1. Exits have a greater bearing on profitability than entries … only exceeded by position sizing. (See key points on Kelly position sizing below.)
2. Exit when you have more to lose than you have to gain. “Cut your losses early and let your profits run” is extremely hard to accomplish.
3. A decision NOT to take a profit must represent a view that the current market remains undervalued (for a long) or overvalued (for a short).
4. Profits are not real until they are taken. Exits should:
a) minimize losses, and
b) maximize profits – including minimizing the amount of profit you give back
5. Expect to be wrong. Predetermine the level at which you will cut the loss “mercilessly” and unemotionally move on.
6. Consider getting flat ahead of high stakes market moving events. Reenter when whipsawing has subsided and you can open the trade with fresh eyes.
7. Prices often fall a little short of historical targets. In a profitable trade, approaching an historical pivot level, perfect timing efforts can cost a lot. Don’t be greedy when nearing a profit target. (It feels worse to witness a price move to a nearby profit target that reverses than it does to book profits and see the profit target broken through.)
8. In the absence of a hedge (multiple options here), maintain a “catastrophic stop.”
9. Sell expensive stuff (in a long position); buy cheap stuff (cover shorts).
10. When a rally is long in the tooth and your long is profitable, consider manually trailing price action. In a short position, when a selloff has “bloodied” everyone and traders are “puking” shares … selling at lows … cover your short.
11. If the investment is intended to be an “income investment,” (i.e. taken principally to harvest dividend payments) – consider closing the position on price auction adversity and a loss exceeding the anticipated dividend payment.
12. Only 30% of a stock’s price movement is idiosyncratic – i.e. not related to movement within it’s index. If the correlation to the index is high – holding the position in the face of a declining index is unnecessarily risky.
13. Be a “strong holder.”
Traits of Strong Holders:
• Not shaken out on sudden down-moves, or sucked into the market at or near the top.
• Trade on the right side of the market.
• Adequately capitalized and position size accordingly.
• Read the market with high degree of competence.
• Close losing trades promptly.
• View small losses as a business expense and a teaching moment.
• May even have more losing trades than winning trades, but overall, the profitability of the winning trades far outweigh the combined effect of the losing trades. Keep a trade journal … understand and monitor expectancy.
On Kelly Position Sizing:
• Optimal position size reduces risk and maximizes profit.
• Kelly sizing limits the amount of shares/contracts held when you are
• Kelly sizing is designed to achieve maximum geometric growth by sizing in proportion to “edge.” In other words, Kelly helps ensure you only risk capital when you have an edge and the payoff is high.