A few weeks back, I kicked off the Intelligent Investor Series as part of my weekly commentaries. Th...
Taking Quick Profits Versus Boxing in Profits: "Bread and Butter" or "Bread Crumbs?" (Part 1)
11/10/2008 12:01 am EST
I am fortunate enough to mentor a diverse group of traders, some of them professionals, some of them just starting out. It’s a fascinating experience as a teacher to teach each of these traders one on one, because the goal is not to make them clones of me, but to develop them into successful traders with their own style of trading. Each of them has different strengths and weaknesses, and different ways of looking at the market. They all progress at their own rate. Some of them manage other people’s money (I currently mentor two different CTAs, a hedge fund manager, and the manager of the midwest branch of a stock brokerage firm, along with a handful of individual traders), and some of them are just starting out, so they are trading very small accounts. Some of them make five to ten trades in a day, and some of them make two or three trades a week.
I recently wrote a multi-part article for MoneyShow.com called “Getting Paid to Trade by the Market,” which highlighted a profit-taking technique four of my students use, although each has their own variation on it. We call it “Bread and Butter” because it’s much like “making donuts” or “slicing sausage.” The first is a phrase I use to call my intraday “cookie cutter” trades because they are basically doing the same thing over and over (repetitious, not exciting and profitable equals “making the donuts”). The second is a phrase a friend of mine uses when he speaks of how he approaches the markets. He says he “slices sausage” each day, and at the end of the month, all the slices add up to a mountain of sausage.
The four students use variations on the same theme, which I highlighted in the MoneyShow.com article. For example, in the currency futures, one student uses a maximum stop loss of ten ticks. As soon as price has gone seven ticks in his favor, he moves his initial stop loss to break even. If price goes 14 ticks in his favor, he takes off one third of his position and moves his break-even stop up to a seven- tick stop profit order. If price goes on to reach 21 ticks in his favor, he takes another third of his position off and moves his seven-tick stop profit up to a 14-tick stop profit. Then he tries to manage the last third using market structure, meaning if he is long, he will hide his stop profit orders at higher and higher levels as price leaves higher swing lows, because there will be limit buy entry orders at each of the swing lows left by traders that missed getting long, or traders looking to add to their positions. His goal is to get to break even fast and get to his first two profit targets the majority of the time—and catch a much larger move on the final third of his position about 20% of the time.
Another student takes half of his position off just below the first overhead market structure if he is long, then moves his initial stop loss order up to break even. He then treats the remaining half as a “runner,” trying to maximize the profit on the remaining half by hiding his stop profit orders below market structure as it unfolds.
Another takes a third of his position off at ten ticks and then moves to break even, then takes a third off at 20 ticks and leaves his stop profit at break even. He takes the final third of his position off at 40 ticks, a level he has seen as a statistical “node,” or regularly reachable profit target in the currency futures he generally trades.
The final trader of the four bases his targets on the percentage of the average range of the past 20 trading days. He takes his first profit at 10% of the recent range and moves his initial stop loss order to a break-even stop. Then his second profit order is at 25% of the recent range, and his final target is at 60% of the recent range. Once he has moved his stop loss order up to break even, he leaves it there, trying to let the trade mature.Let me show you a chart from the MoneyShow.com article, “Getting Paid to Trade by the Market,” because a chart often makes things much clearer:
You can see that this particular chart shows that one of the traders I mentor takes half his position off just before the first overhead market structure when he is long, and then moves his initial stop loss order to break even. On the chart above, you can see that he moved to break even after price reached his first profit target, getting him out of half of his position for a nice 75-tick profit, but it then came back down and stopped him out at break even on the second half of his long position.
Do these four traders make money? They do indeed. One of them is a very active CTA, one is an experienced trader that likes to book profits to reinforce the methodology he is using when he trades, and the other two are fairly new traders with smaller accounts. These two traders like “Bread and Butter” trading as a style because they are trying to build the size of their accounts as they master this methodology, so moving to break even quickly and taking frequent smaller profits is more comfortable to them.
Now, you should know that I did not teach any of these students this exit method—they each developed their own exit strategy on their own. Four of them developed a similar twist without my input that I eventually named “Bread and Butter.” But I mentor other traders as well, and one of them read the “Bread and Butter” article on MoneyShow.com, and at his next mentoring session, told me that in his opinion, I wasn’t really helping these traders by encouraging them to take frequent quick profits. We discussed the reasons each of these traders had for choosing the “Bread and Butter” method of relatively quick exits, and though this trader acknowledged that each trader should embrace a style they are comfortable with, he wanted to continue the discussion. He wanted to know if I had made a trade that day, and if so, what did my trade look like? In his mind, after studying my articles and the posts I made on Web pages and free forums over the past six or seven years, and having been in my mentoring program for more than five months, he felt my trade would look vastly different than the “Bread and Butter” trades. In fact, he said that if I had a position on, in his opinion, it would show that the “Bread and Butter” traders were really only taking the “bread crumbs.” I chuckled at his analogy and then admitted I had indeed taken a trade that day, after the “Bread and Butter” traders had been stopped out at break even on the remaining portion of their trades. Let’s take a look through my eyes at what was happening in the market at that point, what caused the market to move the way it moved, and how I entered and managed my trade.
More in Part 2 tomorrow…
I wish you all good trading!
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