Technical patterns are created by the constant interaction between supply and demand and reflect points in time and price where one group (Buyers or sellers) is likely to take control of prices. Therefore, technical patterns suggest a potential move in a certain direction. The more people that can recognize a certain pattern, the greater the expectations of such pattern producing a desired move. But these suggested moves don’t always materialize. If they did, we wouldn’t need stop loss levels. That’s part of the trading equation. In some instances after an entry, the price of a stock will linger close to our entry point, not having produced a move large enough in the desired direction so as to allow our Trailing Stop mechanism to be triggered. The management of these non-performing positions will ultimately affect our results. For this we use time stops.
A time stop is a position management mechanism which should be part of any trading plan. It consists of a set of rules which allow the trader to manage and exit these non-performing positions in an intelligent way. Remember, any given pattern has a “shelf life” or “time to expiration” which depends on the pattern traded. Lets say we decide that we want to trade Buy Setups (BS’s). What is the “shelf life” of a BS? By shelf life I’m referring to the usual time that we’re willing to hold a position until it produces a potential move in the direction suggested by the pattern. Those that have attended our “Professional Trading Strategies” (PTS) course know that a BS usually is a 2 to 5 bar pattern. It means that the suggested move usually materializes in 2 to 5 bars. What happens if any given BS lingers near entry for 6, 7 or 8 bars without having produced the suggested move? Then the odds of said move materializing are greatly diminished.
At some point in time, the trader has to decide that enough is enough. He has given this BS enough time to perform. And the performance didn’t materialize. So, the Live Traders trained trader will “fire” the non-performing position, looking to preserve capital and freeing up capital that can be used in another position. In the tracking rules for this newsletter, we use a 5 day “Time Stop” which kicks in after 5 sessions whenever the position hasn’t produced a move greater than 50% of the initial target and triggers a “daily trailing stop” which oftentimes can reduce the capital risk of the position by tightening the stop to each consecutive low/high of the previous daily bar. More advanced “Time Stop” mechanisms would allow the astute trader to reduce or sell/cover the whole position based on technical parameters of non-performance. Many of these ideas are discussed in Professional Trading Strategies (PTS).
