Traders — serious ones — have a saying (and religious belief): "If you don't use stops in trading, you'll soon stop trading."
First, let's do some fact-checking.
What percentage gain (rebound) would you have to make in order to "get even" after a loss of 10%? Answer: 11.1%.
After a loss of 30%? Answer: 43%.
Down 50%? Answer: 100%.
80%? Answer: 400 (not much chance of that in today’s markets).
So, what should you do, then, to protect your capital from such erosion as much as you can? Cut your losses early—or lock in profits early—by using stops.
For every position that you take in the markets, try leveling up your habits by creating a trading plan that clearly states when you would exit the position. What is the maximum loss that you will bear? When will you take profits? We suggest developing good exit techniques by considering the monitoring power of Trailing Stops, which can help control the “fear and greed” that develops during trading.
Trailing Stops automatically track an exit price that will limit losses if the price turns on you, or lock in profits as the price moves in your favor. The value is calculated at some distance below the current price for long positions; it follows the stock up as the price rises but is never decreased.
For example, in case you are trading shares of Apple Inc (AAPL)...
As shown in Technical Insight, the stock is showing upward momentum, calling for higher profit potential for your holding.
At the same time, you should be alerted on the downside to prevent uncontrolled loss — perhaps by using a trailing stop.
In Technical Insight, you can make good use of two different Trailing Stops mechanisms.
Trailing Stops by Trading Central is a volatility-adjusted algorithm for planning position exits. These stops seek to minimize risk while maximizing profit for either long or short positions taken upon identification of a Technical Event or other prompts to take a position. The algorithm is based on a statistical analysis of the historical prices, using a price filter line algorithm with two different noise statistics.
You have the option to control the proximity of the stop by choosing "Tight", "Medium" and "Loose".
Tight Stop for Apple Inc. on October 7, 2019
Medium Stop for Apple Inc. on October 7, 2019
Loose Stop for Apple Inc. on October 7, 2019
Percent Trailing Stops maintain a fixed percentage offset level (set by you). Here are some examples.
6% Stop for Apple Inc. on October 7, 2019
10% Stop for Apple Inc. on October 7, 2019
The Trailing Stop level in each mechanism is recalculated at the end of every trading session.
Having determined the downside you can tolerate, you can elect to execute your stop exits based on manual or automatic methods. While trading your exits manually, you must expect an additional slippage amount since there will be a time delay between the stop-trigger notification and the exit-trade execution.
In rapidly falling markets, this slippage can be very large.
Slippage would still occur with pre-entered orders. But unless the liquidity is very limited, slippage in this case is expected to be relatively less.
A useful feature to balance these benefits and drawbacks is to try Trailing Stop Alerts. Rather than an automated order, the system will track the trailing stop and send an email when the price crosses that level. This way, the system takes care of ratcheting up your stop level to lock in those profits in addition to the benefits of capping losses.
It is our sincere hope that this Blog Post can help you realize that, in every trade, the exit is equally as important as the entry when it comes to optimizing your overall portfolio success. Go ahead and get started trying the trailing stop features by looking up a stock and checking Technical Insight.
Happy Trading.
