Buy-Stops Above – Definition

Cite this article as:"Buy-Stops Above – Definition," in The Business Professor, updated July 30, 2019, last accessed October 22, 2020, https://thebusinessprofessor.com/lesson/buy-stops-above-definition/.

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Buy Stops Above Definition

Buy Stops Above is a form of trading strategy where an investor is of the view that the price of a stock will increase at a certain point of time after it passes a certain phase of resistance. In this strategy, an investor prefers to place a buy stop order at a price that is a bit more in comparison to the resistance level. A resistance level usually arises when sell limit orders concentrate at a specific price. It is a way of holding a huge market sentiment for the given price ceiling of a stock.

A Little More on What is is Buy Stops Above

Buy stops above analyzes fluctuations in stock prices and the areas of resistance and support. Resistance and support theory are based on the assumption that the price of a share is regulated between resistance (having an upper hand), and support (with a lesser bracket). One can see these barriers on a chart with two different lines, one for support and the other one for resistance. The concentration of limit orders taking place at the given prices makes both the lines visible. Talking about the upper hand, investors place either too large or too small of sell limit orders at a specific price, while on the lower hand, investors place a huge quantum of buy orders in order to form a falling obstacle for the price of share.

When the price of a share moves towards the level of resistance, that is upper bracket of price, the buy stops above investment strategy comes into the picture. When the share price comes at that level, the intense sell limit orders will be affected. In this manner, the price of share falls beneath the line of resistance. According to a theory for the buy stops above strategy, the price of share will increase. An investor or a trader will use buy stop theory when the price starts increasing so as to buy shares.

Stock Movement Following a Resistance Breakout

As per the buy stops above technique, a stock needs to be reassessed when the movement of a stock goes above the line of resistance. When the market supply is more than the market demand, that will be the price point presented by the line of resistance. This situation gives a downward push to the price of a share. When the price exceeds that line, breakout takes place. And it stays in the higher bracket until the market reassesses the stock. The previous buy stop level can convert itself into an amazing sell limit order by being a good level of support ahead.

Reference for “Buy Stops Above”

Academic Research

High frequency pairs trading with us treasury securities: Risks and rewards for hedge funds, Nath, P. (2003). High frequency pairs trading with us treasury securities: Risks and rewards for hedge funds. Available at SSRN 565441. This paper examines the implementation of a simple pairs trading strategy with automatic extreme risk control using the entire universe of securities in the highly liquid secondary market for U.S. government debt. It documents, from a practical viewpoint, the contrasts in the generic features of pairs trading with such securities compared with equities. The rewards emanating from the proposed strategy, after constructing an appropriate risk benchmark, are appraised using various traditional and relatively newer metrics. Using data from the repo and money market, estimates are also made of the distribution of absolute returns after accounting for financing and transaction costs.

High-frequency trading, Chordia, T., Goyal, A., Lehmann, B. N., & Saar, G. (2013). High-frequency trading. Johnson School Research Paper Series, (20-2013). High-frequency traders in financial markets have been making media headlines. As a relatively new phenomenon, much of the discussion is not backed by solid academic research. In this special issue of the Journal of Financial Markets on High-Frequency Trading, we present several research papers that aim to inform the discussion on this important issue.

The value of stop loss strategies, Lei, A. Y., & Li, H. (2009). The value of stop loss strategies. Financial Services Review18(1), 23-51. Stop loss strategies can prevent investors from holding their losing investments too long by automatically prompting the sales of losing investments. We examine the impacts of stop loss strategies on the return and risk of individual common stocks. Our results indicate that these strategies neither reduce nor increase investors’ losses relative to a buy-and-hold strategy once we extend security returns from past realizations to possible future paths. One unique stop loss mechanism, nevertheless, helps investors to reduce investment risk. These findings suggest that the value of stop loss strategies may come largely from risk reduction rather than return improvement.

The Profitability of technical trading rules in US futures markets: A data snooping free test, Park, C. H., & Irwin, S. H. (2005). The Profitability of technical trading rules in US futures markets: A data snooping free test. Numerous empirical studies have investigated the profitability of technical trading rules in a wide variety of markets, and many of them found positive profits. Despite positive evidence about profitability and improvements in testing procedures, skepticism about technical trading profits remains widespread among academics mainly due to data snooping problems. This study tries to mitigate the problems by confirming the results of a previous study and then replicating the original testing procedure on a new body of data. Results indicate that in 12 U.S. futures markets technical trading profits have gradually declined over time. Substantial technical trading profits during the 1978-1984 period are no longer available in the 1985-2003 period.

Taming momentum crashes: A simple stop-loss strategy, Han, Y., Zhou, G., & Zhu, Y. (2016). Taming momentum crashes: A simple stop-loss strategy. Available at SSRN 2407199. In this paper, we propose a stop-loss strategy to limit the downside risk of the well-known momentum strategy. At a stop-level of 10%, we find, with data from January 1926 to December 2013, that the maximum monthly losses of the equal- and value-weighted momentum strategies go down from -49.79% to -11.36% and from -64.97% to -23.28%, while the Sharpe ratios are more than doubled at the same time. We also provide a general equilibrium model of stop-loss traders and non-stop traders and show that the market price differs from the price in the case of no stop-loss traders by a barrier option.

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