In another thread we had a side discussion a while back about exits, when to take them, how to take them, etc. Since I believe this is an important topic, I wanted to open up a dialogue about this. The main question it seems, is whether to exit wholly or to scale out of a position as it goes in your favour. The argument for scaling out is: 1] improves probability of being 'right' and therefore improving a trader's mindset 2] no trend moves forever 3] improving profitability as many moves go past break even and then reverse and go negative The argument for taking a 100% exit is: 1] allows trader to catch a longer trend [since the profitability of trading rests mainly, but not solely, on this one objective (getting a large R) this is a huge point] Tharp mentions in his book that when a trader mentions that he takes partial exits, he asks him to go back and calculate how much money he is leaving behind, claiming that in most cases, there is a large difference. Yet, many successful traders, such as Tony Oz, scale out of positions. Personally, I do not scale out of positions as I have predefined goals for the trade (as well as contingency plans if it doesnt reach that point!) and as I trade quite small (between 500-2000 shares) it is easy to get in and out. What is your experience? Which do you believe to be superior? What does it depend on?
Since 90% of the business is psychological, I believe the statistically best trading system may not neccessarily the best system. For more, read Josh Lukeman's "Market Maker's Edge". Lukeman on scaled exit: "The solution to balancing the forces of greed and fear... is the scaled exit approach....provide you with flexibility, price discovery and petential for greater profits..... satisfies your urge to lock in a profit, while allow you to maximize your gains by letting some profits run.... emotional and psychological advantage...." Just as many arguments you can make for scaled entry, you can for scaled exit.
Exits are probably the most important factor in profitability. Not stop losses -- those MUST be done. Personally my exits SUCK! Chuck Le Beau has a formula for profit efficiency. It is take your exit -- double the holding time and see what the P/L difference is. compare that to your P/L and the ratio is your profit efficiency. I swing trade and my profit efficiency is negative! In almost every case if i would have held on longer i would be 1.36 times more profitable! I think if you are strictly day-trading vs a longer time frame -- the answer to your question about scaling out is different. I believe Tharp's reference was to longer term trading when he wrote his first book. In that context he is right -- scaling out in a longer time frame is cutting your profits short. In a shorter time frame -- well, read his second book with June. I think it is suggested to scale out in some instances. I may have these confused. but, it may come down to what was posted already -- you gotta do what works for you. BTW i think this is a great thread and i look forward to this discussion -- exits rule! regards/greg
Just a quick reply as I'm busy trend following/ and longer term systems it's usually best to scale in and trail a stop When I traded EMLX in 99 I scaled in all the time with a stop that trailed it. I made a killing with it. anti--trend systems/ and range it is ususally best to not scale in as there can be limited profit potential and each time it moves in your favor adding to the position can significantly raise your average cost. An example I'm trading (F) Ford FOrd rarely moves more than 2 points a day. If you are a daytrader adding to the position when it is up 2 points for a long or down 2 points for a short can hurt. Sometimes though a stock can break. I tend to short heavily overbought stock and buy heavily oversold stocks. I am going anti the long term trend. The profit potential can be sometimes limited. (usually just a small retracment is what I'm looking for. When I try to really squeeze all I can I end up getting a far worse price. rtharp
Since I am fading extrem moves that are contra the main trend. I know I must scale out on the exit. I am often too big to do it all at once anyway. I usually start scaling out about half way towards my profit goal, and just use a trailing stop as I scale out should it continue the main trend.
gh2, that is a really good point, short term trading means that by its very nature there is limited movement, so a scaled exit would make more sense. however in a longer term trading strategy (such as swing trading) then as time and trend may be on your side, taking a partial exit may be cutting your potential profits.
I scale out of positions about half the time. It all depends on the market. If the market goes against me and I see my stock weakening, and I don't close the position all together I'll definitely take partials. I think it's probably a toss up over the long run. I often times leave profits on the table but then again I often times am able to lock in something--which is better than nothing. Taking partials definitely helps psychologically, no doubt about that. It's a lot easier to relax and follow the rules when you know you're in the profit zone.
scaling in AND out because you're moving size etc is one thing... but having a larger position size when you lose than when you win is a totally different story, and is probably motivated more by the desire to feel comfortable than anything else, and where the math over time is however pretty clear... i should think that most traders nevertheless work this way, ie take partial profits just so they can say "i was right" but then again most traders don't make it over time... and i don't think that anybody ever suggested you could become successful by doing the comfortable thing that appeases your ego needs, particularly when that means a reduced likelihood of your long term survival probability... beginners fail by letting their losses run... more advanced traders fail by cutting their winners through reduced position size and reduced market exposure... it's not about how often you're right or wrong, it's about how big you win when you do win, whatever your time frame.
Scaling does not necessarily result in having a larger position on at a loss. I scale out of positions in both profitable and losing trades given certain criteria. I rarely take a lose with my largest position, while I often take a profit with the majority of a position. I have compared my current strategy to an identical trade management strategy with the exception of holding the full position until either the objective or stop had been reached. My math indicated this scaling method produced more profit than simply holding the original position until it reaches a static target. Through the assignment of probabilities to certain conditions I am capable of suffering reduced loses while also allowing, in certain instances, profit to expand beyond my original expectations. Unexpected expansions are not the norm, but through trade management, those uncommon incidences of gain more than offset the marginally reduced profit from leaving on a portion of the my original position that is stopped out at a lower price after it had reached an objective.
I rarely take a loss with my largest position, while I often take a profit with the majority of a position. tjmjr, i think we're in full agreement. what i was alluding to was a method geared to the desire to feel right about "timing markets" and employed by many with the in my opinion erroneous assumption that nobody ever went broke taking a small profit, and where they enter trades with say 2 units, will take a loss at their predetermined cut off point on both units, but when positive sell 1 unit with an early and accordingly small profit, and only let the second unit run on slightly longer. that's the situation where you're bigger when you lose than when you win, because they are only scaling out their positive trades. scaling in and out on the other hand, ie increasing unit size when positive and reducing when negative, is something which absolutely makes sense, because that enables your winners to be much larger than your losers. cheers