How Markets Work · Intermediate · 5 min

Trailing stop

You can explain how a trailing stop follows the price, when it is triggered, and why its distance decides how well it works.

A stop that climbs

Your trade is going well. The share you bought at 20 now trades at 22. A new question appears: how do you keep part of that gain without selling too early, and without staring at the screen all day?

A fixed stop at your old level protects only against the original loss. A trailing stop goes further. It climbs by itself as the price rises, and it never climbs back down.

Following the price

A trailing stop is a stop or stop-limit order whose stop price is not a fixed number. Instead, you set a distance from the market price, either an amount such as 1.00 or a percentage such as 5%.

When the price moves in your favor, the stop moves with it and keeps the same distance.
When the price moves against you, the stop stays where it is.
When the price reaches the stop, the order is triggered.

For a position you own, the trailing stop sits below the price and follows it up. For a short position, it sits above the price and follows it down.

Once triggered, a trailing stop behaves like the stop it is built on. A trailing stop order becomes a market order and fills at the next available price. The SEC notes that the fill may differ from the stop level. Everything from the lesson on gaps applies.

Just as with ordinary stops, brokers and exchanges decide differently what counts as reaching the stop: the last traded price or the quotes. And not every broker offers trailing stops for every market.

The most important choice is the distance. It has to be wider than the normal swings of the market, or ordinary noise will trigger it. But every extra point of distance is a point of gain you may give back before you are out.

Peak 24, stop 23

This follows the SEC's own example. You bought a fictional stock at 20.

It rises to 22. You place a sell trailing stop 1.00 below the market price, so it starts at 21.
The price climbs to 23.10, then 24. The stop climbs to 22.10, then 23.
The price turns and falls. The stop stays at 23.

When the price reaches 23, the order is triggered and the shares are sold, near 23 but not necessarily exactly there. You kept 3.00 of a gain that reached 4.00 at its best. With a distance of 0.50, you would have been sold earlier, during a normal dip.

Common mistakes

Setting the distance by feel. It has to fit how much this market normally moves in your timeframe.
Expecting the exact stop price. A triggered trailing stop fills at the next available price.
Forgetting the starting point. The trail begins at the price when you place it, not at your entry.
Using it in thin markets. Spikes and gaps there trigger stops more often and fill them worse.
Assuming it works the same everywhere. Availability and trigger rules differ between brokers.

The takeaway

A trailing stop moves up with the price and never back. Its distance decides whether it protects a gain or gets hit by normal noise.

Check yourself

Quick quiz

4 questions. Instant feedback, nothing is saved.

1Tap the candle in which the trailing stop was triggered.

Tap the chart.

The last candle falls below 23, the stop level left by the peak at 24. That is where the order is triggered.
2A sell trailing stop trails 1.00 below the price. The price rises from 22 to 24, then falls to 23.50. Where is the stop?

The stop moved up to 1.00 below the peak of 24 and stays there while the price falls.
3What happens to a sell trailing stop when the price falls?

A trailing stop only moves in your favor. When the price moves against you, the stop stays fixed.
4Your trailing stop is very close to the price. What is the likely result?

The SEC warns that short-term fluctuations can activate a trailing stop. Its distance has to fit how much the market usually moves.

of 4 correct.