Quiz · Risk Management · Beginner
Proven Wrong: A Quiz on Invalidation and Stop Placement
A stop placement quiz for traders who want every stop to mean something. Each scenario asks where the idea behind the trade stops being true.
What it tests
Whether you can place a stop where the trade idea is proven wrong, by price, close, news or time, and keep it above the margin call price.
A stop order is a price. The idea behind it is a condition. A trade is proven wrong when that condition fails, and the stop’s job is to sit at the price where it happens, so the loss it takes is the cost of finding out and nothing more.
Write the condition down first. A stop picked from how much you would like to lose measures your comfort, and the market, which has never seen your account and has no reason to care what you can stand, will trade straight through that comfort on an ordinary afternoon and leave the idea behind the trade untested, so you end up with a loss and no information.
From the condition to the share count
The stop set the share count. A wider stop would have meant fewer shares. The dollar loss stays at $450 either way. Work it the other way round, picking the share count first, and the stop lands wherever the arithmetic puts it, which is usually somewhere the idea is still alive and well.
What the questions test
Every scenario describes a trade and its reason. Your job is to find the point where the reason ends. Read the setup for the reason first and the prices second, since the reason decides which of the prices matters. Options that look precise can still be arbitrary. When a margin loan is involved, work out where the broker steps in before you trust any chart level; the column on why the margin call price is knowable shows the formula.
When you get one wrong
Write down, in a sentence, what the trade was betting on. Then find the first price or event that would make that sentence false. That is where the stop belongs. The lesson on placing a stop where the trade idea is wrong, part of Nobody Rebuilds From Zero, works through the cases with more charts described in words. Once the stop is set, run it through the position size calculator so the share count matches your dollar budget and the stop distance you actually chose.
Pick an answer to mark it
The questions
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The situationA stock in an uptrend pulls back from $58 to a low of $52.40, then turns up. You buy at $53.50, expecting the uptrend to continue.
Show the answer
C: Just under $52.40, the pullback low. An uptrend is a run of higher lows. A trade below $52.40 would make a lower low and break the pattern the trade depends on. A stop at $52.30 risks $1.20 a share; a stop at $53.00 sits inside the pullback's normal movement.
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The situationA stock spent weeks between $70 and $75. It breaks out and you buy at $75.80, expecting buyers to keep paying above the old ceiling.
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A: A move back below $75, inside the old range. The trade is a bet that $75 now holds as a floor. Back inside the range, that bet has failed, even if the stock is still well above $70. Waiting for $70 turns a loss of about a dollar into $5.80 a share, and ten cents sits in ordinary noise.
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The situationYour plan says the idea fails on a daily close below $40 support. At midday the stock pokes down to $39.70 for a few minutes, then recovers and closes at $41.
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B: No, since the close held above $40. The rule was written on a closing basis, and the close was $41. A closing rule cannot be left as a resting order, though, so you have to act near the close yourself, and a close far below $40 can cost more than an intraday stop would. Size the trade for that.
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The situationYou bought a hypothetical software company because you expected its growth to speed up next year. Your chart stop is at $88, and the stock is at $95. The company then cuts its revenue forecast for next year, and the stock opens at $92.
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D: The thesis, since the forecast cut contradicts the reason you bought. The trade rested on faster growth, and the company has just said growth will be slower. The idea is broken while the price is still above the stop. A chart stop covers price; a fundamental thesis needs its own exit, and this is it.
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The situationYou bought a breakout expecting it to run within five trading sessions. Eight sessions later the stock sits at your entry price. The stop has not been touched.
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A: Time, since a breakout that should have run within five sessions has gone nowhere for eight. A breakout is a claim about momentum. Eight flat sessions contradict it, and the trade still carries its full risk while tying up money. A time stop is written into the plan for this case, so you exit near breakeven and free the capital.
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The situationA stock trades at $53. Support sits at $50, and last month the lowest print near that level was $49.85, after which the stock recovered.
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C: Below $49.85, clear of the round number and the prior low. Round numbers attract resting orders, and the $49.85 print already shows the stock can trade just under $50 without breaking. A stop placed below both the round number and the prior low only fills if support has truly given way.
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The situationYou borrow $15,000 to help buy 600 shares at $50, which cost $30,000 in all. Your broker's house maintenance requirement is 30%. The chart says the idea fails below $34.
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B: No: the margin call comes near $35.71, before the $34 stop. Call price is the loan over shares times one minus the requirement: $15,000 / (600 x 0.70) = $35.71. Below that the broker can sell on its own terms. The stop has to sit above $35.71, or the loan and the position have to be smaller.
Your score
0 of 7
Readers also ask
Should a stop loss be a fixed percentage below the entry?
A fixed percentage ignores the chart. A 5% stop can sit above a support level that is doing its job, or far below the point where the idea failed. Place the stop where the reason for the trade breaks, then let the distance decide the share count through your dollar risk budget.
What is the difference between a stop order and a mental stop?
A stop order sits with the broker and turns into a market order when the price trades at or through it, whether you are watching or not. A mental stop is a price you have promised yourself to act on. It needs you to be present and willing on a bad day, so write it down and set an alert at minimum.
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