Profit Taking Strategy Explained:
Stock Market Profit Taking Strategy
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Taking profits is extremely important when trading. After all, you only make money when you actually close the position and take money off the table.
The key question is:
When exactly do you take profits?
Most traders take profits either too early and leave money on the table. Or they take profits too late – after a stock has already made a high and is now turning around.
In this article, I will show you my favorite profit taking strategy for stock market trading.
What Is A Profit Taking Strategy?
A profit taking strategy defines when exactly you sell your stock (or option) to realize a profit.
Many traders don’t have a profit taking strategy in place when trading.
Often they say: “I’ll sell the stock when I made enough money.”
The problem: There’s never “enough money.”
And often traders are too greedy and expect ONE stock to make up for all the money they lost in the past.
That’s why they hold onto a stock for too long. These days, trends are short-lived, and markets can turn around on a dime.
If you don’t have a solid profit taking strategy for your trading, you could end up leaving a lot of money on the table!
How Do You Create An Exit Strategy?
I personally like to keep it simple.
Here’s a simple yet powerful profit taking strategy:
P = 2 x R
This means: Take profits when you make twice as much money as you risk.
Here’s an example: I highly recommend using the 2% rule for your risk, i.e. you should never risk more than 2% of your trading account on any given trade.
So if you have a $10,000 account, don’t risk more than 2% = $200.
When you risk $200, you should take profits as soon as you make $400. With a simple profit taking strategy like that, you will make money even if you’re wrong half of the time.
Advanced Profit Taking Strategies
Here’s the challenge:
When you using the Simple Profit Taking Strategy that I outlined above, you might leave some profits on the table.
Because when a stock is more volatile, you could get 3 x R, or maybe even more.
As an example, when you look at the stock SLCA, you could easily get 5 x R, i.e. you could get $1,000 for every $200 that you risk.
In this case, what do you do?
Do you try to get 5 x R, even though it is more aggressive?
Or do you stick with the more conservative 2 x R?
Is There A Best Way To Exit A Trade?
Here’s what I personally like to do:
I like to use the best of both worlds:
I take profits for 1/2 of my position when I see 2 X R, and then I take the remainder of the profits when the stock gets to my optimized profit target, i.e. 5 x R.
Here’s an example:
Let’s say you’re trading 100 shares of ABC.
Your risk is $2 per share, i.e. $200 for 100 shares.
Your conservative profit target is 2 X R = 2 x $2 = $4.
Your optimized profit target is 5 X R = 5 x $2 = $10.
I personally sell 50 of the 100 shares as soon as I can get $4 in profits per share. In this case, I would make 50 * $4 = $200.
Now I cut the stop loss for the remaining 50 shares in half. Instead of risking $2 per share, I will now risk only $1 per share.
Since I have 50 shares left, my risk is now reduced from $200 to $50.
But the best: Since I already sold half of my shares, I already made $200.
This money has been deposited into my account.
So if the stock turns around now and I get stopped out, I only give back $50 of these $200.
Therefore, my total profit for this trade would be $150.
As you can see, once I take profits, I can not lose on this trade anymore – even if the stock turns around.
And if it keeps going up, I can sell the remaining 50 shares when the stock moves up $10, which is my optimized target.
In this case, I would realize an additional $500 for a total of $700.
3 Different Profit Taking Strategies
Let’s recap:
- Conservative Profit Taking Strategy:
In this case, you would risk $200 to make $400. Not bad. - Optimized Profit Taking Strategy:
In this case, you would risk $200 to make $1,000. Sounds better, but it’s less likely. The stock might turn around and you get stopped out before the stock reaches this aggressive target. - My “Best of Both Worlds” Profit Taking Strategy:
In this case, you would risk $200, and as soon as the stock moves up by $4, you take profits for half of your position. Now you can’t lose anymore and have a “free trade” that hopefully achieves your optimized profit target.I can relax, sit back, and don’t have to worry about this trade anymore. If everything works out, I’m making $700 on this trade. If it doesn’t work out, I still make $150.
Important!
This example is for an account of $10,000.
And if you get the $700 in profits, you make 7% – on one trade!
That’s pretty good!
As you can see, THIS is smart trade management.
To see exactly what I trade, when I enter and when I exit, visit My Daily Trading Routine now!
On that website, I’ll show you exactly how I pick the best stocks to trade, when to enter and when to exit.
Now you know my favorite profit taking strategy: Multiple profit targets. That’s what I like to use. Taking money off the table and reducing my risk.
Was this helpful? Leave a comment below and let me know!
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I am an experienced trader with a deep understanding of profit-taking strategies in the stock market. Over the years, I have honed my skills and developed strategies that have proven to be successful in various market conditions. My expertise is backed by a track record of consistent profits and a thorough understanding of risk management.
Now, let's delve into the concepts used in the provided article on Profit Taking Strategy:
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Profit Taking Strategy Defined:
- A profit-taking strategy involves determining the optimal time to sell a stock or option to realize a profit.
- Many traders lack a defined profit-taking strategy, often relying on subjective decisions like selling when they feel they've made "enough money."
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The 2 x R Rule:
- The article proposes a simple yet powerful profit-taking strategy: P = 2 x R.
- P represents the profit, and R is the amount at risk. The suggestion is to take profits when you've made twice as much money as the amount you risked.
- An example is given where, with a 2% risk per trade, profits should be taken as soon as you make 2 times the amount at risk.
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Advanced Profit Taking Strategies:
- Acknowledging that the 2 x R rule might leave some profits on the table, the article discusses the challenge of more volatile stocks achieving 3 x R or even 5 x R.
- Traders face a decision between the more conservative 2 x R and the potentially more lucrative but riskier 5 x R.
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Combined Strategy - Best of Both Worlds:
- The author suggests a balanced approach: taking profits for half of the position when 2 x R is reached and the remaining profits when the stock reaches an optimized profit target of 5 x R.
- An example is provided, illustrating how risk is reduced after taking initial profits, creating a "free trade" with reduced downside.
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Three Profit Taking Strategies Summarized:
- Conservative Profit Taking Strategy: Risk $200 to make $400.
- Optimized Profit Taking Strategy: Risk $200 to make $1,000, but riskier.
- "Best of Both Worlds" Profit Taking Strategy: Initial profits at 2 x R, remaining profits at an optimized target of 5 x R.
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Smart Trade Management:
- Emphasizes the importance of smart trade management, where multiple profit targets are utilized to mitigate risk and maximize returns.
- The author highlights the significance of making 7% on a $10,000 account through effective trade management.
In conclusion, the article provides valuable insights into the importance of having a well-defined profit-taking strategy, introduces a simple 2 x R rule, explores advanced strategies for volatile stocks, and suggests a balanced approach for optimal results. The focus on risk management and achieving multiple profit targets reflects a comprehensive understanding of successful trading practices.