IDENTIFYING PROFIT TARGETS

                          Knowing when to take profit on a trade is often a subjective and frustrating
process for many discretionary traders. Often a trade will be closed too
early or open too long while a trader tries to squeeze every last pip out
of it. Without a systemic, repeatable procedure to determine when to take
profits, a trader will never feel truly comfortable with his decision to take
profit, and volatility will continue to be an issue in his returns.
In this section you will learn two of my favorite tactics to identify profit
targets. First, you will learn how to use support and resistance to identify
simple profit targets based on price action. Second, you will learn an advanced
method of identifying profit targets using Fibonacci retracement
and extension ratios.

Identifying Profit Targets with Support and Resistance

Chapter 3 taught you how to read price using support and resistance.
This section builds on that knowledge by using support and resistance to
identify profit targets. Support and resistance levels are often revisited as
the market oscillates higher or lower, making them ideal profit targets.
The difficulty with using support and resistance barriers as profit targets
is the process of selecting which support or resistance level to target.
Traders have no idea which support or resistance levels will be respected
by price and which will not be reached until the market actually tests
them. Additionally, support and resistance levels can create severe market
reactions so that the profit target may be reached, if only for very brief
moment in time.If you decide to use support and resistance to identify profit targets,
I have a couple of recommendations. First, look to use the first major
support or resistance barrier as the profit target. If the market is unable
to break through that barrier, at least you’ll be taken out with a profit before
it reverses direction. Second, always look for a risk-to-reward ratio of
1:3 or greater, just as we would when using Fibonacci. Finally, take profit a
few pips ahead of actually reaching the support- or resistance-based profit
target. Price action tends to slow down as it approaches a major support
or resistance zone, and occasionally the zone is never reached before the
market reverses direction. Taking profit slightly ahead of the profit target
ensures that your trade will be taken out for a profit if the market turns
around early. Typically 10 to 20 pips before the profit target will give you
enough room.
                    Figure 5.2 demonstrates how a trader who bought near the bottom of
a ranging market could use the top of the range as a potential profit target.
Placing her limit order just below the top of the range ensures that
she is taken out with a profit in case the market fails to rally through the

resistance level. In the case of Figure 5.2, the EUR/JPY easily rallied
through resistance, but there was no guarantee that it would, and it’s better
to be safe than sorry you didn’t take profit when you had the chance.
Figure 5.3 demonstrates how a trader may identify a support and resistance
profit target within the context of a trend. In the case of an uptrend,
the long trade may target the most recent price high. In the case of
a downtrend, a short trade may target the most recent price low. Either
way, you are looking for a trade opportunity where the potential profit is
at least three times greater than the amount risked to maintain a good riskto-
reward ratio. If the market is unable to offer that, you might consider
skipping the trade and looking for a better opportunity.
                                                          Figure 5.3 clearly illustrates the psychological game profit plays with a
trader’s mind. The USD/CAD continued to rally well beyond the intended
profit target, leading some traders to begin scaling out, moving their stop
to breakeven, or doing a magic pip dance to capture as much profit as they
can out of every trade. Don’t fall into this trap. You never know what will
happen in the next minute, hour, day, or week in the currency market. Plana trade based on sound risk-to-reward ratios and stick to that plan. Don’t
let greed get in the way of taking a good profit today.