With a trailing stop order, investors can secure profits and avoid losses. It works according to the same principle as a stop or trailing stop order. Stop-loss orderbut also offers automatic adjustment. Here you can find out what is behind this useful order form and how to set the trailing stop-loss order correctly.
Trailing Stop Order Definition
With a trailing stop order, a stop price is set below the current price of an asset. If the price falls to this stop price, a market order is triggered and the investment is sold. If the price rises, the stop price also rises and maintains the specified distance from the asset price.
The trailing stop order thus offers the same very useful advantage as a stop-loss order: we can hedge against falling prices and trigger an automatic sale as soon as a stop price we have set is reached. In addition, we also benefit from an automatic adjustment of the price!
This is because with a trailing stop order, our stop price can rise with the price of the respective asset. It always maintains a distance defined by us. For example, such a stop price could be set 10 % below the current price.
If the price of an asset rises, the stop price also increases and therefore remains 10 % below the market value. In the event of a downward movement, however, the stop price remains unchanged. If a falling price reaches the stop price, a market order is triggered immediately and the assets are sold as quickly as possible.
As usual, there is no price guarantee with a market order, which means that the price achieved may be lower than the specified stop price. However, as execution takes place as quickly as possible, there are only minimal deviations in practice.
A trailing stop order is therefore a variant of the stop-loss order and is also referred to as a trailing stop-loss order. It enables investors to take advantage of the benefits of a stop-loss order without having to regularly adjust the stop price manually, as this automatically increases with the price.
A trailing stop order can also be used for short positions. In this case, a buy order is placed when the stop price is reached. By purchasing the respective assets, the position can be filled and further losses avoided.
The trailing method can also be used for planned purchases: a stop price is set above the current price of an asset of interest. This stop price also rises automatically at a set interval. If it is exceeded, a purchase is made. This is referred to as a buy trailing stop order.
How to apply a trailing stop order
The trailing stop-loss order works in the same way as a stop-loss order: we set a stop price that is below the current price of an exchange-traded asset. We use this price to hedge against falling prices. Because when it is reached, our broker automatically creates a market order for the sale. We therefore exit our investment before the price falls too sharply.
However, as the stop price of a trailing stop-loss order rises in line with the price of the asset, we do not set an absolute euro value here, but a distance from the price of the asset. For example, a stop price could be "10 percent below the market value".
In this case, our stop price would also increase in line with the market value when prices rise - always at intervals of 10 percent. However, if prices fall, the stop price remains at its last value and serves as a hedge.
In order to set a trailing stop-loss order correctly, we must therefore keep a particularly close eye on the volatility of the respective asset! Triggering the stop price in the context of typical up-and-down movements should be avoided; however, if there is a serious price slump, the automatic sale should be triggered.
A stop price that is too close to the market value can lead to a premature sale. If it is too far away from the current level, we lose too much of our profits before the sale takes place.
The ideal value is heavily dependent on the volatility of the respective asset, the market situation, personal risk tolerance, strategy and other aspects. There is therefore no generally valid value for the perfect distance between the stop price and the price.
A trailing stop-loss order is a very reliable method of hedging your own investment. It gives many investors a good feeling and can help them to cope better emotionally with the often high risks on the stock markets and keep a cool head.
Trailing stop order example
A very volatile share, of which we have 100 shares in our portfolio, is in a long-term uptrend. On some days it achieves price gains of up to 10 %, but on other days it also loses 5 %. We therefore decide to hedge our investment with a trailing stop-loss order.
After analyzing the up-and-down movements, we decide on a stop price that should be 10 % below the current price. This is because the share price fluctuates in the range of up to a maximum of - 5 %. A drop of 10 % would, in our opinion, be a clear indication of a downward trend and reason enough for us to sell the investment.
We create a trailing stop order with a stop price 10 % (€ 2) below the market value. The share is currently trading at €20, so the stop price is set at €18 (market value minus €2). Over the next few days, the value of the share will rise to up to 30 euros! Our trailing stop order automatically follows this development and adjusts the stop price to 27 euros (share price minus 10 %).
A short time later, however, there is a sharp correction and the price of our share plummets. Within a few minutes, the value reaches our stop price of 27 euros before falling further. This automatically triggers a market order to sell all shares.
Our broker executes this as quickly as possible at the best available price. He finds a buyer for us who is prepared to pay 26.90 euros per share. The trade is concluded immediately and we are credited with 2,690 euros.
In the days that followed, the price continued to fall and even fell below the EUR 20 mark at which we had placed our trailing stop-loss order. If we had not used such an order to hedge, our profits would have been destroyed by this price slump.