Should traders profit-target $'s or %'s?

When it comes to trading the financial markets there always seem to be multiple ways to achieve our goals.?

Newer traders might wish to know that experienced traders usually settle on techniques they can trust to deliver the same results, even when those approaches differ between individuals.

This article considers a fixed approach as well as an adaptive approach and hopefully offers up some good food for thought as to which way appeals more to the reader.

I’ll break the approaches down into various aspects that are impacted by the markets and the strategies used.?

How is the price target identified on the chart??

1. If it is a fixed number of pips/points, this could present a problem if different markets are traded, as ATR (average moves) values will differ. For example, Forex may not move as much as an Index.

2. If it is a Risk:Reward approach, then which is it? 3:1, 2:1, or 1:1 or other? Usually, this approach employs a straight 1:1 target and relies on lots of statistical wins, especially because it's charged with hitting a daily target. In this case, it's more effort?

There are three generally agreed-upon ways to trade price action:?

(1) Limit-trade ranges (sell from the top, buy from the bottom),?

(2) trade reversion to the mean (Counter-trend) trade the correction, or?

(3) trade with the trend.?

Trading ranges offer appealing Reward-to-Risk potential, with lower statistical probabilities of winning i.e. higher risk:higher reward. Depending on the setup, the R:R could be very high e.g. 10:1, 20:1, and offers something to do when the markets aren't really going anywhere.?

It can be deceptive- keeping in mind that a ranging market is inherently unstable/irrational.?

The risk is higher because the edge of the range can constantly be breached, making 'safe' stop-losses difficult to identify. Wider stops then negate the greater rewards.

In a range price is actually orbiting a central axis, not pinging between top-and-bottom as many folks think and therefore there is no guarantee that price has to go from top to bottom or the other way; the route it takes can vary wildly.?

So, in my humble opinion, the benefit of the potential reward is offset by the unpredictability of the outcome here.

Also, can this approach be found every day in order to achieve a fixed income?

Trading a retracement, or reversion to the mean, has at least two major drawbacks: First, it is an inverse reward-to-risk approach, offering an average profit of half the amount risked, and secondly, if it's done within a range (weak trend) it's basically range-trading (see above), and if it's done in a trend, it varies in its probability to achieve a target safely.?

Psychologically, counter-trend trading is the most stressful: success is rare, profits are low. This approach seems the least likely to bring in a daily income.?

This leaves trend-trading. Trends, contrary to ranges, are the most intentional, stable and rational of market conditions. Big money loves trends. They are also (relatively speaking) the safest to trade. Entries can often be tight and profits potentially open-ended.?

They are not as stressful because we feel we are in sync with the prevailing flow.?

Targets might be the next major levels, or a fixed 2:1, 3:1, or even a recent price low/high. Trend-based setups can sometimes also offer very high reward-to-risk setups, similar to range-based setups i.e. 10:1, 20:1, but these are harder to identify ahead of time, and often occur when the market does an unexpected extended move right through a key level.

The problem with trends is that they may not be available on a daily basis, and this absolutely forces us to search across multiple markets in order to find them. This means that trend-traders will likely have to scan forex, commodities, indices and others to find what they need. Many traders simply stick to Indices as those trend the most.?

What about position-sizing?

Calculating our $ amount per pip/point is always a focal activity- there's unavoidable effort involved, enough to slow our trading process momentum. Using a fixed quantity is appealing because it's quicker and easier. The ball-ache here is that it makes our potential profit vary too much if we are trading different moves and/or different assets. It may make more sense to do this if we are always trading the same market and maybe the same strategy e.g. trading the close of a gap.

I think it's likely either the profit will take a hit, or the risk will be somewhere along the line as explained below.

The whole point of 'position sizing' is to keep risk the same and remove it as a distraction.

This is really where master traders coin it- they find tight entries where their stop and entry are close together, on a highly probable trade setup, where the potential profit is great, usually more than 5:1. Their risk is fixed, but profit potential is high.?

A note on statistics and probability

Trading price action is ultimately about choosing patterns/setups that have the highest likelihood of yielding profits. It appears set in the laws of success here that the greater the risk, the greater the reward, but in reality from experience, the greater the risk, the greater the risk, period. The ultimate goal for the experienced trader is to minimise the risk while maximising the potential profit, which usually means keeping the entry and stop-loss as close together initially and targeting setups with the greatest potential profits. This doesn't mean that their average trade isn't profitable, just that now and again they reap great (bonus) profits.?

Therefore, it seems logical that if our intention is to bank a daily goal amount, we would want frequent setups which offer a high-probability of profits- this eliminates counter-trend trading which are higher-risk, lower-reward.?

There's no holy grail strategy yet, and if there was, the market would break it quickly.?

Here's the thing though, a reliable strategy with a high win-ratio e.g. 60-75% would also likely include a multiple in terms of reward, such as 2:1 or 3:1. This is preferable because it really compensates for the losing trades, plus it grows the account faster.?

NB. Profits made now, are NOT to make up for previous losses, but to protect against future losses. Traders are always looking forward.

Quandaries with fixed amounts

If we choose a fixed profit target amount, then surely we must also know the answers to the following:

1. How we decide the amount at the start.

2. How long we keep that amount as our target amount.

3. When do we adjust that amount up or down in the future- down if our account is heavily reduced (therefore account-risk is now higher), or up if our account is growing nicely. If our account has grown substantially, then we eventually become our own impediment to long-term growth, which is to say that our position-size and earnings will begin to contribute less and less to the account over time.?

We must have a plan to adjust upwards, which means that we will have to deal with the reality of a change in our comfort-zone at some point. Success guarantees that we will have to change our fixed $ target going forwards.

Why choose a fixed $ amount??

I can't really think of a cold, hard economic/financial reason to do this, that doesn't very quickly become a sub-optimal idea.?

If we hit a longer-than-expected losing streak, our risk increases, causing greater psychological pressure, possibly causing us to spiral, and if our account grows, we start to make less and less. In this situation, it does make sense if we are prepared to adjust the fixed amount around fixed periods and fixed account levels.?

It seems that it is most commonly employed to create a mental comfort-zone; a 'safe space' for a trader to achieve financial success with less pressure.?

One great danger to consider here is that of becoming ‘money-focused’ instead of ‘quality of trade’ focused: A trader should first and foremost select setups that have the greatest probability of delivering some money, if not their full reward potential.?

If we take our eye off the ball, and change to a mindset of achieving our money-target at any cost, the quality of trades will change, and then the profits will run away from us. We will change our selection criteria.?

Keep in mind that the market does not produce opportunities for our convenience- rather, it creates them when it creates them, the timings are random. Some weeks there are lots of good moves, other weeks not so much.?

Adjusting our position-size up or down is the most responsive way to reduce damage during extended losing streaks and then to grow the account during winning streaks. Remember that we're supposed to be winning more often than losing anyway.?

Trader headspace, account health and overall success are tragically intertwined.?

All traders, and I mean all, are susceptible to moments of despair, where a lack of confidence re-introduces doubt and conceivable deviation from beneficial behaviours.?

The wiser traders have developed ways to protect themselves from their own worst sides.?

They have created ways to prevent themselves from getting to a place where their emotions may begin to interfere with their decisions and actions. They also know themselves well enough to identify if they're slipping.?

When traders employ a fixed % risk per trade, that removes one major psychological demon. They can rest easy that their account damage actually reduces during extended losses.?

An example of when a pro trader could encounter an increase in losses would be when a strong trend has become exhausted- it will still produce setups, but they will 'stumble' for a while before it becomes apparent that the market's underlying factors have changed and to halt participating in that market for now.

Having a minimum fixed target amount could make sense here, but should also be open to further profits.

For example, it makes sense if a 2:1 or 3:1 achieves our minimum amount when at breakeven, because then we can close at any time after that still feeling like a winner.?

Closing positions in order to reduce our exposure ahead of calendar news also makes sense, and closing before the market does in order to avoid overnight exposure is also a good idea in these situations.?

Closing thoughts

A fixed $ amount is a double-edged sword where we stop trading once our target is achieved, but possibly don't stop on days where the market conditions are volatile and unlikely to give us what we want.?

In the end, it's the trader's personal preference of course- we must do whatever we find keeps our mental state strong to play another day.?

Please be encouraged to comment on your thoughts below- This article is a work-in-progress, which I may update or revise as better approaches arise. I look forward to hearing from you.