For instance, at the present time, U. S. Steel is selling at about 95, and you can buy a call on it at 97 or a put at 93. That is by paying a certain amount, which at present is $137.50, you can have the privilege of buying 100 shares of U. S. Steel at 97, within thirty days of the date of the purchase of your call. If Steel should go up to 101 you could have your broker buy it at 97 and sell it at the market, and you would make a profit of four points, less the cost of your call and commissions.
As a method of operating in the stock market, we do not recommend the buying of puts and calls. Professional speculators may be able to use them to advantage sometimes, but for the outsider, who is not in close touch with the market, there is nothing about them to recommend.
Here is one point: the people who sell puts and calls fix the terms. If the market is irregular, they will set the point of buying or selling far away from the market price. These people are shrewd traders and they make the terms in their own favor. It is generally said that nearly all the buyers of puts and calls lose, and that is our opinion. Therefore, we advise you to leave them alone.
CHAPTER XXI.
STOP LOSS ORDERS
A "stop-loss" is an order to your broker to sell you out if the market sells down a certain number of points. Many speculators place stop loss orders only two points from the market price. The idea is that when the market starts to go down it is likely to continue going down, and by taking a two-point loss you may save a much greater loss. It also can be applied to a short sale, when you give your broker instructions to buy in the stock for you if it goes up a certain number of points.
We read so much in the financial news about stop-loss orders or merely stop orders, which is the same thing, the average reader is likely to get the idea that it is something he must use for his own protection, but it is our opinion that it is something that should be used very seldom by those who trade along the broad lines recommended by us. If your purchases were made in stocks that were very cheap, you should continue to hold them in case of a reaction. If you bought them outright or on a substantial margin, you are not in danger, and you should look upon your loss merely as a paper loss. In the great majority of cases, you will be a great deal better off to hold on to your stocks than you would be if you had a stop-loss order.
A large number of stop-loss orders is a good thing for the short interests. Let us take U. S. Steel again, as an example. Suppose it is selling at 94 and it is believed that there are a large number of stop-loss orders at 92. The short interests may sell the stock heavily and force it down to 92. Then the brokers with stop-loss orders would begin to sell; that would force the price down still lower, and the short interests could buy in to cover at this lower price.
Therefore, we believe that stop-loss orders are a bad thing and, as a rule, do not recommend them.