A message from our members challenged our use of exits and also that the leaves in a system proved very complex and might sometimes move into the prices and then move farther away. The member asked whether the leaves were working and edued about the logic of owning many exit egies working within a single system. I sent the member a reply and promised to write a Bulletin that clarified our philosophy and procedures concerning using multiple exits in more detail.

When we develop trading systems the entrance is generally just a few lines of code but the depart egies and coding are usually very complex. We might have a system with just one entry method and that system might have a dozen or more depart egies. The reason for devoting so much effort and attention to achieving accurate exits is that within our years of trading we have begun to appreciate the importance and the difficulty of accurate exits.

Entries are easy. Before we get into any trade we know exactly what has occurred up to that point and if those events and conditions are satisfactory according to the rules of the system we could generate a legitimate entry sign. Entries are simple because we are able to set of the requirements and the market has to conform to our rules or nothing occurs. Once we have entered a trade anything could happen. Now that we are in the market the probable scenarios for what may happen to our open position are infinite. It would be exceedingly na?ve to expect to hope to effectively deal with all trading events with two exit egies or just one. But, that is apparently the common practice and, in actuality, many popular trading systems just reverse the entrance rules to generate their exits.

We believe that good exits require a great deal of preparation and foresight and simple exits will not be nearly as effective as a series of well planned exits which allow for a large number of possibilities. Our depart egies need to accomplish a series of significant tasks. So we need a dependable money control exit that limits how big our loss without getting whipsawed we want to protect our funding against any losses that are astrophic. If the trade is working in our favor we'd love to move the depart closer so the risk to our capital is reduced or eliminated. When possible we need to have a exit in place that prevents our profitable commerce from turning into a loss.

In the majority of our systems, our goal is to maximize the magnitude of our profit on each trade so we don't simply have a small profit once we see it. This goal means that we need to employ an exit egy that protects a portion of our small profit whilst allowing the trade to have the chance to become a lot bigger profit. In the event the trade went in our favor that the exits might be simplified but that is not the way markets typically trade. We have to allow room for some small alterations on a day to day basis. In order to facilitate our goal of maximizing the profit of every trade, in some cases we might decide to move our exit point farther away to avoid getting stopped out. By way of instance, lets examine our Yo Yo exit that is based on the theory that we don't ever need to remain after a serious one-day move in a place. (Watch Bulletin number 14 for an explanation of this Yo Yo exit.)

This exceptionally efficient exit relies on measuring the amount of price movement in the prior day's close. For instance we might need to exit when the negative price movement reaches a half Average True Ranges in the last close. This volatility-based depart will go away as the result of a series of closing prices caused by times where the price moved against us but our volatility activate was never really reached. Clearly an exit which may move from prices is no use whatsoever so the Yo Yo exit should always be utilized in conjunction with other depart egies which don't go 42,, in restricting the size of the losses. Now that we have implemented our commerce to be protected by the Yo Yo exit we have not addressed the issue of taking profits. We have exits in place to protect against losses, to lock in a point and also to ch us out but we haven't addressed the important issue of taking some profits on the trade.

We love to take for large profits and the bigger the profits become the closer we like to protect them. This egy calls for multiple profit-taking exits. When we've got a $1,000 profit we may want to protect 50% of it and also be willing to return $500 of our profit. We could place an exit 500 above our entrance price. This will allow us to maintain the position that the profit will grow. If we now have a profit I am sure we would not want to give back 50% of that. Let's hope our exit quit is not still sitting there at $500 above our entrance price. For best results that our exits need to adapt at various levels of profitability.

Most traders have asked us about the robustness of a system which has a many depart rules. The general understanding is that a system with rules is very likely to be robust. I would disagree with implementing that belief. Take a look at the exits in Both of These over-simplified systems:

System A:
Use a $1500 cash management stop. (Constraints loss to $1500.)
When profit reaches $5,000, depart with a stop at entrance plus $4500.

System B:
Use a $1500 cash management stop. (Limitations loss to $1500.00)
When profit reaches $1,000, depart with a stop at entrance price.
When profit reaches $2,000, depart with a stop at entrance plus $1,250.
When profit reaches $3,500, depart with a stop at entrance plus $2,500.
When profit reaches $5,000, exit with a stop at entrance plus $4500.
When profit is greater than $7,500 depart with a stop in the prior day's low.

Some system traders may argue that since system A has fewer rules it should be more robust (probably to work in the future.) We would suggest that system B is considerably more inclined to work in the future though it has rules. System A is not likely to make any money if the open profit never reaches $5,000. Once the profit exceeds $5,000 the exit is in the $4,500 level. System A is very limited in what it's prepared for. $ 4,500 is made by it or it loses $1500.

As you may see, system B is always prepared for many more possibilities. It is possible (although not likely) that system A may somehow produce better test results on a historical basis due to an accidental (or intentional) curve fit. But, we'd much rather trade our actual cash with system B. Simpler is not necessarily better when it comes to depart preparation.

by Chuck LeBeau

http://www.traderclub.com/