Tuesday, March 16, 2010

What do you do when your position gaps down well below your stop loss?

The way I see it, you have two options. (1) You hold on to your position hoping the gap will be filled and start praying it does so. You feel sorry for yourself as the gap down didn't even give you a chance to stick to your stop loss. And if you write a blog, you blog to the readers how the markets screwed you and how unlucky you were. (2) You man up, take your loss and move on.

Luckily for you readers, when faced with exactly the same options earlier today, I chose the latter. But more on that later. Let's have a look at the overall markets first.

After days of churning, there was finally a decisive move made in the markets today, lending the markets some much needed direction. And not surprisingly, it came from the bulls. Enjoy the ride till it lasts! It will certainly end one day like all good things are meant to. How will you know that it's ending? Look out for volume to guide you. Selling on heavy volume should make you think about preserving your profits. Also, keep an eye on market leaders like GS, AAPL, GOOG for a sense of the overall market direction. Since this rally has been built mostly on junk stocks, keeping an eye on stocks like AIG wouldn't hurt either.

Now back to me and what I was talking about in the opening paragraph. Here is what actually happened. Some of you might readers might remember that I was short Gold heading into today. In fact, I was double short gold through the ETN DZZ. Do I need to say more?? OK, If you insist. I liked my chances on this one as gold had been struggling with the 50 day MA at least for the last couple of trading sessions. My stop was just below the 50 day MA, so a favorable risk/reward ratio. I wasn't risking much here, or at least that's what I thought.

Well, as you readers know, gold gapped up big in the pre-market. It not only went way clear of the 50 day MA but also the 110 mark which was an important resistance level. DZZ opened up in 13.30s after cloing in 13.70s yesterday. Just to put things in perspective, my stop loss was 13.60. And to make things worse, I had no time to look at the markets till around noon today.

Well, I waited a bit for any sign of weakness or gap fill in gold, so that I could get out for a lesser loss. But gold held on strongly to the 110 levels, making me exit DZZ at 13.34. There was no way I was going to wait around till the FED announcement. My overall loss in this position was between 3-4%. I don't know the exact numbers yet as I added to the position at multiple levels and actually even sold some yesterday for a slight profit. The total loss to my account was less than 1%. And that's exactly why you do position sizing! Even with a small trading account, I never go all in or even half in in any position. No amount of confidence or potential profits justifies this kind of risk taking. I am pretty pleased with how I took this loss actually. A year ago, I would have felt helpless and sorry for myself and held on to the position, hoping for the best. I would like to believe I am a better trader now. It may happen that gold has a huge fall tomorrow and one might suggest I would have been better off holding on to my position, but I don't think so and have no regrets. Trading, like lots of other things in life, is not about making money but doing the right thing. Do that and the money will follow.

I sold half of CNH position at 28.49 before the FED announcement. I had taken a large position in this yesterday at 27.99 and I wasn't willing to risk all my profits to the announcement. It closed rather well and the chart paints a pretty picture. Late in the afternoon, I shorted BOH at 44.14 but seeing the strength in the markets, quickly covered at 44.34, for less than 0.5% loss. These are losses I can live with.

I will be back sometime later tonight having a look at gold, oil and the dollar. All these made significant moves today and I just want to see what we can expect from these in the next few days.

Take care and good luck tomorrow!

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