The most important element of trading

01/29/2019

When will you stop losing trades because of bad exits?

It has been said by more than one professional trader that entries are easy but good exits are difficult.  Agree or not, in the least we can say, we would like to have fewer losing trades and stay in the winning trades longer.

How many times have you had an opportunity to get a winner and ended either with a very small profit or even a loss because you did not exit the trade in time?

How can I be so stupid?  I had a winner and now I let  it go against me.

Yep, we have heard that one before.  So what do you do?

Well, you could keep doing the same thing you have been doing and try and perfect your technique.  What technique?  That of losing money?

I am sure that is not what you want to do.  But are you willing to try something that might seem foreign to you?  It may seem radical, but it is simply a well-designed approach that has been used for years

Reward to Risk ratio?

Yes, you have heard of it before, but have you actually used it?  Do you really know how to use it?

You do?  Well, I am surprised.  All you do is set an exit for X times your risk.  Right?  Sure, so what is your risk?  And how do you determine what the risk is and what is the value of  X?  You could just make up a risk and arbitrarily set a 3 to 1ratio  or so.  I have had mentors tell me that I needed at least a 4 to 1 win loss ratio on every trade. 

Really?  Suppose your price never hits that area.  If it did, how far back did it come to stop you out before hitting your goal?  So, what is the answer?

Actually, there are several methods each with merits and shortcomings.

  1.  Some say that a 1 tick above the entry bar high for shorts or below the low for longs will work.  That might be true if volatility is very low and price is pretty stable.  But it provides a pretty low return even at 4 to 1 reward to risk ratio. 
  2.  Another approach is accepted risk. One decides how much they are willing to lose in order to make an accepted ratio of win to loss.  That is a convenient way to start out, but it is not related to price in any way and simply a way to establish a basis for loss containment.   
  3.  The last approach is to have some understanding as to the range of price movement that occurred on previous candles and use that to determine how much risk you have to accept in order to avoid being stopped out. But the reward is a rather nebulous concept for it does not suggest how far price may move in the future before retracing to a stop out point.

In none of these has the effect of a successful entry factored in.  In my research, I have determined that the reward to risk ratio is far less important than the odds of a successful entry and exit.  Rather than trying to offset your loses with huge gains it appears to be far more reliable to limit your loses by more successful entries and exits even if the win to loss ratio is small.  It is far better to have many smaller gains and a very few large losses because one can control the outcome with careful planning beginning with trade entry.

I know that this concept might be hard to comprehend and harder to accomplish due to the amount of computation that would have to be done early in the trade. 

Here is how it works

As soon as the trade is entered you must compute what price action was in previous bars factoring in the distance of movement and how much back tracking was done to try and avoid a trade that would be stopped out.  By using that data, you compute a risk to increase your odds of not getting stopped out.  Once your risk is established you must compute a reasonable reward in relation to the risk.  And once that is done you must compute your actual stop and exit prices to complete the exit of the trade.  And you must do this quickly so that they are in place before price has run through the computed price points.

Too hard you say?

What if I told you, I have done it for you

I am talking about a system that does just that, based on hard mathematics.  If you consider that odds play a huge part in a successful outcome, then it is possible to use mathematics to increase those odds.

What if you had this at the top of your chart?

The 1st line is the TWIT (TW Index Trader) and the 2nd and 3rd line is the TWTM which is what the focus is on.  We have our stop and exit that we simply enter as an OCO and then let it run.  It shows a Computed Risk of $81.00 for a stop at 1474.50 and our target is 1471.30 (rounded) we have a target gain of $240 or about a 3:1 reward to loss ratio.  It also shows that we are currently up $70.00 in the trade.  You have all the information on the top of your chart.  Not only can you watch price on the chart but you can follow your gains right on the chart.  Flash Exit is another feature that is based on price action allowing you take profits early before hitting your goal.  All this provided with the Tested Wisdom Trade Manager (TWTM).  You can use it on any chart to trade any symbol.  This one was used on the futures trading the Russell 2000 and the trade was entered with the TWIT mentioned above.

In all fairness, you can’t buy either of them at this time because it is still in Beta testing but it should be released soon.  I will have more for you on this in the near future.  Keep an eye open for a live trading video using the TWIT and TWTM coming your way.

See you on the other side,

Gary Odom

Update

This happened while I was typing the above.  I kept sliding my exit point and moving my stop down to make sure I had a gain even with a stop out.

I would say that is pretty good for a $81 computed risk

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