How to Place Easy Stops and Take Easy Profits Correctly As a New Trader
Placing and taking profits correctly is a crucial part of being consistently profitable because managing risk correctly is required to succeed. Trading is a low probability profession and the only way we can maintain profitability, with potentially as many losers as winners, is by cutting our losers quickly and letting our winners run to make up for the losers.
Most of our trading is small gains and small losses and it is the few trades that run really well that make up the bulk of our profits over time so we must learn how to manage our trades to not only capture those gains but also not give too much of them back.
We can never capture all of a move. We have to wait for confirmation of events before we act, and this usually requires losing a little off of the top and bottom of our trades in exchange for having more information available to us to more confidently click that buy or sell button.
Fundamental vs Technical Traders
Fundamental traders take trades based on external factors and are concerned with larger moves of a stock based on the growth and profitability of a company. The intraday price action of a stock has less meaning to them – they simply try to get in at a reasonably good price and capture a larger move until it turns against them.
In the example below, you can see a long term trend that a fundamental or longer-term trader might be interested in. It may be after earnings, a news catalyst, or a change in the financial make-up of a company. Regardless of the reason for the trade, a long term trade does not concern themselves with the minor drawdowns (in red) that an intraday or shorter-term trader might.
Getting in and out of a trade, too many times can take away more profits than it is worth so they often will size larger or use leverage like margin or options to make up for the lost profits by sitting through them. They usually use a longer-term chart for both planning and trading – as most volume on the stock market is traded on a 60-minute chart, which tells us that is where big money places their orders.
Technical traders are not concerned with company fundamentals except reports about them that may be one type of catalyst for volatility that an intraday trader can take advantage of. The more information available to them to capture a more precise move than those traders in less time, and we need to do this because we are trying to make profits quickly to avoid drawdowns and stay in cash when possible – not waiting and hoping for things to happen.
Looking at the same trend on TSLA (below), but this time on a 240M chart, you can see where a short term trader would try to capture only the upward moves (green), technical known as bullish half-cycles, and then trying to take profits before the bearish half-cycle occurs (red), to retain as much profit as possible. They may often take the same trend trade multiple times, but instead of waiting through those drawdowns, they have the opportunity to liquidate their position and trade something else or simply do other things with their time and call that good enough for a day, because they are profiting much more than a long term trader who does not sell between cycles. This does require the shorter-term trader to be more present, managing their trades and their decisions must be more accurate in everything they do.
The best traders often combine both of these investment styles but neither is better or worse, just different ways of trying to accomplish the same goal.
For technical traders, regardless of the type of trade we are doing, correct order placement is necessary for these techniques to work. We cannot simply trade with just risk management based on arbitrary gains or losses – we use technical reasons for entering and exiting any position.
What does “correct order placement mean?”
Stops only work correctly if we place them correctly. The most common complaint from people that say tight stops get them stopped out all the time usually means they are placing stops incorrectly. Most new traders take far too long learning this relatively easy skill (a lot easier than all the money they will lose while they avoid learning it). Unfortunately, a trader simply cannot skip mastering this technique if they want to be profitable so putting it off will just lead to losses until they take the time to learn it, and most do out of desperation rather than just take the time to learn it correctly early on.
On this AAPL 15 min chart, I highlighted a typical entry a new trader would make. It put in a cycle low on the stochastic indicator, the moving averages are angling up and it looks like a nice pullback. But because momentum was fading, it was still part of the last downtrend cycle, and not the new one they think they are trying to join. As you can see, by not noticing the momentum angling down on that first entry, they will get taken out at the red arrow when price made a lower low. They could move their stop wider, but that is an excuse for poor risk management. The correct entry is highlighted on the green line, when again, a confirmed cycle low is put in, but the MACD momentum indicator has flattened and is just starting to slope up.
As you can see, by getting in on the correct candle, we stay in more winners and out of more losers and that is all that trading is. Managing our losers so they stay small and managing our winners to make up for them – with the occasional big winner to make the majority of our profits over time.
Choosing A Stop Strategy
There are two types of stops we use, depending on the type of trade we are taking, a scalp or shorter-term technique and a swing technique.
A scalp trade or short term, intraday trade is on a minute chart such as a 1M, 5M, or 15M. The scalp is a much tighter, precise, and quicker method meant to capture as much of the upward price action as we can while avoiding giving back too much profit.
A swing trade is a longer-term trade, usually held overnight or longer, although a long intraday trade can still be considered a swing because of the way we read those charts. It is planned on a longer-term time frame, like a Daily or 60 Minute, and the trade is executed and managed on a 15 or possibly a 5-minute chart, but it is not as necessary to be quite as accurate because we are after that bigger move and a few pennies here or there do not matter as much.
For either strategy, we choose our timeframe based on the price action that has the cleanest patterns so we can find an opportunity to enter, and is also determined by the speed at which we can make good decisions before missing too much of the trade.
The main difference between the scalp and swing trade management is how we handle what are known as drawdowns, as we briefly covered in the above charts comparing long term and short term trading goals.
To understand a drawdown we have to know what a trend is.
A trend is made up of up and down moves that are simply the exiting and entering of participants into a stock. Just like when you click sell and take profits on your order, someone else is buying your shares to take the next move on a trade. These exchanges of shares usually accumulate at key levels which is why price can move significantly down for a few bars in a row and not just intra-bar. (Intra-bar means something that occurs within the same time frame of 1 candlestick for whatever timeframe you are looking at.)
These up and down moves are known as cycles. Each cycle is made up of two half-cycles, one bullish (price moving up) and one bearish (price moving down). The average trend is about 5 cycles or waves but can be far less or many more and the average half cycle is 5-10 bars but also can be more or less. These half-cycles occur over and over on a bullish uptrend, meaning if price is moving up, it will stop, have a half-cycle sell-off and then resume the old trend. If we are trading this long (with the bullish trend), our entry is always after a cycle low (which we can identify with our stochastic indicator) because then we know price is moving up to a cycle high and not at the end of the longer-term trend.
If we are long on a stock, that down move that takes away from our profits that you just learned is called the drawdown. If we get in too early, we can take such a big drawdown that we get stopped out before the trade we want even occurs, and that is why we like to buy as close to a confirmed (closed-candle) cycle low as possible.
The reason intraday traders or day traders are so profitable so quickly is they are able to avoid those drawdowns if they want or they can let some ride- it is entirely up to them. They are flexible and can take partial profits, move stops, and get a feel for the market intraday and the price action of the ticker they are trading. This is why intraday trading is popular with new traders often with smaller accounts. By just capturing more of the up moves and not the drawdowns of a stock, they can make a lot more money a lot faster.
Swing traders know they will take drawdowns. This resigns them to make less money than a shorter-term trader might by trading the exact same stock, but obviously requires far less trade management, has a lot more room for error, and has significant advantages to people with larger accounts. But – it is also a much easier way to trade and if you are struggling with the shorter-term trading style so much that you can not maintain consistent profitability then you should strongly consider switching to a longer-term strategy that will allow you to grow your account safely and with a higher win rate.
Please really consider if you want to take the time to learn the high paced trading of a shorter-term time frame that may not be of much use to you if it does not match your long term goals. I always tell my students, make sure you are trading, and learning to trade in a way that is what you want to be doing in a year or even five years from now. While there is some value in learning other trading techniques, the allure of very volatile charts is often not as rewarding as it may seem because of the learning curve it requires, with only about 10% of new traders able to become consistently profitable doing it before they quit. Most new traders flock to this first because they see other traders making a lot of money. But most of those traders are much more experienced, can trade many setups and styles, and just make it appear easy. In reality, if most new traders focused on the longer-term style, even just longer-term intraday trading, they would find that the added simplicity, room for error, and time to really make well thought out decisions not only presents easier opportunities for profit but the methodical nature of taking fewer slower-paced trades is naturally more character building for a new trader to be able to really study and retain the experience that well planned and successfully executed trade provides.
Most experienced traders find comfort between these two investment styles. They keep a large portion of their account in longer-term “positions” and just manage those trades over time to generate consistent income at a satisfactory rate. They then use the remaining balance to trade on a shorter-term timeframe if the opportunity presents itself but having the income from their position accountable to generate enough income that they are not required to do that to make a living. As traders really become wealthy, a small percentage keep doing scalp-style trading and turn to leveraged positions that they can trade with the confidence of being more experienced traders to focus on trading far fewer but much more quality and highly profitable trades.
For a quick/scalp trade we are looking to make quick money.
- These are higher risk trades because of intraday volatility changes in both the tickers we trade but also their vulnerability to overall market conditions and swings of volume and investor sentiment that can affect our trade indirectly.
- Such as the premarket and opening rally, morning sell-off, and afternoon rush
- The reason intraday traders can profit so quickly is by being more accurate about entries and exits. By doing this, we are able to avoid the big drawdowns that occur between trends as participant groups take profits and leave the market and new ones enter. Longer-term traders do not concern themselves with the drawdowns and make up for that loss by trying to capture the larger movement of a stock.
- As intraday traders, we can protect ourselves from giving back profits in two ways:
- Use tighter stops than a swing strategy
- Take profits more quickly, avoiding extra drawdowns
- Step 1: Place your entry one penny below the low of the candle you entered from on the same timeframe.
- If you are trading a 5m minute chart, that is your timeframe. You cannot jump to another one or you are looking at a different trade and a different participation group that you are not a part of. Make sure you pick a timeframe that allows you to make quality, thoughtful decisions without being rushed. You will make more money choosing a longer time frame if it means making better decisions
- Now you must identify your trade. Is it a half-cycle scalp (5-10 bars) or are you trying for a full trend trade. This will depend on how early in a new trend you are able to get in. The later you are, the fewer profits you should expect and having accurate and realistic expectations is vital to maintaining a positive attitude about the profits we gain instead of being upset by the ones we miss out on because we will miss out on trades all the time in this career.
- Once you accurately identify your trade, the management is simple.
- For the quick technique, place your stop one penny below the low of the candle you entered from. For each new closed candle that forms on your entry time frame (if you enter on a 5M you place all your orders on a 5M), move your stop one penny below the low of each new candlestick. If you get a parabolic, or long candle without a reasonable new low, you can move your stop to a mental support, like 9.95 cents if you enter at 10.10. Now simply take your profits when you get stopped out.
- You can speculate profit targets in time, but as a new trader, the likelihood that you will guess better than this technical reason for exiting (a lower low on price), is possibly not worth the effort and you can always work on that later. Right now we just want to get profitable sooner, not later and that is done by risk management and protecting losses, not by guessing tops.
For the longer trend or swing stop technique, we need to use our cycle indicator and know how to identify cycles in price action. Let’s look back at our trend from before where we identified the upward and downward price action of half cycles. If we take an entry on the vertical green line, we place our first stop below the most recent cycle low (first red line).
- We calculate our entry size based on the maximum risk we will take if we get stopped out there.
- If you have a $4500 balance with 3 $1500 positions for trading:
- Your risk per trade is always 1% of your balance, so $45
- If you buy a $10.10 stock and your stop is at 9.95, your risk is $00.15
- $45 (max risk) / $00.15 = 300 shares
- Now we wait for each new cycle low to complete and for the uptrend to resume. We can simply look at price, but it is better to learn to read a stochastic indicator to be more accurate and it will prevent a lot of bad signals. For the purposes of this example, we will just look at price action above. Following the same system of up and down cycles and move our stop one penny below the lowest candle, or cycle low candle on the stochastic, and wait for the next move up.
- There is a more advanced technique I will not go into detail here but I will link it if you would like to read it. I usually recommend keeping it simple if you are just starting out, and taking profits when you get stopped out by moving your stop up. Again, it is unlikely that new traders will find more accuracy than taking a technical exit rather than trying to speculate a profit target.
And that’s all there is to it. Enter it correctly. Move your stops. Lock in your profits. Win. As I mentioned before you can improve your profits the rest of your life with accuracy and leverage with margin or options or additional funds., Right now you are just trying to safely grow your account as quickly as possible, build your emotional bankroll and learn the real secret of trading – managing money and risk.
Technical analysis is learned in very little time compared to any other similarly challenging profession. The rest of trading is what takes a lifetime.
More to come and editing. Students can email me errors or clarity concerns.
Good Luck. Be Safe.