Understanding the Trailing Stop Order Mechanism in Trading

A trailing stop order is a risk management tool designed to secure profits on trading positions while providing flexibility as the market moves favorably. This instrument operates automatically by following price movements in an advantageous direction and triggering a sell execution at a predetermined level. The trailing stop feature is highly useful for traders who want profit protection without the need for intensive monitoring of every market price fluctuation.

Two Variations of Trailing Stop You Need to Understand

The trailing stop system offers two different approaches that can be tailored to your preferences and trading strategies:

Type One: Trailing Stop with a Fixed Distance

This method applies a constant price difference between the highest market price and the trigger level. For example, if you open a position at $100 and set a fixed trailing stop $30 below the market price:

• When the price surges to $200 and then drops $30 to $170, your trailing stop order will be activated and converted into a market order for execution at that level.
• If the price rises to $150 and then falls $20 to $130, the trailing stop will not be triggered because the trigger level is at $120 (, maintaining a constant distance of $30).
• When the price drops $30 directly from the entry point $100 to $70, the order will be executed immediately as a market order.

Type Two: Percentage-Based Trailing Stop

This variation uses a percentage ratio of the highest achieved price as the trigger reference. Suppose the initial price is $100 and you set a 10% trailing stop below the market price:

• If the price drops 10% from $100 to $90, the system will automatically execute your sell order.
• If the price rises to $150 and then decreases by 7% to $140, the trailing stop will not be triggered because the exact trigger level is $135 (10% of $150).
• When the price reaches $200 and then drops 10% to $180, your sell order will be executed at that level.

Price Activation Features and Important Considerations

Traders have the option to set an activation price that determines when the trailing stop system begins to track market movements. This provides additional control over the timing of execution.

Some crucial points to note:

• Your position and margin remain active and unfrozen until the trailing stop is truly triggered, so ensure sufficient available margin.
• In certain situations such as extreme price restrictions, full positions, insufficient margin, or system technical issues, the trailing stop order may fail to activate.
• Once the order is successfully triggered, the subsequent market order execution follows the standard regular order mechanism and may not be filled immediately, which can be viewed in the Open Orders section.

Conclusion

A trailing stop is a sophisticated risk management tool to protect your profits while allowing your position to grow according to market trends. Understanding the two types of trailing stops and using them according to your trading profile will significantly enhance your risk management strategy.