A Laissez-faire Approach To Exiting Trades

Think back to the all the trades you've made since being involved in the financial markets. How many of those do you recall would have worked (produced a profit), if only you had left well enough alone? For the newer trader, I would venture to guess that there are too many to mention. Now, that's not to suggest that seasoned professionals on occasion exit trades prematurely. In this business, there is no such thing as perfection; however, the difference is that Pros do it less often as they have learned to embrace the uncertainty inherent in any speculative undertaking.

One way to avoid this trading pitfall is to fully automate, or program the exit strategy. This means, once the trade is on, exit in place, "leave it alone" or Laissez-faire. Some of you may know this French phrase in political or governmental terms, but this notion of "non-interference" is very applicable to trading. After all, aren't the emotional reactions, or micromanagement of trades, the primary cause of early exits out of perfectly good trades?

When I bring up this topic to students, I frequently hear that their biggest winning trades were the ones they just "let go." In other words, they keep themselves detached emotionally from the trade, and just let the market do whatever it is going to do. If this way of trading seems to produce better results, then why is it that more traders don't implement this Laissez-faire approach to exiting their trades?

Part of it may just be due to the fact the new traders aren't aware of all the capabilities of their execution platform. In addition, the faction of excitement-seeking traders probably think it's no fun to have the computer do all the work. Another reason might be psychological. As I've written about in the past, stifling the fears of losing, and giving back profits, are challenging when first starting out. That's why I encourage students to systematize the entire trading process. With the advent of technology, that's very easy to do nowadays. Most advanced trading platforms have features in them well-suited for traders to simply place the trade and walk away.

The most common of these mechanisms is called a trailing stop, which is placed similarly to a regular stop (below the market for longs, and above the market for shorts). The difference is that when price begins moving in the favored direction, the stop automatically begins to trail by the pre-designated amount; hence, the name. These stops can be set specifically for dollar, tick, or percentage amounts.

For example: A trader goes long 1 ES (E-mini S&P) at 1095 and immediately places a trailing stop sell order to sell 1 contract with a 2-point ($100.00) trailing stop. This sets the stop price at 1093. After placing the order, the ES immediately drops to 1093.50 and begins to rally. At this point, the trailing stop order is not executed because ES has not fallen below the 2-point level from the entry (1095). Let's say that the ES begins a sharp rally and is now trading at 1105, the stop has now adjusted to 1103 (1105 minus 2 points). If the ES does not trade higher than 1105 and then falls to 1103, the trailing stop sell order will trigger a market order, thereby capturing the 8-point profit.

As with anything, there are pros and cons to this type of order. I find it most useful in placing this type of order after there is a reasonable profit in place as a way to capture at least some of those winnings. I generally don't use these types of stops at the inception of a trade because of the market's tendency to fluctuate coming out of levels, which is where I enter most of my trades.

My favorite automated exits though, are those with various options, thus giving greater flexibility. What's important here is that these more sophisticated exits allow the trade to better unfold.

Some of these options include a pre-set amount at which the stop automatically moves to breakeven, the price the trail stop is to kick in, and a limit order at one or several profit targets. The best platforms are, of course, the ones that allow for all of the aforementioned options on a single trade. I do utilize these types of exit orders quite frequently, especially when carrying winning trades into the overnight session. I can simply set the exit, and go to sleep. When I wake up the next morning, I'll have one of two outcomes: A small profit or a big winner if the market had a solid trend in the Globex session. Note that one of my rules is only holding winning trades into the evening session. I NEVER take a losing trade into the post market.

To conclude, it's clear that emotions along with poor planning and a lack of preparation, play a big role in bad trade management. So why not then, utilize the tools available to mitigate some of these issues? After all, trading should be logical and methodical, not irrational and emotional. But I think you already knew that.

So until next time, I hope everyone has a profitable week, a joyous holiday season, and a prosperous New Year.

Learn to Trade Now

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