A take-profit order is a type of a limit order that is opposed to the stop-loss order.
What Is a Take-Profit?
It is the price level set in the order, upon reaching which the open trade is automatically closed with a profit. In other words, take-profit is a fixation of the profit.
Take-profit is a pending order. If you set a TP order value in your trading account when you open a transaction, then when the price reaches the specified value, the transaction will be automatically closed without your participation with a profit.
A TPO helps to maintain profit when the price moves in the needed direction, that is, in the direction of an open transaction. For buy deals, the TP level is set above the opening price of the transaction, for sell deals - below the opening price of the transaction.
When to Use Take-Profit
To manage their open positions, forex traders use TPOs together with stop loss orders. If the security rises to the take-profit level, the TPO is executed and the position is closed for a gain. If the security falls to the SL level, the SL order is executed and the position is closed for a loss. The difference between the market price and the TP/SL helps to define the risk to reward ratio of the trade.
For example, you have placed an order to buy EUR/USD at a value of 1.385. You have set an SL at 1.375, and take-profit at 1.395. In the event that the price drops below your position to 1.375, the order will close at a loss of 10 points. On the other hand, if the value increases to 1.395, the transaction will close with a profit of 10 points.
In forex trading, there are many indicators that can show you when it is time to use a TPO. One of them is the average directional index (ADX). The ADX shows you how aggressively a currency pair is trending on a scale of 0 to 100. If the ADX exceeds 30, this is a sign of an aggressively trending pair, so you should not use a TPO in the case of such index.
Why Use Take-Profit
The advantage of using a TPO is that the trader no longer worries about the manual execution of a trade or guessing. On the other hand, TPOs are executed at the best possible price no matter the performance of the underlying asset. The stock can start rising, but the TPO can execute earlier and thus lead to high opportunity costs. TPOs are used only by short term traders as a risk management strategy because they can close the trade when reaching their planned profit. A popular strategy of short-term traders is to use pivot points or average true range to help define an appropriate TPO level.
Example of Take-Profit Setup in Forex
Let's assume that you have opened a transaction of $15,000 in the EUR/USD currency pair with the following conditions:
the rate is 1.3967,
the euro is trending upwards,
and the desired profit is $50,
then the take-profit must be set at 1.4013.
The calculation formula for this is as follows: (15050 x 1.3967) / 15000 = 1.4013
where 15 050 is the desired amount with the increment,
1.3967 is the currency rate,
and 15,000 is the initial amount.
A take-profit order is the type of a limit order typically used in forex trading in combination with the stop loss order. Take-profit is a point at reaching which the open trade is automatically closed with a profit.