Stop Gain

Ok, so we've all heard of the importance of stop losses. The greater wisdom behind stop losses is that they not only provide a way to prevent account bleeding beyond a certain point, but also allow one to regroup and return to normal trading that reflects the positive edge that one (presumably) has. From a numerical standpoint, they prevent asymmetric losses that often destroy hard-fought returns. Thus, normal positive-edge trading can resume once one clears one's head (or in the case of algorithmic trading, return to the normal distribution of returns after preventing an outsized outlier negative return).

When it comes to gains, we often hear the phrase "let your winners run." However, you never hear by how much to let those winners run. More often than not, I've seen healthy winners turns into tiny winners, or worse yet, losers.

An interesting concept I've developed in the course of recent trading is that of a stop gain. The idea behind establishing a practice for limiting gains is this: by taking the stance that we should always allow winners to run, we're essentially fooling ourselves into believing that we're bound to experience outsized gains whenever a security shows a gain. This mentality is statistically unsound, and we should instead put forth as much effort in determining a gain target as much as we do in determining a stop loss.

Very few traders seem to view their net trading returns as the statistical accumulation of many sequential trades. Instead, they tend to see the next trade before them as potentially "the big one." A much more productive mentality would be to realize that each trade has limited upside, and to be perfectly happy stopping a trade once it reaches a certain return. Beyond a certain point, we enter wishful thinking in believing that a certain trade is the one that will take our accounts to the sky. In the process, we instead find ourselves eating dirt.

Being able to accept a healthy gain and sit on your hands is one of the most important skills in trading!! By doing so, you can establish a new "support line" on your equity curve. Before you know it, compounding returns will get you to that dream point where the "big one" would have taken you.