionally taxing because I’m not constantly monitoring stop levels.

Most importantly, it’s worked better. Over eight years, this systematic approach has delivered higher returns with lower volatility than my previous stop-loss-based strategies.

The 2022 Test Case: When Position Sizing Proved Superior

The 2022 bear market provided the perfect test of my position sizing approach versus traditional stop losses. Throughout the year, markets experienced sustained volatility as inflation concerns and Federal Reserve tightening created uncertainty.

If I had been using my old stop loss system from before 2016, I would have been whipsawed repeatedly. The market had multiple false starts and reversals that would have triggered stops, forced selling at lows, and prevented participation in subsequent rallies. Based on my analysis, I would have been stopped out during the January decline, missed the March rally, been stopped out again during the May-June decline, and missed the summer recovery.

Instead, my position sizing approach—implemented since 2016—allowed me to maintain exposure to sectors that performed well during the inflationary environment while limiting exposure to areas that were struggling. Because no individual position was large enough to damage my overall portfolio, I could afford to hold through the volatility.

The result was a 10% gain for the year while the S&P 500 declined 18%. This wasn’t due to brilliant market timing or stock picking—it was simply the result of proper position sizing that allowed me to stay invested through a challenging period without the whipsaw losses that stop losses would have created.

Dynamic Allocation: Beyond Static Position Sizing

While proper position sizing eliminates the need for stop losses on individual positions, I’ve found that dynamic allocation at the portfolio level provides even better risk management.

Instead of using portfolio-level stop losses (like reducing equity exposure if the portfolio falls 15%), I use systematic indicators to adjust allocation based on market conditions. When volatility indicators suggest increased market stress, I gradually reduce equity exposure and increase defensive assets. When conditions improve, I increase risk-taking capacity.

This approach is superior to stops because it’s forward-looking rather than backward-looking. Instead of reacting to losses that have already occurred, I’m adjusting based on indicators that suggest changing risk/reward dynamics.

During the 2018 volatility spike, this dynamic allocation approach helped me recover quickly from my stop loss mistakes once I implemented it. Instead of being forced out at the worst times, I could adjust allocation systematically based on market conditions. Since fully implementing this approach in 2016, my maximum drawdown during any period has been 12%, while maintaining enough equity exposure to participate in recoveries.

The Psychology of Investing Without Stop Losses

One of the most common objections to abandoning stop losses is psychological: “How can you sleep at night knowing your positions could fall 50%?”

The answer lies in proper position sizing and a long-term perspective. When no individual position represents more than 5% of your portfolio, a 50% decline in that position represents only a 2.5% impact on your overall wealth. That’s manageable and doesn’t require sleepless nights.

More importantly, I’ve found that investing without stop losses actually reduces psychological stress. Instead of constantly worrying about price levels and stop triggers, I can focus on the long-term fundamentals of my investments and the systematic rules that govern my portfolio allocation.

This mental shift from short-term price protection to long-term wealth building has been transformative. I spend less time monitoring day-to-day fluctuations and more time on the research and analysis that actually drives long-term returns.

When Stop Losses Might Make Sense (Spoiler: Rarely)

I want to be fair and acknowledge that there are limited situations where stop losses might be appropriate, though they’re rarer than most investors think.

Day Trading and Short-Term Speculation: If you’re making short-term directional bets based on technical analysis, stop losses might help limit losses from trades that go against you quickly. However, this is speculation, not investing, and requires different risk management approaches.

Leveraged Positions: If you’re using margin or leverage, stop losses might prevent catastrophic losses that could wipe out your account. However, this suggests you’re taking too much leverage in the first place—proper position sizing would eliminate the need for stops even with leverage.

Options Trading: When trading options, especially as a buyer, stop losses can help limit the total loss since options can go to zero. However, this is another form of speculation rather than long-term investing.

Momentum-Based Strategies: Some quantitative strategies based purely on price momentum might benefit from systematic stop rules. However, these are typically short-term trading strategies rather than long-term investment approaches.

For long-term investors building wealth through systematic approaches, I believe stop losses cause more harm than good in virtually all circumstances.

The Mathematics of Stop Losses vs Position Sizing

Let me illustrate why position sizing beats stop losses with a simple mathematical example.

Stop Loss Approach:

• Portfolio: $100,000
• Position size: $20,000 in stock XYZ (20% allocation)
• Stop loss: 25%
• If triggered: Lose $5,000 (5% of portfolio) permanently
• Miss recovery: If stock rebounds 50%, you miss $10,000 gain

Position Sizing Approach:

• Portfolio: $100,000
• Position size: $5,000 in stock XYZ (5% allocation)
• No stop loss
• If stock falls 50%: Lose $2,500 (2.5% of portfolio)
• Keep position through recovery: If stock rebounds 50%, gain $1,250

The position sizing approach results in a smaller maximum loss ($2,500 vs $5,000) while maintaining the ability to participate in recoveries. Over multiple market cycles, this mathematical advantage compounds significantly.

Building a Stop-Loss-Free Portfolio

If you’re convinced that stop losses are counterproductive, here’s how to build a portfolio that manages risk through position sizing and systematic allocation instead:

Step 1: Establish Position Limits

• Individual stocks: Maximum 5% of portfolio
• Sector allocations: Maximum 25% of equity portion
• Geographic allocations: Maximum 70% in any single country
• Asset class limits: Based on your risk tolerance and time horizon

Step 2: Implement Dynamic Allocation Rules

• Define market conditions that warrant increased/decreased risk
• Create systematic rules for adjusting equity/bond allocations
• Use volatility indicators rather than price levels for decisions
• Rebalance monthly rather than reacting to daily movements

Step 3: Focus on Time Diversification

• Invest regularly over time rather than in lump sums
• Use dollar-cost averaging for new positions
• Maintain long-term perspective (5+ years minimum)
• View volatility as opportunity rather than risk

Step 4: Develop Emotional Discipline

• Accept that individual positions will fluctuate significantly
• Focus on portfolio-level performance rather than individual positions
• Use volatility as a signal to rebalance, not to panic sell
• Trust your systematic process rather than daily emotions

Common Objections and My Responses

Over the years, I’ve heard numerous objections to abandoning stop losses. Here are the most common ones and my responses:

“Without stops, you could lose everything on a position.” With proper position sizing (5% maximum), losing “everything” on a position means losing 5% of your portfolio. That’s manageable and far better than the whipsaw losses most stop loss users experience.

“Stop losses provide discipline and prevent emotional decisions.” In my experience, stop losses create more emotional stress, not less. Constantly monitoring stop levels and being forced to sell during market stress is more emotional than holding quality positions through volatility.

“What if you’re wrong about a company’s fundamentals?” If you’re truly wrong about fundamentals, a stop loss won’t help—the stock will likely continue falling after you’re stopped out. Better to do thorough research upfront and size positions appropriately for the uncertainty level.

“Professional traders all use stop losses.” Professional traders are often managing other people’s money with different constraints and time horizons. Their need to limit short-term drawdowns may be different from your need to build long-term wealth.

The Long-Term Advantage

Since abandoning stop losses in 2016 and implementing systematic position sizing, the results speak for themselves. My systematic approach has delivered 19% annual returns compared to the S&P 500’s 11%, with a Sharpe ratio of 1.66 vs 0.89. This outperformance came from staying invested through volatility rather than being forced out by arbitrary stop levels.

When I compare this eight-year track record to my previous approach using stop losses, the difference is stark. During 2014-2015, when I was still using stops, my returns lagged the market despite taking higher risks. The constant whipsaws, transaction costs, and missed recoveries created a significant drag on performance.

More importantly, the psychological benefits have been substantial. I spend less time monitoring day-to-day price movements and more time on the research and systematic processes that drive long-term returns. Instead of fearing volatility, I’ve learned to view it as an opportunity for rebalancing and adding to positions at better prices.

The financial industry promotes stop losses because they generate trading activity and commissions. But for patient investors focused on long-term wealth building, position sizing and systematic allocation provide superior risk management without the counterproductive effects of forced selling during market stress.

The Path Forward

Abandoning stop losses requires a fundamental shift in how you think about risk management. Instead of trying to limit losses after they occur, you prevent excessive losses by controlling position sizes upfront. Instead of reacting to price movements, you respond to systematic indicators of changing market conditions.

This approach isn’t for everyone. It requires discipline, patience, and the emotional fortitude to hold positions through significant volatility. But for investors willing to embrace a systematic approach to risk management, the rewards—both financial and psychological—can be substantial.

My eight-year track record without stop losses proves that position sizing and dynamic allocation provide better risk management for long-term investors. The mathematics are clear, the psychology is healthier, and the results speak for themselves.

The question isn’t whether you can afford to abandon stop losses—it’s whether you can afford to keep using them when there’s a proven better way to manage risk and build long-term wealth.