Trend followers know the trick of letting their profits run is key to trading. Once you learn that to maximize your profits you must be willing to give up some part of your accumulated profits, you are on your way to sustained success. For example, let’s say you start with $50,000. The market takes off and your account swells to $80,000. Many people might quickly pull their $30,000 profit off the table. They feel that if they don’t take those profits immediately, they will disappear. Refusing to give up a part of that accumulated income due to fear is their big mistake.
Trend followers understand the nature of the market. They realize that a $50,000 account may go to $80,000, back to $55,000, back up to $90,000, and from there, perhaps, all the way up to $200,000. See the mistake of quickly taking a profit just because you might not like volatility? Those people who took profits at $80,000 were not around to take the ride up to a $200,000 account. Pretend you are one of those people with the $30,000 gain in your account. Instead of simply protecting your entire $30,000 profit, why not be more aggressive with it? Do you think great traders have been successful by taking profits? Or have they compounded their profits?
Letting profits run is tough psychologically. It’s counter-intuitive for most people. It feels risky. But, once you understand that in trying to protect every penny of your profit, you actually prevent yourself from making a bigger profit, you have learned an important reason why trend followers are so successful.
Why Letting Profits Run Feels Wrong and Is Right
The $50,000 to $80,000 example contains the complete psychological problem. At $80,000, the trader has a $30,000 gain. That gain is real. Exiting the position locks it in permanently. Continuing to hold requires watching the account potentially pull back to $55,000, which feels like watching $25,000 of the $30,000 gain disappear. The psychological cost of watching that pullback is the loss aversion that Prospect Theory documents: the pain of watching the account fall from $80,000 to $55,000 is felt as a loss of $25,000, even though the account is still $5,000 above the starting point.
The trader who exits at $80,000 avoids that psychological pain. They lock in the $30,000 gain and eliminate the anxiety of watching it fluctuate. This feels like the correct decision. It is also the decision that prevents the account from ever reaching $200,000.
The volatility from $80,000 back to $55,000 and then up to $90,000 is not random noise. It is the normal price behavior of a market in a sustained trend. Trends do not move in straight lines. They move in waves, with pullbacks that test the trend follower’s conviction, followed by advances that reward those who held through the pullback. The trader who exits at the first significant pullback from the peak is systematically exiting at the worst time, capturing the early portion of the trend while missing the majority of its value.
The trailing stop is the structural solution. It defines the exit as a percentage or dollar amount below the recent peak rather than at the entry price. As the account advances from $80,000 to $90,000, the trailing stop advances with it. If the trend continues to $200,000, the trailing stop rises to protect the majority of that gain. When the trend reverses by the defined amount, the stop fires and the position is closed, capturing the full extent of the trend rather than the early portion that the premature exit captures.
Livermore’s formulation is the same insight in different words: “It was never my thinking that made big money for me. It was my sitting.” The sitting is the letting profits run. The thinking that produces premature exits is the psychological response to paper drawdowns from the peak that the behavioral research documents as universal. The trailing stop automates the sitting without requiring the trader to suppress the psychological response in real time.
Frequently Asked Questions
Why do most traders take profits too early?
Because of loss aversion: the pain of watching a gain reduce from the peak is felt as a loss even when the position is still profitable from entry. When an account rises from $50,000 to $80,000 and then pulls back to $55,000, the trader experiences the $25,000 pullback from the peak as a loss, not as a $5,000 gain from entry. This emotional experience makes holding through the pullback feel like taking a loss, which triggers the same psychological response as an actual loss and produces premature exit.
How does the trailing stop solve the problem of letting profits run?
By defining the exit as a percentage or dollar amount below the recent peak rather than requiring a real-time decision. As the account advances, the trailing stop advances with it. The trader does not need to decide in each moment whether to exit or hold. The stop fires when price falls by the defined amount from the recent high, which is after the trend has reversed rather than during a normal pullback within a continuing trend. The decision is made before entry, when the position is not yet established and the loss aversion has not yet activated.
What is the difference between protecting profits and maximizing them?
Protecting every dollar of accumulated profit requires exiting early to lock in the gain before any pullback occurs. Maximizing profits requires holding through normal pullbacks to capture the full extent of the trend. The two objectives are in direct conflict. A trailing stop that allows a defined pullback from the peak is the tool that balances both: it captures the majority of the trend’s value while protecting against a full trend reversal. It does not protect every dollar of accumulated profit, but it captures far more of the trend’s total value than a premature exit at the first significant pullback.
Trend Following Systems
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