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What is a trailing stop?
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A trailing stop is a type of stop order that automatically adjusts as the price of an asset moves in a favorable direction. It is designed to help investors lock in profits while still allowing a position to benefit from further price increases.
A trailing stop follows the market price at a fixed distance as long as the price moves in the investor’s favor.
When an investor sets a trailing stop, they choose a specific distance from the current market price, either as a fixed amount or as a percentage. If the asset price rises, the trailing stop level moves up with it, maintaining the same distance from the new higher price. However, if the price begins to fall, the stop level remains fixed and does not move downward. Once the price drops to the trailing stop level, the order is triggered and the position is typically sold to limit losses or secure gains. Trailing stops are commonly used as a risk management tool because they allow investors to protect profits without constantly monitoring the market. However, in volatile markets a trailing stop may be triggered by short term price fluctuations, potentially closing a position earlier than expected.
Short example:
Suppose an investor buys a stock at $50 and sets a trailing stop of $5.
If the stock price rises to $60, the trailing stop automatically moves up to $55.
If the price later falls from $60 to $55, the trailing stop is triggered and the shares are sold, allowing the investor to lock in part of the profit.
Disclaimer: Investing brings risks. Our analysts are not financial advisors. Always consult an advisor when making financial decisions. The information and tips provided on this website are based on our analysts' own insights and experiences. Therefore, they are for educational purposes only.
