Disaster Rules
By Cliff Clark
Let's say you wake up one day and a swing trade you held overnight takes a big gap against you and you find yourself down 7R. What do you do? Do you immediately panic? Or perhaps you just sell before things get even worse. What's the right action to take? Why not consult your plan? Why because your plan got you into this mess in the first place, right? Probably not. Your plan is just a piece of paper. More than likely you missed that earnings or some other major event was about to take place. OK, you screwed up. What now?
Well if you had a complete trading plan it would have had a set of disaster rules. Disaster rules are the rules you implement when a trade goes terribly wrong. They help you manage your way out of the mess you have currently gotten yourself into. What should your rules be? That really depends on you. Are you will to wait to see what happens? Perhaps you'll end up losing a little more with the possibility of making some back. Or perhaps you are the type that just wants the pain to end so just sell at the open or even in the pre-market.
I personally have a 5 minute rule. I do nothing for the first 5 minutes of trading. I want to see what the stock is going to do once trading starts. A lot of these big gaps go the other way and give up a lot if not all of the gap. After 5 minutes I have a better idea of what both the stock and the market are going to do and can then make a better judgement of the best way to handle the trade. Most often that is to trail it out on the 5 minute time frame. I sometimes will use pivots. Either way having a set of disaster rules allows me to stay calm and free of panic.
We want to refrain from panic so as to not affect our other trades.
2 trades for me today with +1.5R total
1st Trade QCOM +2R
148.39/149.97 exit 143.25
12% gap down under pivot support and 50ma after a strong daily double top rejection,. I took it on a congestion breakdown with a fairly wide stop, leaving my 2R target 50c over its ATR, slow but consistent move down with great RW, hit my target on the penny before it bounced.
2nd Trade AQB -0.5R
9.40/9.70 exit 9.56
I rarely trade stocks under $10 and even more rarely short them. I liked this daily chart as it broke its uptrend channel and stayed under a strong 9.50 support line enough room to its daily 50ma. I entered after a pullback with a fairly wide stop but only 1/3 of its ATR used at the time. It failed to break down with the strong market open and stayed in a narrow range.
I actually broke my plan with this trade as I lowered my stop to a pivot where price made a big bounce earlier at 11am with a large seller sitting there. My thought was that if it breaks that level again then it will likely...
1 trade for (-1R)
I took a BD on QCOM. I was worried about the target being close to the daily range, so I took a tighter stop on the 2 min chart. I am looking through PTS right now, most of the examples have 2 options for where to put your stop. It looks to me like one of the stops would be at the bottom of the main consolidation area, and the other at the bottom of where there has been a shakeout or turnaround bar (if there has been one). Due to the daily range I took the tighter one on this. In hindsight it seems obvious to take the wider stop, but in the moment it looked ok.
I was then looking at the 15 min 3BP on QCOM, but the reason I used a tighter stop in the first place was because of the range. The 15 min 3BP would have needed to have gone even further than the wider stop on the 2 min BD, so I didn't take it.
