Why You Need Stop-loss and Take-profit Strategies
2018
Half of the success in stock trading comes with effective planning. Stop-loss and take-profit strategies can help you in effective risk management.
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Successful stock trading requires many traits, and one of the most important of these is risk management. When you’re trading actively, you need to have plans in place to manage risk. Without risk management, the gains you’ve made and your earning potential stand on shaky ground. A few bad trades can undo all the profits you’d have generated all through
your
lifetime.
Risk
management
keeps
you
prepared
for
such
contingencies. Adopting some strategies can help you protect the earnings and profits you’ve gained during your trading career. Plan, Plan and Plan The first step begins before you’ve started trading – planning and strategizing. Wars were often won before they were even fought, right at the planning stage. It’s no different in trading. You need to plan well ahead. Are You With the Right Broker? The foundation of all trading is the broker. Your broker must not charge sky high commissions, which would severely compromise your earnings. The broker must also have all the analytical tools in place to facilitate active trading rather than infrequent trading, which some people do. A Clear Idea of When to Sell the Stock Trading is not entirely a luck influenced activity. Successful traders have a clear idea of the price they can pay for a stock and the price at which they can sell it. They then measure the returns against how probable the stock is to hit their goals. If the returns are high enough, they go ahead and execute the trade. But unsuccessful traders often don’t have a clear picture of the points where selling could be a profit or loss. They make their trades on the basis of emotional inclinations. Generally when traders make losses, they hold on with the hope that persistence pays and they’ll get back the money they lost. Profits also sometimes make traders hold on to their stocks for more gains, but strategy could quite easily backfire if those expected gains don’t come.
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Now let’s move to the strategies. Investopedia’s Justin Kuepper sheds insight on this: Stop-loss and Take-profit Strategies The two major and most popular strategies to minimize risk are stop-loss (S/L) and take-profit (T/P).
The stop-loss point refers to the price at which the trader will get his stock sold and take a loss on that trade. This usually happens when a trade does not quite work out the way initially hoped. The point is such that it prevents the trader from waiting for the stock price to come back and risk further loss. Before the losses escalate, the trader gets rid of the stock while incurring a lesser loss in the process.
The take-profit point refers to the price at which the trader will get the stock sold and obtain a profit from the trade. This usually happens when the stock’s potential for further upside is limited, particularly when considering the risks. If a stock is heading to an important resistance level and a major upward move, traders would want to sell before the consolidation period strikes.
Setting up Stop-loss and Take-profit To set up these points of stop-loss and take-profit at the right timing, technical analysis plays a major role as does fundamental analysis. Timing is really important. As per the example quoted by Investopedia, if you hold a stock ahead of the company’s earnings release with rising expectations, and these expectations are getting too high, you might wish to sell before the news reaches the market, even if you haven’t hit the take-profit price.
Moving Averages
And then, you have moving averages. These are the most popular manner of setting these points. They are easier to calculate and the market tracks them widely. Important moving averages are:
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5-day
9-day
20-day
50-day
100-day, and
200-day
You can apply these averages to the chart of a stock and then determine whether the price of the stock has, in the past, reacted to these averages as a support level or a resistance level.
Support or Resistance Trendlines
Stop-loss and take-profit levels can also be set on the trendlines of support or resistance. You can draw them by connecting the previous highs or lows that have occurred on volume that has been above-average and significant. Here too, it is important to determine the right levels at which the price can react to the trendlines. Expected Return Calculation You also need to calculate the expected return, since it leads traders to analyze their trades. It also helps compare various trades, and choose what’s the most profitable. For calculating expected return, you need to set points of take-profit and stop-loss. The formula for calculating expected return is the following: [(Probability of Gain) x (Take Profit % Gain)] + [(Probability of Loss) x (Stop Loss % Loss)] With past breakouts and breakdowns from support or resistance levels, you can evaluate the gain or loss probability. Never go into a trade as if you’re entering a blind alley. Have a clear idea of what’s in store with the help of advanced trading software as well as effective risk management.
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+1.954.944.3885