I once mentioned the phrase "It's not how you start, it's how you finish." Likewise, it's not how you enter a trade, it's how you EXIT that determines a winning or losing trade.
That reason alone is proof enough that your exits are way more important than your entries.
When it is time to exit, most people hesitate because they are gripped by 2 key emotions - Greed & Fear.
Of the two, Greed is the easier emotion to manage IF you know how to do it. Not knowing how can just as easily result in a significant psychological bashing of the mind like Fear can render. In this part, I'll give you a tip to manage your Greed.
This method which i personally use is for swing trading and to some extent day trading (depending on the chart's time frame you're using). Because this method is really much like a trailing stop method, take note to use it ONLY when your trade is in PROFIT. Never use this for scalping!
I've learned from one of my trading teachers that the first and most important focus you must achieve after you have entered a trade is to aim for the BREAK EVEN point. That means your stock must come to a point where it has moved in your favour and is in profit enough to cover commissions, or if you trade forex, the currency pair must move in your favour till it has covered the initial bid/ask spread loss.
Do not even think of profits if your stock hasn't broke even. For without a break even, there is no profit. And if you haven't broke even? You're still holding a loss. Logical? Absolutely ;)
Many people start to dream of the profits they can make the moment they enter a trade and when they don't, their psychology takes a beating. Learn to condition your mind and keep your emotions intact. Throughout a trade process, your thoughts, your mind, your actions and psychology must all come into convergence. What this effectively means is your whole must be in unity. This ensures you are mindful enough to react to the market in a correct fashion when it calls for it.
Trading is a step by step process. According to my teacher Conrad, in order to finish first, you must first finish. And how you cross the finishing line is a step by step process. Therefore, don't start thinking about the end when you only just begun, think about the next step and thereafter the next and so on and so forth. Before you know it, the finishing line would just be in front of you to reach out and grab!
Thus, don't think profit when your trade is obviously still in a loss! Think break even first, and once you've achieved break even, then you start thinking about profits, and after you have moved into profitable territory, THEN we move on to protecting profits.
Ok! We're done with the 'short' intro.. Now moving on to the method. After doing my research and analyzing my charts, I determine a good point of entry (remember lesson 1 - Buying the dip in an uptrend and selling the rally on the downtrend). I'm happy, everything on my chart shows no reason why I should not enter. I take my entry.
For example, I BUY a LONG EUR/USD position at 1.3445 with 1 contract and place my stop loss 30 pips BELOW my entry price. I purposely do not set a profit target here. The bid/ask (selling/buying) spread was at 1.3443/1.3445. Therefore after entry, my immediate paper loss is 2 pips, because the selling price is at 1.3443.
Now my immediate focus shifts to achieving the break even price. Few moments later the bid/ask spread has gone up to 1.3445/1.3447. Ahah! Now I have broke even! At this point, I continue to monitor the trade.
Some more moments pass and the trade has moved into the profitable zone and has gone up to say.. 1.3475. That is a 30 pip gain. Now, I immediately shift my stop loss up from 1.3415 to 1.3450 so that I LOCK IN MY PROFITS. What this ensures is now, I have totally eliminated the emotion of Fear and only have Greed to manage. No matter what happens next, even if the trade fell back down all the way, i would be stopped out at 1.3450 with a 5 pip profit already in my pocket GUARANTEED.
You see the psychological management in that move? Now i no longer have to worry about losing money because that move ENSURED I would make money no matter what. Now as the trade continues its up trend, I shift my stop UP accordingly. In an uptrend, the price moves from a Low to a High, retraces back to a Higher Low and then moves up to a Higher High confirming the uptrend. (See Chart attached)
How far up do I shift the stop is determined by where the previous low point in price is. I place the stop just a few pips below the previous low so that I give the price space to breathe when it retraces back before it continues its uptrend. I do this continually UNTIL a trend reversal takes place. By that time, the price would have been high enough and my profits would have run long and far enough. I just let the trend reverse and get stopped out in profit *wink* ;) So in effect, my stop loss has become my stop profit!
Advantages of this method include:
1. IF the trend continues, your profits are as good as unlimited. That is KEY, because you are in the business to cut your losses fast and let your profits run wild!
2. Once you have placed your stop at the break even point, you have effectively eliminated a potentially devastating emotion called Fear. With one less risk to manage, your psychology would strengthen and you can channel your focus to the next important thing - managing Greed & profits.
Disadvantages:
1. The initial phase of achieving break even needs time to monitor. It can take as long or short as it likes. If you don't have the time to do so, don't use this method of exit.
Here is the chart showing a nice uptrend. Most of the time, your chart may not show such a beautiful uptrend and that's just the way it is. If the markets were so organized and predictable, I'd have been a millionaire yesterday and a billionaire today. So don't be so rigid!
Once again recall:
First things first, achieve BREAK EVEN.
Secondly, PROTECT PROFITS as you make them. This is of VITAL importance if you are to become a consistently profitable trader; one who never allows profits to degenerate into losses ;)
That's it for now. Till then, trade smart, trade well ;)
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