One technique that has really helped me improve my trading psychology and consequently my trading results is to carefully examine where my head is at BEFORE I close a trade. I do that by incorporating a “closing trade checklist” into my process.
CLOSING TRADE CHECKLIST – Why do I want to close the trade?
Psychological Reasons
- Am I scared, nervous, or doubtful? This is the first question I ask myself, because its the most important. If the answer is YES then its time to peel back the onion to discover the source of that discomfort. Don’t worry….nothing will change on your trade in the next 15 minutes. Here are a few places that examination has led me…
- Position Size too Big: Very common for me in the beginning. Its an exaggeration, but if sweat forms on your brow when the stock moves 15 cents against you or you think about your position morning, noon, and night, your position size is too big. Reduce the size of your trades so that normal market volatility doesn’t bother you.
- Scared about losing a profit: We all want and need profitable trades but if a trader perpetually takes off winning trades with baby wins, they’ll never participate in the huge wins necessary to cover all the losing trades. Look to see if there is a technical reason for closing the trade. Maybe you can have it both ways by making an adjustment to the trade that will keep you in it.
- Wannabe Trader Mentality: Close winning trades and hope losing trades become profitable
- Pro Trader Mentality: Close losing trades quickly and hope winning trades go higher.
- Doubtfulness: Did someone place that doubt in my mind? Did my trading buddy say “XYZ sucks”. Did Cramer tell me “There are better places to invest”. Or are there other reasons. Why am I doubtful 3 whole days after I was confident? Where and why did the doubt creep in?
- Often, through the above process, I discover that my knee -jerk reason for wanting to close a trade holds no validity or fact-based reason so I keep it on.
Fact – Based Reasons
- Time Stop: As an option trader, time is always important. When I put on a trade, I set a time stop on it. If the stock hesitates / does nothing for a specific period of time, I will kill the trade. The duration of the time stop varies with the expected duration of the trade itself.
- Price Stop: As a technical trader, I like trades where there is a clear line in the sand that tells me I know I am wrong. If that line gets violated, I am out.
- Profit Target Achieved: If trading a range where i bought near support and now the stock has worked up near resistance, the trade has achieved its expectation; time to take it off. If the stock breaks through resistance, re-assess.
- Roll, Protect, Harvest: I see sharp traders do this all the time on strong trending stocks.. They take a winning position and roll up and out to both harvest profits and keep them in the trade. By constantly rolling to higher strikes and farther out in time they also keep their risk profile approximately the same as the original trade.
- Binary Event: I generally close trades ahead of binary events like earnings or a drug trial data release. Something about getting cut in half in 5 seconds that I did not enjoy. If I do decide to “play earnings” or some other event, I will create a structure that gives me a “cheap shot” with lunch money that I am fine losing 100%
- Macro / Company Specific: Sometimes events will happen that will make me change my mind on a sector or stock. An example might be Hillary’s Tweet on Biotech drug pricing or an Elizabeth Warren war chant on Big Banks. Discretion is often the better part of valor.
- Market Exposure: Sometimes if I find my portfolio over-exposed to the long or short side as general market conditions change, I will go through and close trades that are technically fine to reduce that exposure.
- Vacation or other personal reasons: When I go on vacation, I like to go on vacation so I shut it down. There have been times where I’ve been waste deep in garbage at home and could not spend time managing positions, so I cleared the account.
- No Reason: If you read “Market Wizards“, you’ll read about more than one instance of a Wizard walking in on a Monday morning and closing all positions “For no reason”. Total re-boots are sometimes necessary and appropriate. At the end of the day, you’re in control. If you want to simply start over with a clear head and refocused mind, then wiping out all your positions may be the best move you can make.
I am sure you can add to the list with reasons that are important for you.
Action Activities
- Create a “Closing Trade Checklist” for yourself
- ( If it’s not written down, you don’t have one”)
- Incorporate the Checklist into your Trading Process
- Periodically recap your “Reasons for Killing Trades”. You will likely find clusters within your typical answers.
- If your clusters tend to fall into the psychological category as they often do, its time to get out the mirror and peel back the onion on those psychological traps that are likely holding you back.
- Over time, track your progress migration from psychological reasons to fact-based trading decisions to close trades.
Knowledge is real power. Creating the checklist and really working it will be very revealing to you. It will give you the information necessary to begin the process to effect change and move toward a place of more robust decision making that will improve your trading performance.
Happy Hunting and Good Trading!
