The Motley Fool says stop orders are meant to protect you if a stock suddenly plunges. But they'll also kick you out of promising stocks that drop briefly.

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Ask The Fool

Stop stop losses

Q: I’ve set some stop orders on stocks I bought at around 15 to 20 percent below the current price. This has resulted in my selling promising stocks before they have a chance to perform. What am I doing wrong?

A: Stop orders are placed with brokers to automatically sell shares if they drop to a certain level.

They’re meant to protect you if a stock suddenly plunges. But they’ll also kick you out of stocks that drop briefly.

If you’re planning to hang on to a stock for years, you might want to just expect some volatility and avoid stop orders. But do keep up with your holdings regularly.

Fool’s school

Dividend yield 101

A company’s “dividend yield” expresses the relationship of two numbers: a stock’s price and the amount of its annual dividend. It’s a number investors need to understand.

Consider General Electric. It was recently trading around $30 per share, paying out 31 cents per quarter ($1.24 per year) as a dividend. Take $1.24 and divide it by $30, and you’ll get 0.04. Multiply that by 100 and you’ve got a dividend yield of 4 percent.

If you pay $30 for a share of GE today, you’ll earn 4 percent per year on your investment, just from dividends alone.

Companies rarely decrease or eliminate their dividends, as that would make investors unhappy. Dividends of healthy companies tend to increase over time, delivering additional value to shareholders. GE, for example, has increased its dividend by an annual average of 13 percent over the past 20 years.

A dividend will hold steady for months or years at a time. But the yield usually fluctuates daily, since it’s tied to the stock’s price. As a stock price rises, the yield falls, and vice versa. If GE shares, for example, suddenly doubled in price to $60, the yield would be halved, to 2 percent ($1.24 divided by $60 is 0.02).

You can find some hefty yields among companies whose stock prices have tumbled — but be careful. If you spot an unusually high dividend, make sure the company isn’t in so much trouble that a dividend cut is around the corner.

Companies such as Washington Mutual, Citigroup, Xerox, AT&T, General Motors and Eastman Kodak have cut their dividends when struggling. They’ve often been increased, later.

Lastly, understand that not all companies pay dividends. Younger or quickly growing companies prefer to plow their extra cash back into operations. Oracle, Yahoo and Cisco Systems don’t pay dividends. Microsoft began paying a dividend in 2003.

Visit www.fool.com or write The Fool, c/o The Seattle Times, P.O. Box 70, Seattle, WA 98111.