It’s all about trade/risk management

I think this is a perfect follow-up to the last post…the 60 minute swing which by count of emails I received many of you were interested in.

So I magnified the entry short and the support.  The short was off the bottom line of the Wave which at the time was at 6137.  In my view trade management considers the risk and reward…in fact the risk/reward ration based upon the distance to the first profit target and the distance to the risk-based stop loss will often determine whether the trade is taken or not.

The risk/reward ration here was determined by the 6137 entry to 6188 so that’s 51 pips of risk.  From the entry to the first support level is 6137 to 6105.  By stepping out in front of the “00″ there’s a better chance of getting a fill before the support at “00″.  But that’s only 32 pips, the second support level is also a psychological number and that’s the 6080 level which was also support during the 7am candle confirming…that level is 57 pips.  Problem is that the 6080 level is the second profit target.  This presents a problem for the validity if the trade for me.  Taking the trade with less than a 1:1 is too risky.  If you want to consider another approach to the trade, keep reading…

The other option would be to cheat in a stop from the point of validity.  The 6188 is a “POV” which means it represents where the trade is not longer valid which has no correlation to dollars or percentages…I do not believe in setting stops according to either of those.

So where another resistance level could use?  The middle line of the Wave plus five pips is a good alternative.  This is the cheated in stop (”CIS”).  So that’s 6159 plus 5 = 6164.  Now recalculate 6137 to 6164 and that’s 27 pips.  The decision of the middle line of the Wave is based upon the resistance that I believe the Wave creates and 6150 as a major psychological level could be used as well and that would be a 6155 cheated in stop loss.  Remember that cheated in stops are still risk-based, they simply represent a level of resistance (or support) that is not the point of validity.

Now the trip down to 6105 presents a reasonable R:R and the second profit target at 6080 would mean that after prices break through 6105 then the risk based, cheated in stop can be trailed to a break even which would be the entry plus five pips or 6142.

Since the process of risk management hinges on making sure that the initial profit target represents not only a good risk:reward on the trade but also a support (or resistance) level that is on the chart, being top piggy or too chicken on the placement of that level can completely ruin a trade that is going in your favor.  That’s exactly why the levels that are reacted to on a chart should be based on the support and resitance of price action and not dollars.  If a trade presents too much risk it will be apparent if you do your risk:reard homework. Don’t get tempted to move stops jsut to make the dollars work.  make sure there is a good reason on the chart!