Selecting general and powerful exit rules is a difficult challenge in system design because the markets exhibit many different price patterns. One form of exit that is particularly easy to implement is the initial money-management stop. If the stop is hit, you exit the trade, no questions asked. However, taking profits is another matter, since you must design reentry rules should the trade continue on after meeting your exit criteria.
In the 65sma-3cc system, the approach of using entry rules as exit rules does catch long trends, but at the cost of wide swings in account equity. Hence, including exit rules tends to smooth out the equity curve. If possible, you should trade multiple contracts in each market, assigning one or more contracts to each exit rule. This allows you the luxury of not having only one "best" exit strategy.
As an alternative to the entry-triggers-exits approach, you can consider many exit strategies. One simple rule is to use a fixed-dollar trailing stop. In this case, you will set a stop, say, $1,500 away from the point of highest equity in the trade. Instead of a fixed-dollar stop, you can use a volatility-based stop, which sets a stop some multiple of the true-range away from the point of highest trade equity. Yet another exit strategy is to use a time-based stop, such as the price extremes of the last w-days. Another effective exit strategy is to exit on the close of the w-th day in
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the trade. For example, you could exit on the close of the fifth day in the trade. This approach works nicely if you can trade multiple contracts, and arrange to close trade from say the fifth through the twenty-fifth day in the trade.
If you use exit strategies without an effective reentry strategy, you will miss significant moves. Hence, it makes little sense to use a trend-following strategy and then to cut off trades with a sensitive exit strategy. Exit strategies offer many opportunities for discretionary approaches. Hence, if you wish to use discretion, exit strategies are a good place to focus your attention.
An example of the effect of adding a 14-day exit to our 65sma-3cc model run with a 0.5 percent RAVI filter and a $1,000 initial money-management stop is shown in Table 4.6. The trailing exit closes out a trade if prices exceed the previous 14-day range. For example, if long, we would exit a trade tomorrow on the open if today's close is lower than the lowest low of the last 14 days. This is a trend-following exit that should get you out near the end of a major trend, with the criterion being a 14-day reversal in prices.
Adding an exit condition decreased the days in market by 45 percent on average. At the same time, you can confirm that the profitability and maximum drawdown decreased also. Any investments you make in money market instruments during the time that the system is out of the
Table 4.6 Effect of adding an exit on number of days in the market
| Profit | Maximum Intraday Drawdown | Days in Market, All Trades | Days in Market, All Trades | |
| Market | ($) | ($) | (With Exit) | (No Exit) |
| British pound | 38,788 | -12,350 | 1,070 | 2,609 |
| Coffee | 227,610 | -29,500 | 1,692 | |
| Corn | 8,125 | -$4,544 | 2,086 | 4,790 |
| Crude oil | 8,250 | -$7,680 | 1,446 | 2,718 |
| Deutsche mark | 25,887 | -$7,275 | 1,851 | 3,863 |
| Eurodollar | -2,450 | -$7,874 | 2,000 | |
| Gold, Comex | 24,130 | -$7,080 | 2,034 | 4,170 |
| Silver | 44,970 | -32,410 | 1,506 | 3,459 |
| S&P-500 | 2,490 | -29,640 | 1,290 | |
| Sugar | 10,386 | -$7,854 | 1,991 | 4,591 |
| U.S. bond | 17,925 | -20,887 | 1,218 | 1,689 |
| Averages | 36,919 | -15,190 | 1,352 | 2,988 |
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market will add to your total return. Thus, as you make the model more restrictive, the overall profitability is restricted also. Your choice in this case is governed by your preference for a smooth equity curve versus growth in equity.