The On/Off Ramp: Your Guide to the Trade Life Cycle, from Entry to Exit

What do you remember about your first trade? If you’re like many traders and investors, you can recall quite a few details about that first plunge. What made you decide to make that trade at that time? Had you just obtained your first investable assets—maybe a paycheck, bonus, gift, or inheritance? Were you nervous?

Perhaps as important as those details were the logistical details of the trade. Was it made online, via touch tone, or on the phone with a live broker? How did you research that first trade? Did you employ technical analysis, fundamental analysis, or both? Do you still have the position in your portfolio, or have you since closed that position? What did you learn from the process, and what have you learned since then?

The success of every trade is defined by three elements:

1. The entry point
2. The exit point
3. What happens in between

Here’s a look at the ins and outs of trade entry and exit strategies—the decision-making process, the signals and patterns, the tools that can help you decide when to get in and out of a trade, and what to consider while a position is on the books.

Understanding the full trade life cycle from start to finish, plus the mechanics and thought processes that accompany each phase, may help you more fully pursue your trading and investing goals.

Part 1: The Pre-Trade Process

So you’ve got your trading account open and you’re ready to trade, huh? Well, don’t hit that big green or red button just yet; it’s not enough to just want to trade. The first step in trading should be to define the reason for the trade, which should be more than just a gut feeling or your brother-in-law’s opinion. You should have a thorough understanding of why you’re making this trade, and in general, objectivity is better than subjectivity. Many traders say that subjectivity can invite fear, greed, and a host of other factors that lead to bad decision-making.

It may help to ask yourself, “What’s my objective in making this trade?” And most likely, “making money” isn’t going to cut it as an answer. Perhaps you’re eyeing an earnings report as the springboard for a move. Or maybe a stock you’ve been watching move lower looks to have found a bottom and may be heading higher. Maybe you just want to get in on a stock that’s trending. Whatever the reason, having a solid objective not only helps define your reason for getting into a trade, but it can also help you get out of a trade.

Fortunately, the thinkorswim platform from TD Ameritrade is chock full of tools to make it easier to define your objective. For example, you might start with technical analysis—charts and indicators that help identify areas of support, resistance, trends, and momentum in historical price movements. The thinkorswim platform can also help you with fundamental analysis. Publicly held companies are required to publish their financial statements on a quarterly and annual basis.

Rather than spend hours scouring the internet to gather company information, you can simply log in to thinkorswim. Under the Analyze tab, select Fundamentals, where you’ll find a plethora of company information from activity ratios to valuations. Fundamental analysis alone might form the basis for your trade, or it could be used in conjunction with your technical analysis. Additional information tools include live news feeds, custom watchlists, Trader TV, and access to tons of free education. The tools are there; the choice is yours (see figure 1).

Your trade objective might pull from several sources, such as a bullish technical signal plus a strong earnings release bolstered by a news item. Three strong signals form a much more reasoned objective than, say, hearing your brother-in-law talk about how awesome the stock is.

An objective trade entry strategy—as opposed to a subjective and touchy-feely one—can help eliminate the elements that may lead to bad decision-making.

Are you ready? You may proceed with the trade.

Part 2: Navigating the Holding Period

Now that you have your trade on, what’s next? Start sweating? Log in and stare at the screen for hours at a time? Let’s hope not. Rather, consider these ideas for navigating the time between the entry and exit of a trade.

• Don’t let it consume you. New traders often ask, “How often should I look at my trade?” Many veteran traders would say “it depends,” as the rules aren’t necessarily set in stone, and there are a number of exceptions. If it’s a short-term stock trade or an options contract that’s getting close to expiration, you’ll probably want to spend some quality time with it. But if it’s a dividend-paying stock or an exchange-traded fund (ETF) that you plan to bequeath to your grandkids, you probably don’t need to check it every hour or even every month. Either way, you don’t need to be glued to your screen every waking moment.
• Let the platform do the monitoring. The thinkorswim platform can make it simpler to track your trades. Under the MarketWatch tab, select Alerts and enter a ticker symbol. This will allow you to set alerts based on criteria such as price or volatility levels, technical signals such as crossovers, or fundamental triggers such as dividend or earnings information. You can set up alerts (see figure 2) to be sent by email or text, and they’ll pop up on the platform when you’re logged in.

Instead of (or in addition to) alerts, you can place orders to be filled should your trade hit certain price targets. Many traders use conditional orders such as OCO (one-cancels-other) or bracket orders to help them implement the age-old adage of riding your winning trades and cutting your losers. 

• Seasons change; reasons change. Although longer-term trades will generally require less time spent on trade management than shorter-term trades, that doesn’t mean you should forget about them altogether. For example, if you make a longer-term trade based on a fundamental signal, any significant change in the fundamentals could be reason to close the trade. The same can be said for technical analysis. If a trend breaks down, for example, it might be time to exit, regardless of the trade’s value. In other words, remember your initial trade objectives—the reasons you made the trade. If the reasons no longer apply, even if the trade hasn’t hit your profit or loss target, it may be time to reassess holding the trade in your portfolio. 

Some traders also look at a trade’s opportunity cost, meaning they consider not just the funds allocated to a trade, but also the funds’ value relative to potential other investments or uses. Opportunity cost can also include the time you spend watching your trades. Babysitting can be a great job for a teenager, but as a trader or investor, you probably have other demands on your time.

Part 3: Making Adjustments

Sometimes it takes days or weeks for a strategy to play out. But the the next decision in the trade life cycle isn’t limited to "sell or hold." You may also choose to make adjustments to your trade. For example, you might sell a covered call to potentially generate income from a long stock position or purchase a protective put to help limit downside risk. Or perhaps you have an open options position. Depending on how the market fluctuates before expiration, you may choose to trade additional options to overlay the position or even roll your current position to another position.

Why would you consider making such an adjustment? Isn’t it simpler to just close the trade? There certainly are times when that’s the best decision. For example, if you have a long position in a stock and your objective has been met, or the reasons that motivated your trade entry no longer apply, there may be no reason to hang around. But sometimes adjustments do make sense. You may be able to reduce the risk of a position, or if there’s an expiration date, give yourself more time.

When trading options or adding an options overlay to an existing stock position, there are many choices of strategies, strikes, and expiration dates. But it’s important to note that options trading can carry significant risk, and choosing among strikes and expiration dates involves balancing risk and return.

Part 4: When It’s Time to Say Goodbye

OK, you’ve set your objectives, initiated a position, and perhaps traded around it or even added to it. But when is it time to close the trade? And how should you close it? Here are a few considerations when deciding among trade exit strategies.

• Going full circle. Remember the hypothetical trade objectives we started out with? A bullish technical signal, plus a strong earnings release, bolstered by a news item. Those are three distinct, objective analyses—news analysis, technical analysis, and fundamental analysis—for initiating a bullish position. If one or more of them no longer apply, that might be reason enough to close the trade. Perhaps the next earnings report didn’t follow through on the previously reported strength, or maybe you’ve identified a resistance level or other potentially bearish technical signal. If the reason you got into the trade in the first place no longer exists, it might be time to liquidate, regardless of profit or loss. No one likes losing trades, but closing a losing trade can free up your capital (and your mind) to help you get ready for the next trade. Another reason could be key numbers related to your objective. Some traders set percentage gain and loss objectives, such as a 5% gain versus a 2% loss. Others set exit points in dollar terms. For a $150 stock, that would translate to a gain of $7.50 versus a loss of $3.
• Cue up the exit price. Once you’ve identified the reason for closing your trade, how can you go about closing it? The thinkorswim platform can alert you when one of your exits points is at hand, and there are a number of ways to close the trade. You might choose a basic order type such as a limit order. You could also enter this trade as a good ’til canceled (GTC) order, which means pretty much just what it says: The order is good either until it’s filled (for up to six months) or until you cancel it. Making the trade a GTC order versus a regular day order means you won’t need to enter the trade each day until it’s filled.You could also enter a trade that would sell the stock to close if it drops to a certain price, such as $147. This type of trade is called a stop order. It’s important to note that entering a stop order does not guarantee execution at or near that price. Once activated, the order competes with other incoming market orders. 
• Ahem … attention, please. Limit orders and stop orders can be ways to manage your trades if you can’t—or just don’t want to—watch the market on a continual basis. But if you plan to be in front of your computer when you trade, alerts on the thinkorswim platform can let you know when the time for a planned exit is near. For example, instead of entering an order to sell the stock when it reaches $157.50, you could set an alert to let you know when the bid price has reached your target. You can then cue up a sell ticket and hit the bid to close the position. If immediacy is not a priority, you may choose to be alerted via email or text. But remember, there’s no guarantee the bid will still be there when you log in.

Regardless of how you choose to exit a position, many traders recommend staying true to your objectives and exiting the trade when the time has come. Yes, that means you may sometimes be closing the trade at a loss. That’s the way the cookie crumbles. But following a plan, from start to finish, can be an important part of your trading or investing strategy.