The Quest for the Smooth Equity Curves
Most traders care about entry criteria. After all, you can’t extract money from the market if you are not in the market.
But a powerful entry system will only take a trader so far.
The secret sauce in trading lies in position management — this kicks in once a trader puts on trade and the position is live, and exit criteria are at the center of position management.
Exit Criteria
Typically I don’t usually have a Take Profit target — not a fixed one at last. Instead, I have designed my entry system in such a granular way that gives both entry signals and pause signals. An entry signal advises the order entry system to either go long or short.
The pause signal is the in-between land between long and short, and a natural way to be treated as an exit signal.
But Exit Signal Is Not Enough: You Need Money Management Too
In a fast-moving market where the bias in the market direction has changed, exiting a position upon the pause signal is sometimes too late. What typically happens is that we give back profits to the market, and that is frustrating.
Exiting a trade is much more important than entering one.
Designing your own approach to exit trades turns out to be a game-changer in how successful you can manage trades, especially winning ones. This is because if you are the designer, you would have necessarily gone through the process of pouring over my trade records, and have asked some tough questions.
The Central Question: How Much Is Enough For You In A Trade
It is okay that the specific time when you exited a trade is not carved in stone. But it is absolutely essential that you know the answer to this question:
What do you have to see before you will exit the market?
You need to figure out how much is enough for you in a trade.
If you haven’t determined who much is enough in a trade, you will always be at the mercy of other traders. The prices are in perpetual motion with no beginning and no end. YOU will have to decide when to begin (by entering) and when to end (by exiting). If you don’t make that decision to end, somebody or something will end it for you, and it never ends in a good way.
Essentially, what you need to know, for yourself, is your desired rate of return on your trading account per time period.
Money Management
You can figure out your own money management method. But one often suggested approach is that once your trading account has hit the halfway mark of your desired rate of return, you would take off 50% of the PROFIT from the position (note that this is 50% of the profit, not 50% of your position).
An Example Exit Approach
A good way to manage your trades is using a combination of the money management approach and the pause signal.
More concretely, you would exit a position, either in full or in part, at the earlier of:
- when money management kicks in
- when the pause signal kicks in
Time and time again, using this approach results in a smoother equity curve!
Conclusion
To become a consistently profitable trader, your objective is to learn how to let the market tell you what it may do next and determine how much is enough for you. There is a positive correlation between the realization that there is enough in the market for everybody, and being able to decide how much is enough in a trade.
