Rationally deciding to exit a position and cut your losses is extremely tough.
As humans we naturally have a fear of losing and closing a losing position only reinforces that fear. Unlike winning trades, losing trades have a great impact on our emotions.
This could be the #1 reason why we tend to hold onto a losing position far longer than we ever should in the first place. We think that magically the market will reverse and our losses will turn into gains; and until we actually close the position we haven’t “really” lost money yet.
Oh the tricks we play on our own minds!
Know When You Should Have Already Exited
In my opinion, if you start to second guess and question the position you should have already been heading for the exit doors. Typically those “feelings” you have deep in your stomach will try to keep you in the position as you think to yourself, “it will turn around soon.”
How long should you hold on then? Only long enough to realize that the investment is not going to turn around. When you hope and pray more than anything else you should hit the sell button.
Remember the 14 stages of investor emotions? It’s the same cycle that’s played out time and time again with each of us. But I would rather see you live to fight another day. Take the loss and make adjustments for the future.
Forget What Happens After You Get Out
Sometimes after you exit a position you’ll watch it turn around and do exactly what you “thought” it was going to do. This is horrible for traders – beware!
When we see this happen we naturally think to ourselves that we were wrong and we knew it was going to turn around. We kick ourselves in the head and swear up and down that next time we’ll stick to our guns.
Don’t fall for this trap! This is horrible habit to get into because the next time could be the last time you trade if you blow up your account.
Whatever happens after you exit is a clean, fresh slate. You made a rational decision to exit (I hope) and now you have to re-analyze the market.
Learn From Your Mistakes, Keep Moving Forward
There is no right or wrong answer here but only the lesson that at some point bad trades will occur. Recognize them early and get ride of them. Keep making trades and learning from past mistakes.
The best traders know that hedging early and often saves thousands of dollars each year. Sure you’ll give up a little profit to protect you positions, but in the end it more than outweighs risk of letting losers drag you down.
What are your thoughts on this? What tells you when to get out of a trade; is it a price level, technical indicator, percentage?