One of the most important things that traders need to ponder is how much profit they expect on each trade that they decide to enter. It’s always easy to enter a trade, but exiting is an entirely different story. Simply hoping that a stock goes to the moon and returns huge gains is not a recipe for trading success. You must have a defined trade plan that details both the downside and the upside of each position so that you can act quickly and rationally after the trade goes live.
Knowing when to take profits is just as important as finding the right trade setups and managing risk. A defined exit strategy allows you to take profits as they come and lock in the gains on any trade before they potentially evaporate. It’s a lot easier to let your emotions take control and operate based on greed without thinking about profit targets on a trade. Below, we are going to walk you through a few techniques to help you understand when it is time to take profits on a trade so that you have a better chance at consistent trading success.
- Establishing Profit Targets
One of the smartest ways to know when to take profits on a trade is to set a predetermined profit target. This involves estimating how far up or down the price of the stock will go so that you can calculate a risk reward ratio and profit target. A common way that traders make this estimate is based on key price levels. Using technical analysis and concepts like support and resistance can help you get a good idea of a profit target before you even enter a trade. Keep in mind that profit targets can be exceeded or never met. This is not an exact science, but as you become more skilled your accuracy in establishing profit targets will improve as well.
- Using Trend Lines
Trend lines are a tool used in technical analysis that helps traders to identify where a stock price is heading. Learning how to accurately use trend lines can be a challenge, but it is absolutely worth pursuing. Many traders use trend lines as a signal to take profits when the price breaks the trend. They enter a trade after a confirmation and then subsequently hold the position until the price breaks the trend lines. This will not be accurate all of the time, but trend lines can often be a very helpful tool for identifying when to take your profits.
- Using Channels
Another classic tool that many day traders use to identify entry and exit points for a trade are channels. These channels are formed by using two trend lines at both the highs and lows of a specific time period. Depending on whether you are shorting a stock or buying a stock, you can use the channels to identify how much profit you can anticipate on a trade and when you should enter or exit a trade. Charting with channels takes a lot of practice and skill, but it can pay off in a big way if you master it.
- Trailing Stop Loss Orders
Sometimes, it’s best to simply automate your trade to take profits for you. That way, your emotions will never get in the way of your profits. One way to accomplish this is to place a trailing stop-loss order. We know that a stop-loss order gets triggered and becomes a market order to sell when the price of a security reaches the specific price that you entered. Trailing stop-loss orders function in a similar manner, but the stop price trails the price action of a security based on either a specific percentage or dollar amount. This allows you to gain more profits without having to worry about locking them in if the price of the stock falls rapidly. It is specifically designed to help you protect your gains by allowing a trade to stay open and continue to gain as long as the price of the security moves in your favor.
Remember that taking profits out of the market allows you to continue growing your account and making money in a controlled manner. As you become a more experienced trader, you will start to understand just how important it is to take profits versus waiting too long and letting a position go against you.
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