On my Trading Rules page, the first item cited is this:
Stops – a stop price must be in place at all times for all positions, and stops should be set generously enough so as not to exit a position prematurely.
I am quite diligent about setting stops; indeed, it's the only rule I am completely steadfast at following. This morning, unfortunately, I got a rude reminder as to the importance of the phrase I have put in boldface above.
I tend to go through all my positions each day, making sure my stops are at levels that are agreeable to me. If the market is moving my direction (like yesterday), I tighten many of the stops. Mentally, it's very satisfying, because I am reducing risk and helping increase the likelihood of locking in profits.
The trouble is that if the market is moving broadly in my direction, I get overly aggressive (that is, conservative) in my stop levels. In other words, in the throes of all that feels-so-good risk reduction, my stops get tighter than a {insert saucy but wholly inappropriate simile here}.
A morning like this is when I pay the price for overly-tight stops. My old pal GDX does a fine example of showing precisely what happened:
The market popped higher and almost instantly got weaker. In the midst of that pop, 21 out of my 90 short positions were stopped out, and none of them were any less beautiful as short plays than before the pop. The got stopped out at a lousy price and I chose to re-enter almost every single one later in the morning at a worse price (and a much grumpier attitude).
How is this harmful? Lots of ways!
+ Unnecessary commissions exiting and re-entering the positions;
+ Emotional expenditure of unnecessary position exits and re-entries;
+ Unnecessary amplification of risk due to inferior price entries
Simply stated, the road to hell (all of the above) was paved with good intentions (setting my stops). There's nothing wrong with reducing risk, but don't make your stops so obscenely tight as to be completely unforgiving to your positions. It creates a lot of waste (and self-inflicted resentment!).
