Risk Vs Reward And The Never-Ending Battle

Today’s large gap up in the indices can pose some great morning questions. The biggest one being should I buy the gap, or should I wait to see where things go?

You don’t want to chase the market, but you don’t want to miss out either.

You can never be 100% certain of what will happen, but you can apply solid risk methods to help you decide whether you want to put your capital at stake.

Since we have been keeping a close watch of the major indices, we will use the SPY and IWM to gauge risk on individual trades based off the daily charts.

There are many ways traders manage their risk. Today I’m going to show you a simple way to gauge risk by looking at a chart without diving into any deep calculations.

This is best used while scanning through charts to quickly see if there you have good risk to reward before you begin to look at it more closely for a trade entry.

Let’s start with a simple risk parameter that whatever price we risk to we should at least make double that amount.

Having a standard like this helps us know where we expect a stock’s price to go based off what we’re risking.

(Click on image to enlarge)

Above is the SPY. For this example, let’s say I wanted to risk to the most recent low of 319.80 on September 24th.

I don’t believe it will trade lower than that price level. If I buy around 334, I’m risking roughly 14 dollars. I should then expect to make double that, which would be $28.In other words, I want to see SPY get to 362 before I reach a profit target.

Essentially, with all-time highs made on September 2nd at 358, do  I think it will reach that price and higher? Possibly, but that is another story!

Of course, you can trade for a different timeframe, day or 2-3-day swings. However, the risk price may be different, but the expectation of 2:1 should be about the same.

Let’s look at another one.

(Click on image to enlarge)

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