Alternative Risk Management Strategies to Using Hard Stops on Charts
Hard-stop loss orders aren't the only way to manage risk. How you manage risk is irrelevant as long as you always protect your capital!
What if chart-based stop losses aren’t for you? What if you’ve decided that hard stops are just a convenient way to throw money out the window? Death by a thousand cuts is still death, I agree.
Some of you may find looking at the charts useless and don’t make your trading decision based on charts. Regarding trading, various factors such as intuition, insider knowledge, market fundamentals, other people’s opinions, or current events could influence your decisions. The possibilities are endless. For you, then, looking at the charts and managing risk based on them isn’t really an option. But you must still protect your capital somehow!
Have you considered using time stops?
Time stops are trade exits based on the length of time a trade has been open.
In simple terms - if the price doesn’t do X in Y amount of time, I will close the trade manually.
Something is wrong when you trade on a 1-minute time frame, and nothing happens for hours. There are forces at play you did not account for. Get out. If nothing else, you’re losing money on opportunity cost alone. The same can be applied to larger time frames. If you trade on 4-hour candles and you’ve been in a trade for a week without any real movement, you might need to reconsider the trading idea.
You will need plenty of experience behind your belt to determine what is too much time in one trade for your personal trading style and time frame. You can start by asking yourself:
How long do my winning trades usually need to play out - minutes, hours, days, months?
What are the odds I’m wrong on this trading idea if the price didn’t do what I expected after a certain period?
How long should I wait for the trade to play out?
Am I missing out on other opportunities in the market, waiting in this trade?
Some trades and styles depend heavily on time factors, such as breakouts, reversals, pullbacks, and trading cycles. When their timing is off, you should be on alert for signs of trouble.
You can use anything as a stop trigger - prompting you to exit the trade.
If you decide to trade based on news and the market doesn’t react as expected, it’s best to exit the trade immediately. I avoid trading the news as it often leads to a sell-off. “Buy the rumor, sell the news.”
Those who profit from event-driven market movements (such as mergers, splits, adoption data, forks, announcements, changes, and upgrades) are those who have prior knowledge, such as insiders or specialists. I am neither. By the time I get ahold of some news, the market has already completed most of the move.
For those among you who have access to early information, I would advise you to get in early and get out even earlier, before the actual event. Take the advantage that you have and exit before the trade gets crowded. The meat of the move has probably already happened.
If your trading entry is based on specific information or factor, the same should apply to your exit.
If you opened a trade because the black cat is sitting on the roof and then jumps off the roof, you had better close that trade.
When you open a trade based on the moon cycles, you know what to do when they change.
Should you open a trade because some other trader opened it, essentially copy trading, you also need to close the trade if they close it!
If you trade using your intuition, what is it saying now?
When entering a trade because of a signal from some indicators, that indicator should also signal an exit.
If you bought something because you heard of a merger or some fundamental change, and that doesn’t happen, get out! The reason for entry has been invalidated.
Use the same exit approach and criteria as you use for the entry. Sounds logical, doesn’t it?
This is especially relevant when the market does the opposite (or nothing) when you assume it should be making big moves. The absence of a reaction can be an important indication.
Don’t get attached to your trades!
Whatever you do, don’t fall into complacency and the need to keep a trade open once the reason for opening the trade in the first place has disappeared.
Traders often look toward other indicators, correlations, and opinions to justify refusing to close a position, especially when they would have to take a loss.
If you do that, you’re not trading your system; you’re denying reality and prolonging the inevitable on hope, which will only get you into trouble.
What if you don’t have a system to your madness and can’t define your trades?
Here’s a simple metric for all such examples:
When in doubt, get the hell out!
Cut mercilessly. Cut immediately. Be the first passenger to jump off the sinking ship and ensure your survival.
The first rule in trading is to preserve your capital and survive to fight another day!
Remember, you can always get back in if it is a false alarm. But recovering a large portion of your portfolio is not that simple. One mistake can cost you dearly!
If you don’t have a hard stop loss, positing sizing is crucial!
In trading and investing strategies, where placing a stop loss is impossible or problematic, there is only one solution—cutting down on your size.
Trade smaller. Enter the trade with only a small percentage of your available portfolio and cut it or add to the position, depending on what happens next.
For example, if you want to buy 100,000 USD worth of Bitcoin, why not buy in layers, in increments?
There are at least three ways of planning and setting up a strategy for entering a trade in layers:
Based on time. Every hour, day, week… Like DCA (dollar cost averaging).
Based on price. You can determine the price range in which you would like to accumulate (buy or sell) and set up orders accordingly.
Based on confirmation. You can open a smaller starting position and then wait to see the reaction in the market or some other factors you are following. If your trading idea is confirmed, you add to your position.
WARNING:
The combined orders or positions must never exceed your risk tolerance and plan!
Only add to the winners, never the losers, if you want to increase your position beyond the initial risk parameters.
Mistakes were made.
I traded predominantly using layered spot buying for the first few years. I was trying to buy cheap, use the market panic to get in and sell as the prices returned to normal. The deeper the dip, the more I would buy.
It wasn’t a bad strategy, but one had to be extremely disciplined and never risk more than appropriate. And for me, that was too much to handle at that time, as I’ve mentioned in my other articles. That strategy was once my undoing.
If I had been smart about it and limited my buying to 10% or 20% of my whole trading portfolio, even the eventual worst-case scenario wouldn’t be the end of the world.
But I wanted to make money, and my portfolio wasn’t all that large, so I needed to bet big every time to feel like I was making money.
Since I was trading unprotected (without stops), relying on my ability to exit manually, whether at any signs of trouble or at a decent bounce, I was asking for trouble. It’s one of my character flaws; I suck at taking a loss in the heat of the moment. And since I know this about myself, having paid a hefty tuition in the markets, I now always protect myself, from myself, with some unbreakable rules. And so should you.
Set up rules regarding your trading strategy and risk management.
Determine upfront how much you are willing to risk on any trade and calculate your maximum position size. And most importantly, follow those rules to the letter!
Even if you don’t trade systematically, you should still know the reasons for entering your trade, the expected target, and when you’ll be proven wrong on your trading idea.
Write all this down because you won’t remember any of it when you’re caught in the emotional rollercoaster of trading.
But how about diversification and hedging?
We’ll get to that in one of the following articles. But if you want a short answer.
Diversification in crypto makes zero sense because everything is far too correlated, with some rare exceptions.
Hedging does serve a purpose, especially if you’re a hodler or an investor and have most of your funds stacked away from the exchanges (recommended). Then it can be a valuable tool to occasionally take some precautions in the market and maintain the ability to react quickly to critical situations.
Stay safe out there, and remember:
Your rules are there for your protection. Never break them!
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