What Is an Exit Point?
An exit point is the price at which an investor or trader closes a position. An investor will typically sell to exit their trade because they are buying assets for the long term. A trader may also sell at an exit point, or they may decide to buy to close the position (if they were short).
The exit point may be determined in advance based on a trader's or investor's strategy. The exit point may also be determined based on real-time market conditions or life requirements, such as liquidating some investments in order to pay a bill.
Exit points can be contrasted with entry points.
Key Takeaways
- An exit point refers to the price level at which an investor should close out an existing position.
- Different types of orders are used to close a position, including profit targets (limit orders), stop losses (stop orders), and/or market orders.
- Taxes and transaction fees may also be considered as part of an exit point.
- Exit strategies are required in the context of private businesses as well and these can be trickier because the seller of the shares needs to find a buyer.
Understanding Exit Points
An exit point is often predetermined based on a trading strategy or valuation model. Then, an order is sent out to initiate the exit. The exit point could result in a profit or loss, depending on which way the price went after purchase.
Thus, exit points can be used to manage the risk of loss and also to set profit targets. Investors commonly use conditional orders to set exit points.
Investors may use fundamental analysis or technical analysis—or a combination of both—in order to determine exit points for a trade. For example, a value investor may buy a low P/E stock and sell it once its price-to-earnings multiple has increased by a set amount. Alternatively, a day trader may look to chart patterns to identify an exit point based on signals that indicate trends and reversals.
Some investors use more heuristic methods for determining their exit points; for instance, if the price of a stock hits a round number like $100 per share, or if the price rises by a round number percent, like 10%.
Traders and investors will also often have an exit point to the downside in order to limit losses on a losing trade. Therefore, many trades will come with two exit points: one to take profit and the other to limit losses.
Exit Points With Bracketed Orders
One example of an exit strategy that integrates premeditated exit points at the time of the initial investment is a bracketed buy order. A bracketed buy order is a conditional order that includes both a profit target and a stop loss exit point.
In a bracketed buy order, an investor first buys a security. Then, they set a profit target order at a specified price in order to lock in a gain. The stop loss is placed at a specified price in order to limit risk (in case the price moves in the opposite direction the investor expects). If one of the orders is hit, the other is canceled because the position is now closed.
The investor can vary the price of their stop-loss order and profit target order according to their risk tolerance and expectations for the investment. Typically the further away the orders are from the entry point, the more longer-term the trade will be. If the stop loss and profit target are close to the entry point, then the trade will likely be closed quite quickly when one of the orders is hit.
Once an investor owns a security, they can place conditional exit point orders at any time. Profit target orders help investors exit with a planned profit, while stop loss orders help investors to set a cap on losses.
When considering an exit from an investment involving capital gains, the gains will be taxed at either a short-term or long-term capital gains tax rate.
Types of Exit Point Orders
A profit target is typically a limit order. If the investor is long an asset, they would place a limit order above the current price. When the price reaches that level, their order will be sitting there ready to be filled.
A stop loss order is typically a stop market order. If an investor is long, the stop loss goes below their entry price. The order is triggered only if the stop price is reached. When it is, a market order is sent out to sell the asset at the current market price.
Orders can have additional parameters attached to them, such as an expiry date or good-until-canceled (which means the order will remain active until canceled). An order can also be set to only be active during the regular trading session or to also be active during the pre- and post-market sessions.
The investor may also simply use a traditional market order to exit their position at any time. Or, they could utilize a trailing stop loss order in order to participate when the price is moving in their direction but get out when the price starts moving against them.
Real-World Example of an Exit Point in the Stock Market
Exit points apply to both long and short positions. Consider a trader who has entered a short position in a falling stock.
This type of scenario could have occurred in Macy's Inc. (M), as depicted in the chart below. The stock broke below a rising trendline and entered into a downtrend. There was a brief rally, but as the price started to drop again, a trader jumped into a short position at $36.40.
:max_bytes(150000):strip_icc()/dotdash_INV-final-Exit-Point-Apr-2021-01-c60d30e3065d4c9fac4b92790c7889b2.jpg "Exit Point: What it Means, Types, Example (1)")
They placed a stop loss order (stop market order) at $39, just above the recent swing high, in case the price went up instead of down.
Since they expect the price to drop, the trader placed a profit target (limit order) at $29.40, below the prior swing low.
This type of trade creates a favorable risk/reward scenario because the trader is risking $2.60 per share ($39 - $36.40) while expecting to make $7 per share ($36.40 - $29.40).
Business Exit Points
A business exit strategy is an entrepreneur's strategic plan to sell their ownership of a company toinvestorsor another company. An exit strategy gives a business owner a way to reduce or liquidate theirstake in a business and, if the business is successful, make a substantial profit.
Investors or institutions making large capital investments in private companies will also seek to manage exit points and exit strategies across their investments. Generally, an exit point and exit strategy is a part of all long-term business investment plans. For some investors, the exit point may be an initial public offering (IPO). In other cases, an investor will set a profit target and maximum loss as part of their overall investing strategy.
An exit from a non-publicly traded company can be more difficult because the investor needs to find someone else to buy their share(s) of the company.
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