Guidelines for discretionary stops and profits

...cont'd discussion about How to Take Money from Wall Street: Learn to Profit in Bull and Bear Markets

One exception to Tony’s practice of opening a new position in anticipation (instead of after completion) of a pattern is how Tony uses Head and Shoulder patterns. In those, he waits until after the Neckline is broken. After the Neckline breaks, if price retraces to a trendline connecting the Head and Right Shoulder, he enters at that trendline.

Tony says that after entering a new position, he uses any one of the following as his Initial Stop for long positions (presumably vice versa for short positions). He also uses them as Trailing Stops:

Below today’s low
Below yesterday’s low
Below entry day’s intraday support levels
Below multi-day intraday support levels
Below 50% retracement of last intraday rally
Below an index day’s low or intraday support level

Tony provides express guidelines for discretionary profit taking.

Tony’s Price Targets include (for long positions and vice versa for short positions):
Near previous tops/bottoms
Top of a trading channel
Upper Bollinger Band
Moving Average (20 day, 50 day or 200 day)
50% percentage of the last corrective phase.

Which of the many Price Targets that Tony will pick depends on what the stock has done already prior to entry into a position. If Tony believes that the stock has already had a “big run”, then he uses one of the foregoing that is a closer Price Target. If he believes that the stock is still trending and has more room to go, then he uses a larger Price Target. And if he believes that the stock has just broken out of a sideways range, he will use a very much larger Price Target. Those are his guidelines for exercising discretion in selecting a Price Target.

Additionally, the Price Target Tony picks depends further on the market overall environment, whether the overall environment is Bull, Bear or Sideways.

Furthermore, as price approaches his Price Target, he tightens his stop loss in a parabolic fashion. He provides a mathematical formula for tightening the stop based on what percentage of the move between entry and Price Target has been completed. As more and more of the distance between entry and Price Target is completed, the tighter the stop.

Here’s a hypothetical example that comes to mind (not in the book). Let’s say the Price Target is $5 away from entry. When $1 profit appears, use a breakeven stop. When $2 profit appears, use a $1 stop. When $3 profit appears, use a 90-cent stop. When $3 profit appears, use a 70-cent stop. When $4 profit appears, use a 35-cent stop. When $5 profit appears, use a 5-cent stop. The foregoing is an illustrative example and not based precisely on Tony's mathematical formula. Hope you get the general idea though.

These guidelines remind me of something I learned in law school -- "discretionary powers are not to be exercised whimsically, but on the contrary are to be exercised strictly in accordance with specific guidelines and rules of law". Whereas Tony's stops and profit taking strategies are of the discretionary genre, he uses specific guidelines and rules for applying them instead of whimsically applying them.

...continued tomorrow...

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