When to take profits?
Updated: Sep 30, 2019
Okay, before this gets serious lets just put it out that above picture is meant to be dig at hindsight warriors and future tellers but also at the same time a basic approach on how to scale gains when in profitable long or short trade.
Using hindsight charts is very easy to draw conclusions where trader should have taken profits, and sadly there is way too much attention in social media going towards that topic, especially pointing out profit taking on something very specific, rare and totally unique situation, which serves no or very little future execution replay-ability. Trader should always keep in mind, this is a profession where one is playing long term game and whichever the decisions or conclusions are based of the historical / previous actions they ALWAYS must be drawn from the large sample pool of data, never draw conclusions from something you did as trader only once. It is time to put away Youtube videos where experts are telling you how you should have sold your crypto gains in 2017 at the top because that was the right way to do. As a trader you will not gain much if any valid replay-able actionable knowledge from someone telling you what you should have done on past single situation. Always the actions have to be drawn within the consistency of behaviour of whatever the asset trader is trading, meaning large sample base. Therefore the chart picture above is slightly sarcastic but also very very real in modern trading social media presence. Always base your trade execution decisions based on large sample base behaviour and the current specifics of behaviour such as orderflow of bids and offers.
Realistic versus un-realistic expectations of profit taking
Very common question in beginners trader circles is: "Where should i take my profits?", usually due to fact that beginner traders are unexperienced and have not had time yet to study enough data, collect the data or just make enough mistakes as not enough time has passed while they are in the driving seat of the market. It is totally normal for beginner thus to ask such question, but it is not acceptable for someone who has been trading specific setup for a whole year to ask that. It is traders responsibility to learn how to backtest the setups, how to collect them and how to construct basic common behaviour statistical data to base the TP (take profit) targets from. Tape reading / level 2 or level 1 should not be first priority for trader to define profit targets because that skill is much more difficult to learn than just deriving simple data from historical charts and use that as a TP guide on trades. Thus chart data samples are first priority. Tape - level 2 and bid/ask stacks should be there to help with guide but are in second seat.
Often with beginner traders there are going to be two concepts forwarding the profit taking initiation, both of which are not the way trader should be approaching taking profits on a trade:
Greed is often a driving factor which is especially common in traders, who are looking to make out quick buck from the trading, putting in minimal effort and extracting high amount of profits from trade. Often most of those traders are highly tilted to not putting in the required time to study the setups and improving the edge and trading skills. The whole concept of making a quick gains as soon as possible as beginner trader in trading is very flawed concept because trading for sure is not one of those industries where this is possible to achieve on consistent basis. One might get lucky once, but it is impossible to replicate it consistently with greed being the sole driving factor where trader has unrealistically high expectations of returns on trade (distance of price and $ gains size) which are based on not actually doing the proper homework on trading setup. Greed can also be appearing as a result of several bad consequent trades where trader is trying to cover back the loses trough single strong winning trade, and often those expectations are not going to be realistic in terms of what this single setup can deliver, at least consistently. But this is already then another beast to cover, revenge trading.
Fear is almost the opposite of greed concept and can be just as problematic as greed. Taking gains too quickly on trades can be damaging over long run as it dilutes the actual overall gains in the long run and makes the loosing trades by default larger. Traders who do not have experiance with the setup they are trading are often tilted to taking gains on trade with fear, being too jumpy or it could be the fact that previous bad trades are pushing trader into fear mode on new trades, which might sound fine but in reality over long run is not.
It is totally okay to size down position size on trade with consistent bad performance on trades, it is not however acceptable to be trading under fear and taking each trade 5 times too early out of its gains just because trades has bad taste in mouth from previous trades, that will lead to further bad performance over long run.
Scaling down size is fine, cutting down profits in distance of cents (equities), satoshies (crypto), pips (FX) is however not acceptable.
So how do you determine if you are too wimpy on your trades and taking gains too early or if you are too bold and greedy letting your gains run for too long so that they turn back on you way too many times with break even trades or even losses after being in solid gains?
The answer comes from studying the pattern that one trades over large sample base of data and also studying the actual trade executions on charts and doing the data collecting-comparing over 100 or 200 samples/trades to see if trader has under-performed the actual overall optimal gains that setup gave on those all trades taken combined. Remember your job is not to maximize every setup on profit taking, that is completely unrealistic (because every setup is a little different). Your task as trader is to have optimal profit taking relative to what setup gives on average across 100 samples.
3. Revenge trading
This is one area that is often part of greed, or many other reasons where trader thinks that he / she was stopped out of trade un-justly as the price turned into traders favour soon after stop out. Those two are often triggers of revenge trading that comes as a product out of it, but there are many more reasons, depending on personality of each trader.
Personally for me this is still area that i struggle and have on average 1 day per week where i am trying take back from market, what i think was taken from me un-justly. Many intermediate and experianced traders still struggle with this.
Revenge trading will often skew the profit targets on trades, where trader will try to extend TP as far as needed in order to cover losses from previous trades.
To help with that issue often it is best to have some sort of hard rules set in, for example specific discipline rules or anything of such manner, but since i am not an example to give lessons on this topic i will keep it to myself.
Study and collect the data
The first step that trader needs to take is to start actually collecting the large sample base of patterns that one trades and then doing few statistical analysis to determine the average behaviour rate of setup upon which the take profit target should be determined. One can go very fancy with stat counting or you can do it more robust and straightforward way the way i like to do my counts, using simple binary 1 -0 , 0 -1 counts on whether asset did complete such and such thing 1, or if it didnt 0. Make sure that the data that you are actually collecting is relevant for profit taking, an examples would be (for long setups only):
-has price hit new all time high after the setup appeared (1 for YES, 0 for NO)
-has price went up 50 pips or 50 cents after setup (1 for YES, 0 for NO)
-has price went up straight 50 pips / cents after setup or were there pullbacks in between
-what was the draw down after the setup was validated for entry (1 for decent DD, 0 for small DD)
-was setup A grade or not (1 for YES, 0 for NO)
-was strong volume on the entry confirmation or not (1 for YES, 0 for NO)
Above binary statments are how trader can structure important data collection, in order to define profit targets for specific setup. For those who hate maths you can just use charts and do it all trough there, but mind that there will be some sort of statistics involved in any case. The most important is that each variable that trader is collecting as part of figuring potential TP targets on setup, the variable needs to make sense. It needs to contribute, and for that trader needs to put thought into it which variables make sense to be collected and which not.
Bellow is conceptual (made up) example of how specific setup is collected and then the data is averaged to see where the aproximate TP target should be:
In example above variables collected that are part of figuring the averaged TP were:
-in how many cases price fades straight down quickly after validation of setup
-in how many cases price takes long time to fade to desired target
-in how many cases setup fails to deliver fade
And then there are per-setup specific variables that one can collect, such as:
-this setup was A grade, yes or no?
-this setup was in low liquid or high liquid time / market?
-this setup was in market where i dont perform well, or was in market where my performance is ok?
All the above variables matter, and can be critical part to find what the average take profit targets on setups should be, rather than just winging it and figuring out profit targets on the fly.
Study your trading performance
The process that never ends is to always study your historical trades and compare them to your suggested profit taking of the setup you have traded. Compare your actual trade executions to where the data suggests you to take profits. Trading is never smooth ride, mistakes and under-performance will be there , sometimes more sometimes less.
And always remember...always take your profits in partial exits! There is no edge advantage in waiting for that perfect single exit. There is however edge advantage in taking profits in few scale-outs. Why? Because at every stage of when trader is in green trade, you can never know when the market will turn on you, and your green trade might just turn into break even, or red.