Profit Target

What is a Profit Target?

A profit target is a specific price level at which an investor aims to exit a trade for a profit. It represents the point at which the desired return on the position has been achieved.

Setting a profit target allows traders to lock in gains and manage risk by avoiding the behavioral pitfall of letting profitable positions turn into losses. It is an exit strategy actively used by many trading styles.

How Profit Targets Work

When placing a trade, traders can attach a profit target order to their entry order. This is an order to automatically close the position for a profit if the price reaches the predetermined profit target level.

It helps remove emotions and discipline traders to realize gains according to their plan. Profit targets can be either static fixed-price targets or dynamically trailing stop-loss type targets that adjust as the price moves favorably.

Setting Profit Targets

There is no single way to set an optimal profit target, as it depends on trading style, risk tolerance, and market conditions, as well as the best method.

Profit target methods:

  • Volatility-based stop distances
  • Setting targets based on prior support/resistance levels
  • Specific risk-reward ratio distances (e.g., in R)

Position traders may trail profit targets, while scalpers may take profits very quickly based on specific price movements.

Personally, I like to work with profit targets in short-term trading because I can secure short-term gains in volatile markets. A stock that I exit then might move beyond my PT, but that’s okay since a good realized profit is a good profit.

Benefits of Profit Targets

The main benefit of profit targets is avoiding the costly mistake of letting a profitable trade turn into a loser due to greed or lack of discipline.

While by itself, such a scenario is not really a problem, it can cause something in your brain. Imagine you sit on a $1,000 unrealized profit, and you let the winner run like you have read it in so many trading magazines.

You go to your favorite coffee shop and enjoy your unrealized profit.

Then you get back to your trading desk, and hey, the newest CPI numbers fell out worse than expected, and the market tanked.

Your position not only turned from a profitable to a break-even one, it is now a $1,000 unrealized loss. What does that do with you?

In general, a profit target helps traders trade according to their trading plan and secure gains instead of letting emotions drive poor decisions. Profit targets combined with stop losses allow for effective trade management and capital preservation.

Risks of Profit Targets

One potential risk of profit targets is exiting a position too early and forgoing further profits if the price continues trending in a favorable direction after hitting the target.

There is also the risk of significant slippage and not getting filled at the desired price level if there is insufficient liquidity when the order is triggered. This can result in lower-than-expected realized gains.

Profit Target Examples

If a trader buys a stock at $200 and aims for a 50% gain, the profit target order would be set to $300. The system would close the position at $300 to lock in the $100 profit per share.

Another example is setting a target to exit half the position at a 50% gain while trailing a stop-loss on the remaining half to let profits run. Let’s say you have 100 shares. Then, you set the profit target for 50 shares and trail the stop for the other 50 shares.

You can also stack the profit targets; for example, exit one third of the position at 10% profits, the next third at 20% of profits, and the last one long term aiming for 50% in profits.

Trading with Profit Targets

Many trading strategies incorporate profit targets as part of a structured risk management approach. Trend-following systems may trail profit targets, while mean-reversion strategies take profits quickly at pre-defined levels.

Intraday traders may take profits at measured small increments, while swing traders hold for larger multi-day profit targets. Effective use of profit targets can improve trading performance and consistency.

Profit Target Terminology

Some related terminology around profit targets includes the profit target ratio (profit target divided by stop loss distance), target price (the actual price level of the profit target), and target order (the specific order instruction to exit at the target price).

These all refer to the technical implementation and measurement of locking in a predetermined desired profit.

Alexander Voigt, CEO
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Alexander Voigt is the founder of DayTradingZ, was a regular contributor to Benzinga and has been featured and quoted on leading financial websites such as Investors.com, Capital.com, Business Insider and Forbes.