Currency Trading For Dummies
Book image
Explore Book Buy On Amazon

On the most basic level, every trade ends with either a profit or a loss. Sure, some trades finish flat, which is when you exit the trade at the same price you entered, producing no gain or loss. Most of the time, though, you’ll be dealing with the agony of being stopped out or the ecstasy of taking profit.

Taking profit too soon or not at all

Taking profit is usually a positive experience for most traders. But if the market continues to move in the direction of your trade after you’ve squared up and taken profit, you may begin to feel as though you’re missing out or even losing money.

This is where traders may begin to fear they’ve taken profit too soon. The emotional element can become very strong, and past trading experience can begin to color your current thinking. The alternative is usually not taking profit at all, which ultimately leaves you exposed to continued market risk.

The important factor to remember is that you took profit based on your trade plan, whether it was based on a technical level being reached or an event playing out. You identified a trade opportunity and went with it, so enjoy the fact that you’ve got something to show for it.

And don’t get greedy. No trader ever captures 100 percent of any price movement, so keep your gains in perspective and remember: The market is not there to give you money. That’s why it’s called taking profit.

Above all, avoid making rash trading decisions after you’ve taken profit. The market may continue to move in the direction of your earlier position, and you may be tempted to reenter the same position.

In some cases, reentering the same position may be the right thing to do, but until you reevaluate the market objectively and without the emotional baggage of previously being right (but not as right as you could’ve been), you run the risk of overstaying your welcome.

Also, avoid the urge to suddenly take a position in the opposite direction. If you were short and prices moved lower, for example, and your analysis and strategy have led you to buy back that short, you may be tempted to venture into a long position.

After all, if you were right that prices would move lower, and you’re now buying back your position, it stands to reason that the market may begin to move up — otherwise, why would you be buying now? But this trade is another trade entirely and not the one you identified earlier.

Treat each trade independently, and recognize that the outcome of one trade has no bearing on the next trade. Instead, take a step back and reassess the market after you’ve regained the objectivity that comes from being square.

Taking partial profits

One way in which traders are able to stay in the market with a profitable position and hang on for a potentially larger move is to take partial profits on the overall position. Of course, taking partial profits requires the capability to trade in multiple lots — at least two. The idea is that as prices move in favor of your trading position, you take profit on just a portion of your total position.

For example, you may have bought 15 mini lots for a total position size of 150,000. If prices begin to move higher, you may sell out pieces of the overall position, realizing profit on a part of your position, but hold on to the rest if prices continue to move in your favor.

If prices reverse course, you’ve reduced your market exposure and you may still have a profit to show for the overall trade. If prices continue to rise, you can continue to take profit until your position is completely closed out.

Whenever you’re taking partial profits, you need to modify the size of your stop-loss and other take-profit orders to account for the reduction in your total position size. Some online brokers offer a position-based order-entry system, where your order size automatically adjusts based on any changes to the overall position.

Depending on the jurisdiction in which you’re trading, closing partial positions may be treated differently. In the United States, forex providers are required to account for your trades on a first-in, first-out (FIFO) basis.

For example, if you buy one lot at 30, one at 20, and one at 10, you’re long three lots at an average of 20. When you close out your first lot, you’re going to be selling the one you first bought at 30. In most other jurisdictions, you’re able to choose which individual lot you want to close.

There’s no practical difference on your margin balance between the two, but some traders like the idea of closing out the lots with the most profit. The key here is that you’ve averaged into a position, and the market needs to reverse beyond your average for you to realize a profit under either system.

If you take profit only on those lots that are in the money, you’re still exposed to a loss from the ones that remain out of the money. If the market never fully reverses, it means it’s still moving against you, and you’ll need an exit strategy.

Stopping out before things get worse

As part of any trade strategy and to preserve your trading capital for future trading, you always need to identify where to exit a trade if the market doesn’t move in the direction you expect. Devote as much time and energy to pinpointing that level as you need, always keeping in mind that a lot of short-term price action can be stop-loss driven.

Anticipate that key technical and price levels will be tested to see if stop-loss or market orders are there. Testing levels is what trading markets spend a lot of time doing. For this reason, we like to factor in a margin of error in placing our stops, based on the individual currency pair and the current market environment.

In our experience, no one is ever happy when a stop-loss order gets triggered. The fact of the matter is that stop losses are a necessary evil for every trader, big and small. You never know beforehand where a price movement will stop, but you can control where you exit the market if prices don’t move as you expect. Most important, stop losses are an important tool for preventing manageable trading losses from turning into disastrous ones.

No trader is right all the time, so getting stopped out is simply a part of trading reality. Traders who apply intelligent and disciplined stop-loss orders occasionally may suffer setbacks, but they’ll avoid getting wiped out, and they’ll still be around to trade the next day. Traders who fail to use stops, or who move them to avoid having them triggered, run the risk of getting wiped out if the move is large enough.

Trailing stop losses for larger price movements

The one type of stop loss that traders may actually enjoy seeing triggered is trailing stop-loss orders, which are often used to protect profits and enable traders to capture larger price movements.

Trailing stops are no surefire guarantee that you’ll be able to stay onboard for a larger directional price move, but they do provide an element of flexibility that you should consider in adjusting your trade plan.

For example, if your position is in the money and holding beyond a significant technical break level, you may want to consider adjusting your stop loss to a trailing stop that has its starting point on the other side of the technical level. If the break leads to a more sustained move, you’ll be able to capture more than you otherwise might. If the break is reversed, the trailing stop will limit the damage.

About This Article

This article is from the book:

About the book authors:

Paul Mladjenovic is a renowned certified financial planner and investing consultant. He has authored six editions of the bestselling Stock Investing For Dummies and is frequently interviewed by media outlets including MarketWatch, Kitco, OANN, and more.

Paul Mladjenovic is a national speaker, a consultant, and the author of Stock Investing For Dummies, High-Level Investing For Dummies, and Investing in Gold and Silver For Dummies. He was a Certified Financial Planner during 1985–2021, and he was a financial and business educator for over 40 years. He is the CEO of RavingCapitalist.com.

Paul Mladjenovic is a national speaker, a consultant, and the author of Stock Investing For Dummies, High-Level Investing For Dummies, and Investing in Gold and Silver For Dummies. He was a Certified Financial Planner during 1985–2021, and he was a financial and business educator for over 40 years. He is the CEO of RavingCapitalist.com.

This article can be found in the category: