“Stop orders” instruct a financial services firm to buy or sell at market price once the stock hits a specified target price, called the “stop price.” They are usually placed with the intention of limiting losses or protecting profits.
Many investors believe that stop orders are the surest way to protect their capital and help to ensure portfolio performance. They also point to the fact that they do not have time to watch their portfolios during market hours.
Our experience with stop orders has been just the opposite.
First, history has shown us that most investors do not understand that once a stop order is elected and the stop price is hit, the order converts to a market order. This means that the stock can be sold at a price below the original stop price. In many cases, since stop orders are converted during a downward spike in the market, the eventual sale is indeed significantly lower.
Second, we have considered offering stop orders on stocks in which we make a market. Many Raymond James clients, however, do not execute transactions in the companies in which Raymond James publishes research and makes markets. Therefore, in order to make this option a success, we would have to offer this type of order on all stocks.
Next, in our discussions with other broker/dealers with whom we conduct business for stocks in which we do not make markets, we have been informed that they will not guarantee us stops on the order flow we send to them.
While a few wholesale firms have indicated they would offer this to us, it carries a theoretical risk to the execution price. Since wholesalers are in business to trade versus their own proprietary book, it is conceivable they will elect to take a converted stop order down to a level where they feel comfortable it will contribute to the profitability of that trading book. This is not to suggest that the wholesaler is acting unethically, but rather using the market knowledge at his or her disposal to price the order at an advantageous price point –perhaps at the lowest technical support level of the stock.
Last, it would quite simply not be good business practice. In fact, offering stops on order flow we are giving out to other firms could raise the eyebrows of industry regulators. Having to guarantee the ability of other firms to trade effectively – while still striving to meet clients’ expectations of satisfactory execution – could also serve to damage our credibility and create unnecessary losses for the firm.
Of course, our first priority is to put Raymond James clients and their needs first. As such, we will continue looking for ways to offer clients the best alternatives for preservation of capital in difficult market environments.