What Is a Trailing Stop Order?

A Trailing Stop Order, or stop loss order, is a qualifier to a market price order or limit price order that changes how it operates.

A simple stop order is an execution price trigger that closes some or all of the volume of an existing trade.

A Trailing Stop Order is the same as a simple stop order, except it will also follow the current market price by a set amount.

Setting stop orders in every trade is a good exit strategy rule for new day traders  to ensure loss prevention.

A trailing order is an added layer of sophistication that offers additional profit protection alongside the basic loss prevention of a simple stop order.

Key Takeaways

• A Trailing Stop Order is a price trigger that follows a changing price by a set amount.
• It is a sophisticated order qualifier that can be used to protect profits in addition to the basic loss prevention of a traditional stop order.

A Breakdown of the Trailing Stop Order

The essence of the trailing order is the simple stop order.

A stop order is a qualifier for an open trade that triggers the sale of some or all of the volume that trade at a set price.

A trailing order operates in the same way, except the value of the trailing stop price trigger will change alongside the changing price.

The trailing stop price trigger ‘trails’ behind the price, ensuring that the same level of loss prevention is offered regardless of how far the price moves past its entry position.

Stop orders can be added to any trade at their opening stock price or at any point that the trade is open.

How to Use the Trailing Stop Order

The purpose of any stop order is loss prevention.

By setting a price trigger, the trader ensures that the trade will not lose any more value than a set amount.

Trailing orders then offer the added advantage of profit protection by following the moves of the advantageous price.

That said, traders should be aware that all stop losses can be affected by slippage.

Slippage occurs when there is inadequate market volume available at the trigger price, so the stop order executes the full volume at increasingly worse prices.

Loss Prevention

A trailing order offers the same degree of loss prevention as a normal stop order.

If the price immediately goes against the trade when it is opened, then there is no difference between a trailing order and a normal stop order.

The order is triggered at the stop value, and the trading platform automatically closes some or all of the position at the best available prices.

Profit Protection

The advantage of the trailing order is when there is some profit in a trade due to the price moving in the advantageous direction.

Then the trailing order acts to protect the accumulated profits that lie between the stop trigger price and the opening price of the trade.

Whereas a normal stop order would still be below the opening price of the trade, the trailing order has moved in the same direction of the advantageous price to protect some of the profit earned.

The Drawback of a Trailing Stop Order

The drawback of the trailing order is that it offers less room for price action before the stop order is triggered.

A normal stop order will always have the opening price between itself and the current price, so it will not be triggered by movements toward the opening price that do not cross the fixed trigger stop price.

By contrast, the trailing order will be far more likely to be triggered by random noise in a stock’s price.

Using a trailing order ensures that smaller profits are locked in, but at the cost of having trades closed by small price movements before larger profit points can be attained.

The Best Tools for the Trailing Stop Order

A trailing order is a very sophisticated tool for trade execution that requires a precise and detailed trading strategy to be used effectively.

Traders who use trailing orders in the wrong situations will see many of their trades closed too early before larger profits can be achieved.

It is important that traders balance the sophistication of their trade execution with the sophistication of their trading strategy.

Market research tools are essential for the development of these sophisticated trading strategies.

Our top recommendations for market research tools for retail traders are:

Barchart

FinViz

Even the simplest trading platforms offer trailing orders to their customers, making them an essential tool for traders of all different levels of knowledge and experience.

Our top recommendation for basic trading platforms for retail traders is:

Robinhood