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How High Will It Go?

The other day we were speaking with a successful broker and he revealed that one of his strategies was to ride a stock up for 30% gains and then exit. That was his strategy. Let it go up 30% and get out. Sounds reasonable. But as trend followers know, this type of strategy is prone to problems. The biggest problem is that it goes against the math of getting rich. He is not letting his profits run!

Tom Basso tells the story of the new trader who approaches an old trend follower and asks, “Where’s your objective on this trade?” The old trend follower replies that his objective is for the position to go to the moon. He says, “I have not had one get there yet, but maybe someday.”

When you trade as a trend follower, your objective is to stay in a position forever. You don’t want to think about exiting. Of course, you have a plan for exiting long before you enter the trade, but the idea is to follow the trend as far as it will go up. For example, would you have ever really wanted to exit all of your position in Cisco if you entered in 1991? Perhaps, but the point is clear.

Trend following, unlike buy and hold, has an exit strategy. While buy and hold approaches obviously do not take into account going short (a huge mistake), they do ride a trend up forever. However, markets change. If and when the trend reverses and starts heading south, there is no exit method to escape the carnage with buy and hold (see Microstrategy example).

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