Personalized Protection
By Michelle B on Feb 26, 2007 in Michelle B's Posts, Stock Market
Michelle B submits:
I read somewhere you never give back more than half your profits on a trade. How do you trail your stops on a day trade eg: yesterday’s MXIM.
Perhaps you are referring to this excerpt from the StockTickr interview:
StockTickr: What’s your exit strategy for winning and losing trades?
Michelle: My stop loss is a certain percentage of my capital I am willing to risk, never exceeding 1%. If I have paper profits matching the amount I am willing to risk, I won’t give back more than 30%. Otherwise, I let my target be reached.
The often heard admonition, Never let a profit turn into a loss, is like all the other trading rules of thumb: It works until it doesn’t. John made that terse observation at Caravaggio’s blog. Summarized in that short sentence is what troubles me about such commonly held pearls of trading wisdom. Such a pearl retains its beauty only until the inevitable time when it loses its luster, such as with my own 30% guideline. There are trades that shortly after I book the 30%, the stock ramps, leaving me to wonder about the merits of following such a guideline.
What is paramount is that a trader uses some kind of strategy to protect profits and preserve capital, both financial and mental, and that strategy is consistently followed long enough to determine if it is an effective one or not, effective in the sense that profits are accumulated. There are various ways of accomplishing these goals, and the chosen approach needs to be tailored to both the trader and the kind of trading the trader does.
In my kind of trading, I have concluded that booking a minimum of 30% of paper profits works for me. Most of my trades are small to moderate gains. The less frequent ones are either small losses or big winners that do not get stopped out via by my rule and continue up to the expected target.
I want to emphasize that my particular trading pearl of wisdom is based on the amount I am willing to risk. Once my paper profits match what I was willing to risk, that is, 1R, I will keep at least 30% of that amount. Once my profits are 2R, I will keep a minimum of 50%, and once my profits are 3R or higher, a minimum of 70% of profits are kept. Often, based on the price action and candlesticks, I will keep a much higher percentage of profits.
EDIT: This post has been corrected per Sylvain Thibault’s and Caravaggio’s comments. See Sylvain Thibault’s comment below for additional details of his trade and the hypothetical application of my profit protection rule to his particular trade in MXIM.
Tags: profit-protection, Risk Management, Stop_Losses, Trailing_Stops
6 Comment(s)
By Sylvain Thibault on Feb 26, 2007 | Reply
Thanks for the detailed answer Michelle. Exits are the hardest part of trading for me. For MXIM the gap was Thursday, not Friday. I entered on a break of the 5th 15min bar and exited at break even on the 8th. It was up 1.7R at the peak so with your method I would have gained .57R
By Caravaggio on Feb 26, 2007 | Reply
Nice post. I like your approach Michelle. It’s clearly been well thought through, perhaps with the input of much experience. I know it’s very basic, but I think an elemental starting point is to make sure the exit strategy is aligned with the entry strategy in terms of reasoning, time horizon etc. I try to keep this in mind at all times when I am considering profit-protection strategies.
PS - I think you are referring to John’s entry on my blog.
http://the3500.wordpress.com/2007/02/09/week-13-fx-trading-results-2/#comments
By Michelle B on Feb 26, 2007 | Reply
Sylvain Thibault, Thanks for the correction and providing more details about your MXIM trade. Yes, my particular profit protection rule could have been applied in the manner you described.
Caravaggio, I thought that was from a comment at your blog!!! I checked and just could not find it. Thanks and my post is now corrected.
By Joao Henrique on Feb 26, 2007 | Reply
Michelle,
Great post!
I think rigid rules are great because they take out the emotional component of the trade. But if you want to “let the profits run” you have to allow a certain degree of flexibility. Flexibility is better achieved by using discretionary or voluntary exits. Then you face a paradox.
What about to have the best of the two approaches? At first I would like to take away the emotional component, or at least reduce it so I can give the trade more room. I would rather book partial profits instead of locking profit using a stop orders. Now I can focus on discretionary exit, using candle/price patterns.
but,… one size does not fit all…
I hope you can understand my bad English
Best Regards from Brazil.
By Michelle B on Feb 27, 2007 | Reply
Joao, thanks for the thoughtful comment. Partial profit taking is a valid way of accumulating profits. I do take partial profits in certain cases. On the whole, however, with my typical lot size, time frame, and very precise targets, my personalized profit protection works for me.
If a trader does not pay stock commission on a per share basis, and/or does not have unlimited daytrades because the trader does not have the required account balance, then preserving profits by taking partial profits can be problematic.
As we both have said, a trader needs to protect profits the most effective way that fits the trader’s kind of trading and also personality.
By Joao Henrique on Feb 27, 2007 | Reply
Michelle, you are absolutely right. That´s exactly why I don´t take partial profits in my DT account. I don´t have good account balance neither my broker offer per share commissions. But sometimes I do transform DT´s onto swing trades, booking about 80% profit and riding the remaining shares. It´s just like a new trade.
I see people get upset when they exit on target or get stopped out by their own management rules and afterwords see the stock skyrocket. But this is part of their own game and they must accept it or will be in trouble to follow the rules.
On the other hand, discretionary exit can make you bail out too early or hold on too much and the emotional component can cloud your perception.