Have you ever been stuck in a trade and just can’t seem to close it out for a profit?
So you just hold…
Then all of a sudden… It collapses… while you do nothing… frozen like a deer in headlights— unable to act?
One way to avoid this common pitfall is by implementing trailing stops.
I know what you’re thinking to yourself…
“Stop losses never work.”
“I’ve used them before but the market always hits my stop loss before it trends”
- You’re expecting too much from the trend
- You’re using the wrong trailing stops or stop loss technique
- Your trailing stop is too tight
Sounds like something that is happening to you?
I’ll show you how to fix all these and more in today’s post.
Plus… my best secrets for reducing risk and riding massive trends.
A trailing stop loss is an exit price or order type that “locks in” profits as the stock trends in your favor.
And you’ll only exit the trade if the market reverses by a set amount.
This is how a trailing stop looks like:
Example of long SPY trade above:
Entry Price: $240
Trail Price: $275 or $285 depending on risk
The idea is…to let the market take you out of the trade, and not take yourself out of the trade!
After you enter the trade, you would want to look to exit the trade in stages in order to maximize your profits.
See how that works?
Why do we use a trailing stop loss?
Let’s be honest… nobody can predict the markets and there is no way to predict what is about to happen.
Most traders talk themselves into believing the market is just going to continue higher without stopping.
But logically that doesn’t make sense!
What goes up must come down…
See what happens when you fail to use trailing stops for your trades?
But… it’s not all sunshine and roses… there are disadvantages to using trailing stops…
Disadvantages of Trailing Stops
Here’s the truth…
Most of the time the market won’t let you ride the trend
And it’s really common to watch winners turn into losers from a stop-loss… just to see the price move in your favor after it hits your exit price.
I know… it’s painful… the type of pain that’ll make traders turn away from using stop orders completely.
So here’s what you do…
You need to control your emotions to endure the pain of losses along with the joy from winners.
And once you keep your emotions under control it’s possible to be achieving a 1 to 25 risk to reward ratio or more!
And this is something most traders never get to experience because “it doesn’t work” for them!
How To Trail Your Position
One of the most common indicators to trail your trade with is the moving average indicator.
The best feature of the moving average indicator is you can use it to identify the trend, filter out noise, or tail your stops.
There are 3 ways to use a moving average to trail your position:
- Decide the trend to ride
- Pick moving average length
- Exit when price level touched
This means you can ride a short-term trend using a 20-period moving average or you can ride a long-term trend using a 50-period moving average.
Here’s an example:
Here’s an example of where you decided to use a fast exit with a 20-period moving average…
And the stock continued higher without you… and that’s ok!
Pro Tip: Want to ride longer trends? Instead of using a 20/50 period moving average, use a 100/200 moving average.
Need help learning which indicators match your style of trading? Click here to find out now!
Have you ever gotten out of a trade just to watch it run away without you?
It’s a terrible feeling!
So some traders start to take 1% off the indicator price to adjust for this happening.
And that’s one of the worst ideas a trader can do.
Because it doesn’t take the volatility of the stock into account. It’s like flushing money down the toilet!
What’s the solution?
Using a volatility based indicator to offset your stop loss!
For example, you can use the Average True Range (ATR) indicator to set a volatility-based trailing stop on your position.
Here’s how it works…
- Select a multiple of the ATR indicator (ie. 3,4,5,etc…)
- If you are long; Lower the stop loss to the moving average price – multiple x ATR
- If you are short; Raise the stop loss to the moving average price + multiple x ATR
To make your life easier, there is a helpful indicator called “Chandelier stops” which performs this calculation for you.
Pro Tip: Test out a 2x ATR for short-term trends, 4x ATR for medium-term trends, and a 6x ATR for long-term trends
The Best Strategy To Trail Your Position
Let’s be honest…
There is never a “best” anything in trading.
It’s all about proper risk management techniques and sticking to your trading plans.
Trading success comes from what you want from it.
When designing exits, it’s best to choose what best fits your goals and trading outlook.
Here are 3 sample exits rules:
- To ride a short-term trend, you can trail your position with a 20-period Moving Average, with a 2x ATR.
- To ride a medium-term trend, you can trail your position with a 50-period Moving Average with a 4x ATR.
- To ride a short and medium trend, you can trail your position using a 20-period and 50-period Moving average.
The most important question to ask… What are you trying to accomplish?
Then all you do next is use the right indicators and techniques to achieve your goals.
Remember… there is no perfect indicator!
Brief summary of trailing stops:
- A trailing stop loss is an order that “locks in” profits if the price moves in your favor
- You can trail your stop loss using multiple different techniques and indicators
- There is no “best” method to trail your stop loss.
- Determine what type of trend you want to trade and then use the right technique to capture the trend.