Setting the Take Profit

What is the Take Profit?

The Take Profit is an instruction sent to the broker to execute an automatic closure of a profitable trade when it gets to a particular area. The Take Profit area is defined as the area where the trader feels comfortable to exit a profitable trade, and so sets a price that corresponds to this point where the broker will automatically close the position.

The Take Profit point is not supposed to be set at the trader’s whim, or at random, even though this is what many retail traders do on the platform. This is very wrong practice. Indeed, the Take Profit area is supposed to be considered by the trader even before the trade position is opened on the platform. The factors to consider when setting the Take Profit (TP) are:

a)    The stop loss

b)    The expected risk-reward

c)     The time frame used in analyzing and setting the trade

d)    Support areas (short trades)

e)    Resistance Areas (long trades)

Let us examine the role of these factors in setting the TP area one by one.

The Risk-Reward Ratio

This should actually be the first factor to be considered because a good forex trade is expected to produce a lot of reward and as little risk as possible. Risk in this sense represents the stop loss set for the trade. The trader should as much as possible choose trades where the risk to reward ratio is 1:2 minimum. This means that for every 1 pip risked in the stop loss, the Take Profit should be 2 pips. It is even possible to pick out trades where 4 pips can be made for every pip risked.

This is an important consideration because traders who consistently push for trades with high rewards with low risk can cushion their accounts from a string of losses with just one or two profitable trades.

The Stop Loss

This goes hand with the factor listed above. The amount set as stop loss will guide the trader in knowing whether the intended target will be at least twice the stop loss, which is the acceptable minimum. If you set a trade with a stop loss of 50 pips, then you should be ready to set a TP of at least 100 pips. If on trade analysis, you discover that all you can achieve as profit is 70 pips, then it is better off forgetting that trade and seeking another opportunity.

Time Frames

Generally speaking, higher profit ratios relative to risk are achieved with longer time frame charts such as the daily chart. It is usually more difficult with hourly charts. So as much as possible, seek out time frames where you can make great rewards relative to risk.

Support and Resistance

Support and resistance areas are very important in setting your TP points. This is because they are key levels where we do not expect prices to go below (support) or rise above (resistance), especially if those areas have been tested previously and stood firm, rejecting the price candles.

For a short trade such as the one demonstrated in this chart below, a resistance area is used to set the stop loss, and a support area used to set the Take Profit.

take profit

The aim is to take such trades on the resistance, so that the distance between the stop loss and entry point is very small, while leaving large room for the trade to run into profit. For this trade, the stop loss was at a distance of 130 points from the trade entry area. The nearest support at the daily pivot was at a distance of 844 points from entry area. This gives a risk-reward ratio of 1:6, a truly amazing trade. The trade eventually went all the way to the S1 area, producing an amazing 1,669 points, far exceeding a reward of 10 pips for every 1 pip risked!

How about if you are taking a long trade? You will use the support to set your trade entry, then you can set your stop loss a little below the support line. The Take Profit is then set at the nearest resistance. See the chart below for illustration:

take profit 2

Here we can see the price action take off from a previously tested support area at S1, rise to the daily pivot, which serves as the nearest resistance and therefore the first price target. The stop loss was set at 10 pips below the support. The daily pivot was located 21 pips above the entry point. This gives a risk to reward ratio of 1:3.5, meaning that 3.5 pips were made for every 1 pip risked. If the trade was extended to the 2nd Take Profit target area, then this would have increased to 6.5 pips made for every 1 pip risked.

Conclusion

It is very clear from these examples how traders should set their profit targets. Always aim to set your Take Profit within reasonable limits defined by the support and resistance areas for the trade, and ensure that you get at least 2 pips for every pip risked in the trade.

Adam

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Adam is an experienced financial trader who writes about Forex trading, binary options, technical analysis and more.

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