Original Question: Do you scale out with the 10% rule when the stock dropped on you before not triggering your stop leaving you only in the 1-1.5R territory when it goes up 10%? Just a smaller scaleout then or wait for 2.5-3R territory?
Let’s go through some scenarios together so that you better understand how I act in real time based on market feedback.
First of all I believe there is a general misunderstanding of the scale-outs. I don’t scale-out when a trade hits my goal risk-multiple (~3R). I only scale-out based on the chart action!
A: I find a good stop level, calculate size and place the trade. Stock moves up but never hits the 3R (or your own goal risk multiple based on your own historical win rate!). It then reverses and hits the stop. Well not ideal, but a good trade nevertheless! I never got a chance to scale-out some.
B: I find a good stop level, calculate size and place the trade. Stock blasts higher right out of the gate advancing 10% intraday. I scale-out some here! If this 10%+ moves makes the trade hit the 3R mark it is even better as price now has to drop much more to bring the OVERALL trade back to my base profits lock-in level (2.6R for me). Price now drops on me and the r-multiple will hit 2.6R where I would exit.
C: I find a good stop level, calculate size and place the trade. Stock blasts higher right out of the gate advancing 10% intraday. I scale-out some here! This 10%+ move however doesn’t bring the stock to my 3R level and thus doesn’t trigger the base profit lock-in technique. Stock reverses and eventually hits my stop. As the position is smaller now it would be a smaller loss than initially planned. The intial risk of the trade however is still the value set in the beginning when you entered! Here I could actually move the stop so that I would lose my max risk again, but why? The stock didn’t do what I expect it to do and I am happy with losing less due to the 10% scale-out rule.
D: I find a good stop level, calculate size and place the trade. Stock rallies and eventually passes the goal risk-multiple (~3R). This triggers the base profit lock-in technique (~2.6R). I actually do move my stop to that level when I am not constantly in front of my screen. Stock reverses and goes below 2.6R again. I exit. I never got a chance to scale-out some.
The 10% scale-out rule is a hard-one but I also scale-out when stocks hit the upper limit of a wide PLL zone, a major PLL, a clothesline or go for a base breakout. But I only do this (except for the 10% rule!) when the trade is up more than maybe 1 or 2R (preferably close to 3R or above!). I actually don’t have a rule for that exact level but I don’t helicopter my fresh positions much. 10% rule will take care of unusual strength. The idea of scale-outs is to make it easier to sit through pullbacks so that the trade can mature into a multi month position trade.
A scale-out does not change the denominator (initial portfolio risk%) of the risk-multiple calculation as this value won’t change anymore once you have entered a trade with your full position size. Therefore any scale-out simply buys your more downside before your trade hits the base profit lock-in exit ( ~2.6R for me). Stock blasts higher 10% but you haven’t been able to establish your full position yet? Well don’t chase strength and wait for the next proper setup.