Last updated on September 20th, 2018
When talking about trading, the conversations usually revolve around trading setups. After all, people want to find the trading opportunity, enter the trade and reap huge rewards.
In order to reap any reward when trading, there is one key element that gets over looked by many and that is how are you going to take your trading profit.
Seems obvious, right?
It should be obvious but I have seen many times where people are in a trade and have no idea when or where they should exit. This poses dangers such as:
- a large loss
- evaporating profits
Money Management and Trade Exit
Hopefully you are well versed on the topic of risk in trading as it pertains to your trading account. When you enter a trade the possibility of it going against you is always there whether it is to retrace some of the profits or put you in a negative position.
If you have not taken the time to learn about position sizing, the move against you that puts you in the negative can be enough to trigger a margin call.
Margin Call – A broker’s demand on an investor using margin to deposit additional money or securities so that the margin account is brought up to the minimum maintenance margin. Margin calls occur when your account value depresses to a value calculated by the broker’s particular formula. – Investopedia
For me and so many other traders, the stop placement defines the position size.
Here’s an example using Forex as the trading instrument.
Account Balance – $10000 Risk per trade – 1% Dollar risk per trade – $100
Now I know that whatever “setup” occurs, my maximum risk on any one trade is $100 which simply means: my allowable loss is $100.
My trading profit though is variable and is dependent on the conditions of the market AND my exit strategy.
Stop Loss Position
Let’s say that my setup is simply a pullback to support zone. This particular zone is 25 pips plus 5 pips wiggle room making 30 pips the stop on this trade.
I use this zone bottom because if it is violated, my premise for the trade is not valid.
A quick calculation shows I can trade $3 per pip (3 mini lots) when placing my stop in a location that would show me that the entry was a little early.
Now I have my setup and know exactly where I will exit to protect my trading account from taking a beating if I am wrong.
POINT: A stop order sits in the market like a limit order however once triggered, it acts like a market order where you get filled at the best possible price which can mean slippage.
Forex is a market that is easy to dial in position sizing because of the various lot sizes available at many brokers. Almost no trade is off limits due to stop size however you may want to consider what type of trade you are taking.
As a rule of thumb, swing/position trading will have a larger stop than a scalping type of trading.
In my example I took an even more conservative position size (less than 1%) by only risking $90 because I rounded down. If I am prepared to lose $90, should I not aim to make at least that amount in a trade?
How would I go about giving myself a chance to make at least as much as I have risked? This is where your “in profit” exit comes into play.
Taking Trading Profits
This is where things get a little tricky. I want to limit my loss so I have a hard target for an account protecting exit.
I want to make as much money as I can on the trade. Does it make sense to have a hard target for profit taking? Would I not be cutting a trade short?
You are riding a trade high and with your initial risk of $90, your trade is up $270. Adverse news comes out and your profit has dropped to $180. $90 has simply evaporated from your screen.
Your emotions take over and you sit on the trade waiting for the market to rise again.
But it keeps on dropping. More people bail on their longs driving the price further against you and finally, you take the exit at +$90.
This is the course many people take with their trading!
Ask yourself if you are able to be objective and exit your trade during an adverse reaction. Most can’t and that is where hard targets for your profits come into play. Targets may not always be hit however but if you have an exit plan during the negative parts of the trade, you can still gain a profit.
So if we agree we would like to make more than we will lose, what is the best way to go about it?
Some will argue that scaling out takes the emotion of the equation because you’ve banked some profits and lessened the remaining risk. You can then leave the trade running while trailing your stop for bigger gains.
Others will say that scaling out is pointless because a loss early on in the trade would usually be a full position loss. Your profits though will not be on the full position size because you took out partial.
They are both right and all the matters is what you are comfortable with and will do on a consistent basis.
So how do you exit?
In the next few blog posts, I am going to cover some ways that you can exit your trades. Hopefully this will help you from holding on long after all signs pointed to an exit.