Exiting a trade is harder than getting into it since it determines your profit or loss. Thus, an exit strategy is essential for every trade. You can use a trailing stop-loss order to close your trade based on a set of a specific conditions or you can use a profit target. A profit target in day trading defines as a pre-determined price level where you plan to close the trade.
For instance, if you want a profit target of $10.35 from the stock you have bought for $10.25, then you have to pale in order to sell at $10.35. Then, your trade will be closed one the price reaches that level.
Why is it important?
To know where you will get out before you even start a trade will give a chance to calculate the risk/reward ratio. Similar to stop loss which determines your potential loss on a trade, a profit target determines your potential profit.
This way you can make your reward potential outweigh your risk.
Usually, Traders can only see their overall profit if their winning trades are bigger than their losing trades. Yet, with this, you can assess if a trade is worth taking before you start the trade.
Also read: Trailing Stop for Day Trading
The pros and cons
Besides the benefits we have discussed above, there are some other benefits and losses from using it in a trade.
The Pros
- It is based on objective data, like common tendencies on the price chart. Thus, it is more reliable.
- It is an objective and reasonable analysis, thus it eliminates some emotion during the trading. Traders know that their profit target is in a good place.
- If the profit target reached, traders can capitalize on a move they have expected, therefore, they will get profit from it.
The Cons
- It requires skill, you cannot randomly place it based on your hope or fear.
- There is a chance for your set profit target is not reached. The price may move toward the profit target but then reverse course, hitting the stop loss instead. Then, you likely won’t win many trades. While, if they are placed too close, you won’t be compensated for the risk you are taking.
- It can be exceeded. Setting it will forfeit the possible further profit.
