A Closer Look at 'Cut Your Losses Early; Let Your Profits Run'

Abstract

The first book that many new arrivals on the trading floors of banks and hedge funds are encouraged to read is "Reminiscences of a Stock Operator" by Edwin Lefevre (1923). The story highlights the importance of controlling one’s emotions in trading, while being attuned to the herd mentality that often drives markets. Indeed, for many successful speculators, “Cut your losses early; let your profits run” tops the list of advice they offer to the next generation of traders. This note will explore two cases in the context of investing where the policy of cutting losses quickly and letting profits run can make sense.

Keywords: Cut losses early, Let profits run, Risk and return, expected returns, fund management, investment management

JEL Classification: B12, B16, B20, C00, C10, C11, C50, C57, C73, D03, D81, D83, E00, G00, G02, G11, G12, G14, G17, G23