I am going to talk about an imaginary person doing an imaginary trade. The reason I am writing this is to show "what not to do". The charts I will use are generic examples and there is numerous such 'opportunities' exits every day in financial markets. Now, this person can be an 'expert' or can be a 'noob'. From my experience of 28 years of trading in virtually everything that is available to trade, both 'experts' and 'noobs' make mistakes. Hopefully experts makes fewer, and often knows how to correct them.
Our imaginary trader John Doe has been trading for a few years, and has a $100K trading account. He is sitting on all cash, and find this perfect opportunity in this stock. The overall market is a nice bull trend, stocks are rallying for a while.
John looks at this chart toward the end of the trading day, and sees a good buying opportunity into this bull market. He draws a nice uptrend line, and he put his favorite oscillator below. He sees the stock and the indicator pair touches the trend line and does an oversold bounce off the trend line. Happened at 1-2 and currently at 3-4 the stock is in almost identical position. He thinks this is as good as it gets as a "buy - the - dip" set up. John buys 2000 shares at $28 and gets a fill. He uses 56% of his account to get into this position. However, like a good trader he is, he immediately placed a stop-limit order at $26 and a sell - GTC order at $32, well below the ATH of the stock. He tells himself, he is risking $4000 (only 4% of his account size) to make $8000 at his set sell price. A nice 2:1 conservative risk-to-reward ratio. He felt pretty good about it. Worst case scenario, John will loose only 4% of his account value, which he is comfortable to risk to make $8000 in likely 4-5 days (because previous rallies were similar in length for that price movement.
Next morning, when John logs in to his computer, he saw the following chart:
The stock gaps down to open at $23.60, well below his stop-limit order. This event leaves John in the stock. If the order were stop-market, then it would have been executed at the open as a market order, and would have resulted in a larger than expected loss of $8800, but John would have been exited off the trade, which didn't work.
But John is smart. This is not his first trade with the loosing position. He is a cool customer. He thought there is no reason to panic and felt confident that stock will come back and rally and likely hit his stop-limit order.
Next day, John opens the computer, and logs in to his trading account again. This time he is a bit nervous. He even checks the news (although he is confident that all news events are always baked into the price, and no reason to check the biased news media for 'fake news')
To John's complete amazement, the stock opened around $21 and closed the day at $20.05. Now he feels really nervous. Stock is trading $8 below is buy price; putting him at a paper loss of $16,000. He searches for news, but can't find anything. He asks himself, "how can this happen? this is completely unexpected...". He finally decides, that the stock is now way oversold, and is due for a bounce, when that happens he will exit the position.
John couldn't sleep well at night. Didn't talk to the family properly in the evening. Next morning when he opens computer he is desperate for some good price action:
To his utter surprise, the stock gaps down at the open around $17 and kept on dropping. When it reach $14; John can't take it anymore. He is a whopping $28,000 under and nearly lost third of his account. He can't take it anymore and hit the sell button at market.
He just thought, that he was making $5000/month on average from this $100K account, and it will him 6 months to wipe out the losses from this single trade! He thinks market is all manipulated. There is nothing true in this world, and thinks seriously about a carrier in Real Estate!
