Are Half the Profits Better Than All of Them?

GBS examines whether it's wise to take profits earlier than planned.
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Sometimes I have so much new to talk about I can't wait to get it down on paper. But sometimes the best thing to do is to look back, think about what I've done and see if there are any lessons to be learned. And sometimes many of you look back for me and see what lessons I should have learned.

Either way, I've found I can't learn that much looking forward. No, you just have to reflect every once in awhile. Today is one of those days. Therefore, class, please be seated.

Sticking to the Plan

In my Wednesday

column, I discussed my use of the 50-day moving average as a trailing stop. But the real focus of the column was the error I made in violating that strategy and the subsequent loss in profits I incurred.

However, many readers noted that I was up in these stocks by as much as 30 points. Given that, they made the suggestion that what I should have done was take half my profits at some point, and possibly move my stop to break-even.

Using the

DoubleClick

(DCLK)

chart again, that would look something like this:

And, yes, in retrospect, that would have been a much better strategy than what I did. The only catch: It's in hindsight and presents two problems.

Problem 1: When do you take half the profits? Sure, it's easy to say, "Oh, when you're 30 points up, take half!" But, what if after day one, you're only up three points. Do you take half then? Or, what if you're up only one point? Pretty soon, you're not swing trading, you're scalping.

Problem 2: Taking half profits is fine, but you throw off your initial reward/risk equation. For example, let's say I historically have only 30% winners. But those winners net me 10 points, while my losers cost me one point. Not a bad method, right? Ah, but as soon as I start taking half profits anywhere before I'm up those 10 points, I've then changed my money management scenario. Now, I need a lot more than 30% winners to keep on track.

As an example, my initial thinking was that the Internet stocks would look similar to this:

So, in short, I wasn't looking for just a 30-point gain with DCLK, but more like a 60- or 70-point gain, which I thought was entirely doable. That would more than offset the risk I knew I was taking.

Now, of course, you'd have every reason to question why I'd short any Internet stock to begin with, as "they always come back." But that speaks to my overall strategy, I suppose, not my money management scheme.

Therefore, Lesson 1: If you want to be successful long-term, you have to lay out your money management plan beforehand and know that if you take early or quick profits, you better be willing to take quick losses. But, most aren't willing to do this and therefore their entire reward/risk scenario is constantly being changed. The result? Haphazard, inconsistent trading.

One reader -- and forgive me because I accidentally deleted his email -- hit the nail on the head. He said (and I paraphrase), "The only problem with your strategy was that you were doing something foreign to your

personality

. From all I read, you like to taking quick, defined profits. The style you employed was fine, but it wasn't 'you.' And that's why you were panicked out of selling."

My response: Bingo!

Lesson 2: Trader, know thyself.

I Was Wrong. Next!

Reader

Steve Hughes

writes:

Gary, I don't know who that mysterious man was in the June 14 column, but we'll see him at 12,000 before 9000. Nice try kid.

Steven, of course, was referencing all my bearish calls I made only a few short weeks ago. Yikes! Wrong on almost every account.

But, here's the difference between TA and trading. A trader forms a hypothesis, then trades against it. But if the hypothesis falls apart (i.e. the market goes up instead of down), traders quickly admit they're wrong, change their hypothesis to match the new data and trade away.

So, yes, GBS the technician blew it. GBS the trader recognized it, changed and profited.

Lesson 3: Always form a hypothesis of what will happen. Just don't marry it.

CNET, %#%$@! CNET

Another stock I mentioned I was previously short, was

CNET

(CNET) - Get Report

. And like a lot of these Internet stocks, I was using the 50-day moving average as a trailing stop. Only on CNET, I didn't get shaken out. I got stopped out. By a day.

And even midday on Friday, as I write this, it's continuing to sink further. Rats.

So, what am I to make of all this? Do I widen my stop to a 60-day moving average? Do I require there be two closes above the 50-day moving average? Do I add another indicator to tell me my first stop is correct?

No, I simply say bad luck and move on. That's really all you can do sometimes.

Lesson 4: Sometimes you're just unlucky. Accept it and move on. And with that, class, dismissed!

Gary B. Smith is a freelance writer who trades for his own account from his Maryland home using technical analysis. At time of publication, he held no positions in any securities mentioned in this column, although holdings can change at any time. Under no circumstances does the information in this column represent a recommendation to buy or sell stocks. Smith writes five technical analysis columns for TheStreet.com each week, including Technician's Take, Charted Territory and TSC Technical Forum. While he cannot provide investment advice or recommendations, he welcomes your feedback at

gbsmith@ibm.net.