Alright, much has been asked, debated, argued, and discussed on this forum about having appropriate management of trades. I believe it to be one of the most misunderstood and sloppy areas of any traders system. Usually it is not defined, and if it is, it is subject to the whipsaw of an indicator or some other factor. Fib levels allow a specific advantage in this area because they MEASURE price action and thus give us visual price levels that we can utilize to take profits and reduce risk systematically on each trade we take, in the same fashion each time. I am going to provide you the exact way in which I manage my stops and profit targets. I had briefly talked about this before, but were going to go more in depth on this one.
First things first. I recommend trading using at least 2 lots. One of the hard things about trading with only 1 contract is you see profit, and you want to take it, but you know if you do you aren’t allowing your winning trades to develop fully which hurts your p/l, but also it keeps an additional risk out there that the trade could reverse and come back in your face for a loss. For this method to work, you really need at least 2 contracts. You could apply the same technique to 2000 contracts, but you need more than one for starters.
The idea revolved around using the first contract to take a quick profit at a HIGHLY probable price point. More than 90% (probably more) of the signals this method uses will hit a 38% price point. I also said before that price can reverse here and move against you, so what we have done is to take a quick profit by exiting 1 of your 2 contracts at the 38% level, and then putting your stop at the 62% level on the 2nd contract. So what have we done? We locked in a quick profit on one contract, and we reduced our risk ideally to nothing on our 2nd contract. This will allow us to take some profit out of each trade even if it doesn’t work and the 2nd contract stops out, or ideally will allow the 2nd contract to really work in favor and we can gain even more pips, but without any adverse risk to our p/l in our account.
It becomes a free trade, and PSYCHOLOGICALLY, this is KEY to allowing yourself to let your winning trades ride out for more and more gains. If that was the only contract you had on, you would want to be jumping out at every little bump due to fear. This management reduces your fear of loss, and thus will increase your profits.
READY TO LEARN? Here we go! I used a trade that just concluded on Friday in the AUDUSD. I walked away with +205 pips using this technique.
Image 1: Check our chart alignment. Bearish MA’s, last upswing broke 85%, meaning downside potential is there. So lets get ready to play!
Image 2: Flip the grid and measure the downside swing. Note how the first pullback into 62% blows through. There is no signal here.
Now note this: If price action continues upward and fails at the 75%, or 85% level and then REESTABLISHES back below the 62% level, i will take that trade. However, if price was to reestablish back below the 50% line, while downside is probable I won’t take the trade because price is outside of the 50%-62% area on the grid and there is too much risk from a management perspective to take the trade. I only want to enter if i get the signal and price hasn’t blown away from me beyond the 50% level.
In this case, price went up and tested 85%, but failed back below 62% and is still firmly between 50% and 62% so entering at the open of the next candle is A-OK! Entry at the open of the candle with the arrow above. Initial stops are placed at 85% like usual on both contracts
Image 3: Price action goes down to 38% without a fuss. This is the time that we take our first contract off at the .8780 level for a +32 pip gain. Furthermore, we move the stop loss on the 2nd contract from the 85% level down to the 62% level. Worst case scenario is we get stopped out on the 2nd contract for a nominal -9 pip loss leaving us still net profitable. This puts us in a winning trade regardless of outcome. Yet we have no risk to bear here because we know were walking away with profit, so why not let the trade continue to work from here for more money? We have NOTHING to lose, and EVERYTHING to gain. This is the kind of situation traders need to put themselves into.
Image 4: As price action continues downward our next stop loss movement occurs when price action hits 23.6% on the retracement. At which point we move our stop loss from 62% up to 50%. This locks in profit on the 2nd contract for a worst case scenario, but allows the trade to continue to work.
Continued Below in Next Post!
