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Hi Brent,
Stops are an interesting topic that I have researched extensively while
building trading systems. My thoughts on stops differ from that of most
writers with the notable exception of Perry Kaufman. All too often
traders who understand the importance of money management trade with
tight stops based on oversimplified criteria like parabolic indicator or
% of money invested or yesterdays's low or high, etc. The problem is,
as you indicate, the tighter the stop, the more likely noise will stop
you out with a loss even if your entry was good and the trade will show
a profit if you stay in. Therefore the best stops are not stops in the
traditional sense but rather short and long exit signals based on
careful system design and with due respect to the reasons why the system
got you into the trade. Do the justifications for entry still exist?
Bottom line is that exiting a position requires as much thought in
system development as entries do. The better the system, the less often
you will wish you had a stop loss that was not already part of the
system itself. These days, many system writers are looking to
volatility as part of the criteria for entry and exit, but other factors
involve partial vs. complete profit taking, looking at multiple time
frames. etc.
Best wishes,
James
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