Exit Strategy

30 Dec

Forex Exit Strategies

Traders often discuss entry strategies but rarely do they talk about how or when to exit a trade.  The exit strategy is without doubt one of the most crucial components of any trading system. This post gives a very basic overview, covering a range of exit strategies, for those who have little previous exposure to this area.   I will start off by showing some of the various forex exit strategies that are utilised by technical traders and follow this with chart examples to run-through a simple exit scenario in action.

Some traders prefer to catch quick profits and do not like to be exposed to the market any longer than necessary.  Other traders, however, may prefer to go for large “outlier “profit targets; this will obviously involve more losses while waiting for that big move – if it ever comes – and a lower associated hit rate.  There is always a trade off between a high hit rate/win probability versus making yourself available to capture bigger moves.

Lets start off with some of the most common forex exit strategies:

  • Fixed win ratio exits.  Close the trade when your initial risk has been achieved or some other arbitrary value.
  • Trailing the price action.  The stop loss is moved in accordance with the underlying price action.
  • Moving average trailing exit strategy.
  • Percentage ratio.
  • Dissolution of Entry Criteria.
  • Fibonacci ratio.
  • Average daily range trailing exit.
  • Fibonacci extension fixed exit.
  • Support and resistance fixed exit.
  • Any given combination of the above.

As you can see from the above there are many trading exit methods available and this list is far from definitive.  It is sometimes worth trying to match an exit system to the current market conditions.  This allows differentiation between trending, ranging, “with the trend” and “counter trend” markets. 

If you think about it – why would you try to trail a stop loss when the market is clearly stuck in a choppy range?  Conversely, it would not always be optimal to try and take a quick profit with a fixed win ratio when the market is trending.

Exit strategy example which follows a bullish engulfing candle entry.

Chart 1 shows a bullish engulfing candle at a support area.  We can clearly see a swing high which “could” provide resistance if we choose to hold onto a trade that hits prior resistance.

exit strategies

Chart 2 shows the first bar after our entry went into profit and subsequently retraced.  If we were trading in a bearish market – or had additional information pointing to a dissolution of the entry criteria – we may consider closing with a “break even stop loss exit strategy”.  Essentially, we could potentially move our stop loss under this bar – thus cutting our losses if we are wrong and not taking a full bar loss.

exit strategies 2Chart 3 shows that holding onto this trade, and giving price room to move in our desired direction, would have been a good decision.  As per the previous example, we could now try to move our stop loss to break even or possibly consider moving the protective stop loss under the current bar when it closes.  This kind of exit approach would be using market support and resistance and is often preferable over an arbitrary fixed breakeven stop loss.  The main problem with break-even stop losses is that they do not reference price structure, which can sometimes protect our stop loss as price oscilates.

exit strategies 3Chart 4 shows price moving close to the top of the range and sellers entering the market. Always be careful if trying to take profit exactly at a swing high – as price can often retrace on increased order flow just short of the swing point.

It is reasonable to assume that many people would be taking profit around this area and price could easily go into ranging consolidation phase.  Some traders would only consider moving their stop loss to break even at this point.  There are a multitude of different basic forex exit methods that can be used like this…

exit strategies 4

So to summarise what we have looked at and review the key forex exit strategy points:

  • Find a basic exit strategy that works for you.  If you are unable to move stop losses due to work commitments etc then this can be a deciding factor.   Demo trade different exit strategies to decide what works best for you and your trading personality.
  • Look at the current market conditions and consider tailoring the exit towards to environment.  Quick profits when counter trend and letting “with the trend” trades run.
  • Consider scaling out of positions – half of your position using a fixed target and half trailing – if this suits your trading style.  Catching one big trend can make a huge difference to your end of year P&L.
  • Arbitrary exit strategies may not always capture the largest profits but they remove the “human discretion element”.  There is a lot of merit in employing a strategy which does not require any human intervention.  This helps minimise the “fear and greed” element from our exit strategy.

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