Using profits targets in trading, irrespective of trading vehicle chosen (e.g. Forex, Index/commodity CFDs, Share CFDs), is commonly discussed as potential exit strategy.
The reality however is that these are often executed with a lack of consistency with ambiguity in trading plan statements.
This article revisits profit targets and outlines some key issues to consider in your trading plan.
The terms “take profit” (or T/P on your trading platform) and “profit target” are interchangeable.
What do we mean a profit target?
Like a stop loss, (though obviously related to taken a profit rather than a loss), a profit target is a pre-set price point (decided on entry) at which you have chosen to exit.
The main two considerations as a trader are:
- When do I use a profit target?
- Where do a place it?
When do I use a profit target?
Essentially there are three choices namely never, always or intermittently.
These invariably tend to match three distinct trading styles of the individual trader.
Those who NEVER use a profit target tend to be shorter term traders (less than 30 mins time-frame) who are “in the market” for a set period of time during the day and will close all positions at the end of their ring-fenced time. Ideally there with associated use of a trail stop system.
Those who ALWAYS use a profit target go across multiple time-frames, still using an initial and trail stop but often either use:
- Key price points i.e. placed above the next support if in a short trade or below the next resistance if in a long trade.
- A multiple of risk e.g. if using a 2:1 ratio then x2 the risk level. Using this ratio as an example if your initial stop is placed 10 pips below entry in a long trade then the profit target is placed 20 pips above entry. Even if one is using key price points as your norm, this may be useful in those situations where no previous technical landmark exists e.g. when a price hits a new price high.
Those who PARTIALLY use a profit are commonly those who will trade without one whilst watching the market but when they move away will put one in place e.g. when holding a position overnight.
So, your first choice is simple, which of these three is a ‘fit’ for you.
Where do I place it?
We have spoken previously about the need to be specific in your plan to facilitate consistency and measurement.
As with any other component part of your trading plan, your profit target is no different. Here are some suggestions:
- If you are choosing a key price point as your guide to placing your profit the be specific regarding how far away. Please note: to use ‘Pips”/Cents/Points may not translate across time-frames e.g. in technical terms 10 Pips above a support in a 5 minute time-frame is very different relatively speaking to 10 Pips on an hourly chart. Therefore, it may be worth considering something like an ATR (or fraction of) which takes into account the standard movement in a particular time-frame e.g. 0.5 ATR above an identified support level.
- If you are choosing to use the concept of risk/reward ratio as previous discussed, then your placement of profit target is dependent on the initial stop level you set. Then this becomes a simple maths calculation. So, absolutely clarity about how you are placing this initial stop e.g. technical landmark is the specificity that you need to work on.
Bear in mind of course that:
- Other exit strategies that are part of your plan for open trades such as your initial and trail stop or your approach when there is an imminent economic announcement are still part of your decision-making, even if you have a profit target in place. These need equal unambiguity when articulated in your trading plan as with your profit target.
- Once you have ‘planted your flag’ and of course traded your specific plan with a critical mass of trades, you are then in a position to test different parameters e.g. alternative distances away from a key price point.
Your mission from here is to decide whether and how you are going to use profit targets and subsequent to write placement details in your plan…and then of course follow through with the discipline to trade it.
Educator and course facilitator
The article from GO Markets analysts is based on their independent analysis. Views expressed are of their own and of a ‘general’ nature. Advice (if any) are not based on the reader’s personal objectives, financial situation or needs. Readers should, therefore, consider how appropriate the advice (if any) is to their objectives, financial situation and needs, before acting on the advice.