Correlation between P/L and use of stop orders...

[Thunderdog]

Quote from Rearden Metal:

There is none. I just re-assess what I think the stock will do next.

I understand the point of your thread, and it is indeed an interesting topic. In my case, I can tell you that I am almost always able to reassess fairly objectively. However, there were a few instances some years ago where things really got out of hand and I lost a substantial portion of my trading capital in a fairly short period of time. I did not see it coming. There was no advance warning that I was in the process of losing my objectivity, and I failed to adequately recognize when I was in the middle of it. It just came and went, and left my account smaller and my confidence truly shaken. In fact, I have never been as confident since that time, although my trading has improved. Perhaps, as a result of this experience it will never happen again. But how can I be sure? Therefore, I always use a mental stop and I honor it. It is my anchor in the storm.

Consider VN and LTCM. Did they not "reassess" their way into oblivion, VN more than once? I realize that these are extreme examples, but bear in mind that these were not amateurs. Neither VN nor Merriweather were greenhorns. If they can lose their objectivity in such a big way after years of considerable success in the markets, why would I think that I couldn't? I prefer not to take that chance.

At the end of the day, each approach has its own strengths and weaknesses, and as the expression goes, "choose your poison." If I am going to get blown out of the market, I want it to be a slow process. That way, I think I will have more of a chance of restoring my balance and objectivity before my rowboat capsizes.

Just my opinion.

 

[illiquid]

I think the big difference between individual traders and fund managers in their attitude towards stops is the relative size of positions taken compared to overall funds. Most fund managers or large traders who are decently diversified can afford to do without hard stops by the fact that even a freak occurrence in one position will not put a large dent into their overall funds. But individuals typically use alot more leverage on their positions, where an outlier event can easily wipe them out.

Maybe the correlation between use of stops and nominal profitability comes down to larger/more successful traders being able to increasingly lower the leverage or position size relative to total funds, with each position being small enough not to require hard stops in place.

 

[Thunderdog]

Quote from illiquid:

Maybe the correlation between use of stops and nominal profitability comes down to larger/more successful traders being able to increasingly lower the leverage or position size relative to total funds, with each position being small enough not to require hard stops in place.

True. But a profitable trader who reduces his leverage will likely be relatively less profitable. (I say "likely" because his potentially larger "stop" size, calculated as the distance from his entry to his eventual exit on a losing trade, may affect his profitability either positively or negatively, depending on how good his timing is.) Therefore, it is entirely possible that the profitability will be reduced without even a compensatory smoothing of the equity curve. Consequently, it is not clear that one alternative is necessarily better than the other.

Further, not having at least a mental stop in place has proven to be hazardous to a fair number of high-profile people over the years. I might be mistaken, but I think I read somewhere that there is a higher proportion of proficient handgliders dying in handgliding accidents than beginners. Could this be a function of the relative time clocked in the air, or is this a case of competence leading to over-confidence?

 

[Pabst]

I find the poll flawed because it doesn't take into account the inherent/systematic execution differences between products.

Rearden Metal is an equities trader. I can certainly understand the reluctance for stock traders to use stops. Without a centralized market place there's the increased risk of an ECN or MM picking off your stop. With the complete lack of transparency in stocks I too would be queasy working a size stop that literally scores of traders might know is live.

In futures though there is but one market. All trades are matched electronically by time/price priority and stops rest hidden from other counter parties. I have never used stops but with the level playing field in futures I'm rethinking my position. When I traded in the Bond pit it was often easy to "lose the market". A physical marketplace has unique demands in that regard. But with the democracy of the screen it's hard to justify being flat footed.

Here's a frequent type of situation I find myself in as an index trader. Let's say I short NQ at 38 and 39.50 with the idea that a hard 40 bid should be alarming to me. We can extrapolate that if I don't want to see 40b stronger than the 40.50 offer that for sure I'll be gone on a 41 trade. So let's say as I'm leaning on the well offered 40.50's suddenly a buy program lifts them and immediately before I can manually react the 41's. 41.50's and 42's trade out. Now it's 42-42.5 and I no more want to pay 42.50 at first sight than I wanted to pay 40.50 at first sight so I have two choices. Wait, which is now just a random coin flip, or take an immediate loss thats 1.5 or two points more than what I wanted to pay. There's times I don't WANT to be forced into decisions. Especially knowing that loss avoidance is my natural inclination. So while a stop isn't always needed there's situational times when I at least would prefer some auto-pilot driving.

 

[romik]

Because there is no way of knowing beforehand whether a market is actually reversing or retracing not having at least a mental stop one day is going to wipe a huge chunk of one's account.