DEFINITION of 'Protective Stop'

A strategy designed to protect existing gains or thwart further losses by means of a stop-loss order or limit order. A protective stop is set to activate at a certain price level and assures that an investor will make a predetermined profit or lose a predetermined amount. For example, if one buys a stock for $50 and wishes to limit losses to 10%, one would simply set a protective stop at $45.

BREAKING DOWN 'Protective Stop'

Although a protective stop is considered to be a risk-averse strategy, it can also be profit averse. Because it assumes that a stock will continue to fall past the exit target, a protective stop can sometimes backfire with volatile stocks that have a wide trading range. Hence, it is prudent to consider the behavior of the security when using or setting a protective stop.

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