How to identify entry and exit points?

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Insight
As with many other things we do, even in the stock market, a good start is half done. The profit or loss you make in a trade depends a lot on the price at which you enter the trade. Similarly, trade profit is only real when it is made, i.e. when the trade is exited. In this blog, we will discuss different ways to identify entry and exit points.

Enter a business
Whether you are trading stocks, futures or options, research is usually based on the underlying stock or index. And technical analysis is one of the preferred ways to identify entry and exit points. Technical analysis involves the study of price charts. Here are some simple ways to identify entry points into a trade.

1. Escape
To understand breakout, let’s first learn the concept of resistance. Simply put, resistance is the level at which the stock price faces upward pressure. Typically, the stock price is not able to easily move above. This happens due to the high number of sellers at this price level.

Resistance

A breakout occurs when price breaks through resistance and moves above it. It indicates the strength of the bulls versus the bears and signals an opportunity to buy or go long.

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Resistance burst

Contrast that with a support breakdown, which creates an opportunity to go short.

Distribution of support

2. Withdrawal to support
Now, as you know, markets never go up in a straight line. A rise is followed by a minor correction or pullback. At times during the pullback, the stock could return to its support.

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Support is the level at which the fall in the stock price is generating new buying interest. Thus, the price cannot easily go below. These support lines can be horizontal or angled upwards.

Recoil to support

The pullback towards support creates an excellent buying opportunity. Indeed, the stock is already in an uptrend and the pullback towards support creates the possibility of a new uptrend.

Similarly, a reversal from a resistance creates an opportunity to enter a short position.

Back to Resistance

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3. Open the data of interest
Options traders use open interest accumulation data to identify support and resistance levels, which in turn could become buy and sell areas.

For a call option, a huge open interest (OI) at a certain level indicates a possible resistance level, for example 16,200 in the image below. On the other hand, for a put option, a high OI means a possible support level at that strike price, for example 16,100.

Open data of interest

Exit a trade
Just as identifying the right entry point is essential in trading, it is also important to know when to exit. Here are some of the ways to find an exit or target price.

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1. Targets using price patterns
Technical price patterns such as head and shoulders, double high/low, flag, pennant, etc. help find an exit price. Price targets can be calculated by measuring the height of the pattern and then adding (or subtracting) it to the breakout or support price.

Double top head and shoulders

Pennant Flag

2. Swing lows and highs
Normally, one would think of exit price only in terms of profit targets. However, a trader must also have a plan B in place in case the trade goes wrong. You can do this by setting a “stop loss”. A stop loss is nothing but an early order to exit a trade when it reaches a particular price level. This is particularly useful for limiting losses.

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Most professional traders keep it simple when deciding the stop loss price. They keep their stop losses below a swing low in a long trade or above a swing high in a short trade. These work well because a break in the swing is the first indication of a trend change.

Swing low as stop loss

3. Risk-reward ratio
Traders could also decide on a risk-reward ratio (RRR) to calculate their exit price. Generally, intraday traders prefer an RRR of 1:1. Using this, the exit price can be calculated as below:
Entry price = 100
Stop Loss = 95
Risk amount (Entry – Stop loss) = 5
Target (Entry + Risk) = 105

Similarly, delivery traders would prefer a higher RRR, say 1:2 or 1:3, given the risk of opening overnight. The exit price based on a 1:3 RRR could be:
Entry price = 100
Stop Loss = 95
Risk amount (Entry – Stop loss) = 5
Target (Entry + Risk) = 115

Although these are some of the ways to identify entry and exit points, this is not an exhaustive list. Choose one or more methods based on your risk appetite, past experience and comfort level.

Presentation

Out-of-the-box option strategies

The safest way to trade options

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