Trade Management: How to Set Stop Loss and Profit Targets
How traders set profit targets and protect capital with a stop lossTrade management is an essential part of doing business in successful active trading. If proper risk management is not executed, a profitable trader can end their career within one or two bad trades. It is important to understand and accept the fact that losing trades are a very common part of trading and should be viewed as nothing more than the cost of doing business.
The biggest reason a trader will not make it as a professional trader is because he or she personalizes a trade that is not making money, turning a losing trade of what could have been a reasonable small loss (if proper trade management was executed) into a career ending disaster.
Successful traders often say, “Plan the trade, trade the plan.” Setting a stop-loss and profit target prior to executing a trade allows traders to measure the proper risk/reward scenario. To further explain, a stop-loss is an order to exit a trade once a trade failed or is no longer valid. It is a dollar amount you must accept before you place the trade. At this point, you have accepted the risk and the fact that there may be a loss on the trade.
The biggest reason a trader will not make it as a professional trader is because he or she personalizes a trade that is not making money, turning a losing trade of what could have been a reasonable small loss (if proper trade management was executed) into a career ending disaster.
Successful traders often say, “Plan the trade, trade the plan.” Setting a stop-loss and profit target prior to executing a trade allows traders to measure the proper risk/reward scenario. To further explain, a stop-loss is an order to exit a trade once a trade failed or is no longer valid. It is a dollar amount you must accept before you place the trade. At this point, you have accepted the risk and the fact that there may be a loss on the trade.
Three basic stop-loss strategies include:
Initial Stop Loss: Risk point as defined by your original entry.
The most common reason traders blow up their accounts are too much leverage relative to their skills and not truly accepting the risk.
Setting profit targets is also important as it is the overall plan to maximize risk vs. reward in a trade. Without having a target set, you run the risk of letting a winning trade turn into a loser. The skill of booking profits is one of the hardest to teach for the reason that it can be more subjective than setting a stop-loss.
- Break-even Stop Loss: When a position moves in your favor, you move the stop loss point from the original spot to your break-even area.
- Trailing Stop Loss (profit taking): Used to protect profits on a winning position.
The most common reason traders blow up their accounts are too much leverage relative to their skills and not truly accepting the risk.
Setting profit targets is also important as it is the overall plan to maximize risk vs. reward in a trade. Without having a target set, you run the risk of letting a winning trade turn into a loser. The skill of booking profits is one of the hardest to teach for the reason that it can be more subjective than setting a stop-loss.
A few profit taking scenarios include:
Exiting at a clearly defined support or resistance area on a chart, such as a previous high or low.
By using stop losses effectively and setting profit targets, a trader can minimize losses and maximize profits.
- Scale out of a good trade, if you still like it, you can always get back in.
- Exit into momentum moves looking at exhaustion candlesticks and volume.
By using stop losses effectively and setting profit targets, a trader can minimize losses and maximize profits.