How To Set Stops II
On Monday I discussed setting initial protective stops
and the mindset that is necessary for effectively incorporating them into your
trading plan. Today, I want to discuss the potential of using a breakeven stop,
and what you should think about when deciding whether you want to implement
them.
Once a trade is showing a sizable
profit, many traders will automatically move their stop from its original
placement up to near their purchase price. Many times there may not be any
technical reason for the trade to be moved to this level. The idea is that the
trader does not want to see a winning trade turn into a loss. At worst they
would like to break even on the trade. There can be arguments made for and
against using breakeven stops. Certainly a study could be done if someone wanted
to backtest the optimal use of breakeven stops on the particular patterns in
which they trade. From my standpoint, a simple evaluation of one’s own psyche
is just as, if not more important than any backtest. Whether you decide to
incorporate breakeven stops will depend on your own attitudes towards money
management.
When considering whether you
should use breakeven stops and how quickly to implement them, ask yourself which
would bother you more…seeing a nice gain turn into a loss, or getting stopped
out of your position and then seeing the stock take off? Some traders feel that
although they may end up taking some deeper stop outs, and losing on more trades
rather than scratching them, the few trades that do turn around and go on to big
gains will outweigh these negatives. Other traders would rather play it safe
than sorry, preserve their profits, and stick with those positions that manage
to stay above their buy point.
Who’s right? I’m of the
opinion that either method is valid. Traders should set their stops in a way
that they are comfortable with and will let them sleep at night. You always
need to be thinking about your next trade, not your last one. Therefore I would
use the method where a negative outcome would bother you less.
Personally, I
HATE seeing a gain turn into a loss. For me this
means scratching a fair amount of trades that don’t hold up. I move my stop to
breakeven fairly quickly. For intermediate-term trades I always move my stop to
breakeven if I’m up 15% or more. Most times I’ll do it quicker than that.
Since I trade short-term patterns as well, I can always look for a re-entry if
I’m stopped out and the stock reverses.
By determining the method most
suitable for your personality, and executing consistently you’ll be able to more
easily trade in your comfort zone.
As I write this a little early
today (3 pm Eastern), the indices seem to be stalling out near their recent
highs. Today could turn out to be a
distribution day with volume running higher than yesterday. On the other hand,
over the last two days I’ve seeing a fair amount of quality stocks breaking out
of basing patterns on good volume:
(
TALX |
Quote |
Chart |
News |
PowerRating),
(
ECLG |
Quote |
Chart |
News |
PowerRating),
(
TASR |
Quote |
Chart |
News |
PowerRating) and
(
CYBX |
Quote |
Chart |
News |
PowerRating)
to name a few. If you find yourself with more long exposure than your
comfortable with, and are concerned the market might be topping out, you can
always look to short the QQQ’s or SPY’s as a hedge. Just make sure you have
sound entry and exit strategies for this type of trade before attempting it. =All
that said, I’m still approaching things with a bullish bias.
Best of luck with your trading,
Rob Hanna