Are You Putting Enough Emphasis On Your Exit Strategy?
Quantitative traders love new ideas. We are always looking for a new strategy that has demonstrated that it has some sort of edge.
Many developers spend a large portion of their time optimizing the entry points of their strategies. Strong emphasis on entry points can lead to a lack of attention on the back end. This can result in a lack of attention being given to a system’s exit strategy.
Simply using the first exit strategy that comes to mind might result in the system working just fine. However, taking the time to consider all of the potential exit options could result in discovering a much more profitable exit strategy for the system.
There was an article published on Forex Crunch this week that took a look at some of the potential exit strategies that a system might utilize. Having a list like this at your fingertips is a great way to ensure that you are considering all of the possible options when putting together your own quantitative trading system.
Here are the different types of exits that the article covers:
For many systems, these are the first type of exits that come to mind. They are generally based on the reverse of whatever entry signal the system uses.
It stands to reason that you already should have planned your exit in advance so if you entered on a moving average crossover, for example, it’s usually best to exit on the opposite crossover.
Likewise, if you bought on a breakout you should probably sell when the price breaks down.
Trailing Stop Exits
Trailing Stops are a very popular way to make sure that your system retains some of its paper profits. As we covered last week, there are many pros and cons to using a trailing stop. The Forex Crunch article points out that one difficulty is knowing where to place the stops:
One of the difficulties when using the trailing stop is knowing how far away from the price action to set the stop as too close means you could take profits too early, while too far away and you might not capture any profits at all.
Price targets are a very popular exit strategy for many Forex systems. They allow traders to specify clear risk to reward ratios. However, those traders have to be prepared to accept the possibility of a price just missing their target and then turning into a losing trade.
The Forex Crunch article suggests that using pivot points as price targets is an interesting option:
Technical levels such as pivot points are often great places to set as price targets for a couple of reasons.
First of all, they use recent data so they adapt to market volatility. This means that the key pivot levels are all realistic profit targets.
Secondly, pivot points are watched by thousands of professional traders. This means they are better at predicting turning points.
This is the Pandora’s Box of exit strategies. Just because you are using one particular indicator to enter a trade doesn’t mean that you can’t use any other indicator to signal an exit. The articles suggests that Fibonacci, Elliot Wave, and Average True Range based indicators are all interesting options.
The Fibonacci is a mathematical sequence that manages to anticipate turning points with extraordinary accuracy while the ATR indicator is a good tool in order to gauge price moves.
This is by no means a comprehensive list of exit strategies. However, it is a great starting place to expand your thinking on the topic. How much thought have you put into optimizing your exit strategies?