Saturday, December 27, 2014

Sometimes you win by losing (small)...

Below are some charts of US stocks where attempted entries in early December very quickly failed (they are shown on the trades list). Taking those small losses as per our rules was unquestionably the right thing to do. Sure, you can get whipsawed out of a position, but we can always re-enter if price subsequently triggers a new entry.

Remember, we look to enter as soon as possible on a price breakout. On a long trade, if price falls back below that breakout level, then the breakout has failed, and the reason for remaining in the position no longer remains valid. Hence, we cut our losses very quickly.
In How to Trade in Stocks, Jesse Livermore talked about this very point:

"In the beginning of a trade I watch the stock as closely as possible, because I have hopefully waited to buy it on a breakout. If it does not breakout or in fact goes in the opposite direction, then I will immediately get out of the stock.

Why? It's simple, the stock did not do what I expected it to do, therefore my judgement was wrong, never mind "Why" it was wrong - the fact is that it "Was" wrong so I must get out of the position." 

As we can see in these examples (and if you go through the trades list there will be a whole host more of similar price moves), had we held on in the hope that price would go back in our favour would have led to those small losses becoming much bigger, leading to all sorts of problems....

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