A:

Trailing stop orders are used to limit losses and protect profits on a stock position. You should use trailing stop orders on your positions when you know that you will not have access to your trading platform. You should also use a trailing stop order when you are getting emotionally attached to your position.

A trailing stop order is similar to a stop order. However, a trailing stop order tracks the stock price and the order changes by a specified percentage if the stock's price increases or decreases. The stop order becomes a market order after the stock price reaches the stop price.

For example, suppose you are long 500 shares of Facebook Inc., which you purchased for $25 a share in July 2013. Your long position increased by 323% as of April 17, 2015, and closed at $80.78. Suppose Facebook reports its quarterly earnings on April 22, 2015. Assume that you are expecting weak earnings, and you want to protect these profits. However, you are nervous about selling the stock because you are emotionally attached to it.

You could use a trailing stop order in this case to limit your losses and protect your investment. You enter a good until canceled 10% trailing stop order before the earnings date. Therefore, if the stock declines by 10%, the stop order is triggered, thereby protecting your profits.

The trailing stop is set at $72.70 ($80.78 - (0.10*$80.78)). However, as the stock price moves up, the trailing stop price increases as well. Assume Facebook's stock price increases to $85, the subsequent trailing stop order then increases to $76.50.

Suppose that Facebook closes at $85 the day it releases its earnings and drops 11% during after-hours trading due to weak earnings and guidance. In this scenario, your trailing stop order would be triggered. Assuming you were immediately filled, you would sell your shares at $75.65 ($85-($85*0.11)).

RELATED FAQS
  1. What is the difference between a buy limit and a stop order?

    Learn the difference between buy limit orders and stop orders, including stop loss orders, and understand the risks of the ... Read Answer >>
  2. What is the difference between a stop order and a stop limit order?

    Learn the differences between a stop order and a stop limit order. Traders use these as stop losses and regular investors ... Read Answer >>
  3. What does "gather in the stops" mean?

    "Gather in the stops" is a trading strategy used by investors to trigger stop orders already in place so that the price of ... Read Answer >>
  4. What's the difference between a stop and a limit order?

    A limit order is an order that sets the maximum or minimum at which you are willing to buy or sell a particular stock. With ... Read Answer >>
  5. Are stop orders only used for stocks?

    Learn about sell-stop and buy-stop orders, when and how to use stop orders and what other securities stop orders could be ... Read Answer >>
  6. How can I use a stop order to limit my losses on a long stock position?

    Learn about stop orders, different stop order types, and how to use stop-loss orders and stop-limit orders to limit losses ... Read Answer >>
Related Articles
  1. Trading

    Trailing-Stop/Stop-Loss Combo Leads to Winning Trades

    Combine trailing stops with stop-loss orders to reduce risk and protect portfolio value.
  2. Trading

    Protect Yourself From Market Loss

    There are several simple strategies you can use to protect yourself from downside risk.
  3. Trading

    Manage Risk With Trailing Stops And Protective Put Options

    Using the right strategy can lower the risk of failure and protect your profits.
  4. Investing

    How to Use Trailing Stops

    A trailing stop is an order to buy or sell a security if it moves in an unfavorable direction.
  5. Trading

    Maximize Profits With Volatility Stops

    Find out which type of volatility stop fits your trading objectives.
  6. Investing

    Understanding Buy Stop Orders

    A buy stop order is an order to buy a stock at a specific price above its current market price.
  7. Trading

    Triple Screen Trading System - Part 7

    This system identifies the intraday price movements that indicates entry points for your buy or sell orders.
  8. Investing

    Three Types Of Profit Protection Stops

    Three types of profit protection stops lock in profits at different stages in the progression of a successful trade.
  9. Investing

    Mastering Stop Placement

    Place the stop loss where, if hit, the reasons you took the trade are no longer valid.
RELATED TERMS
  1. Hard Stop

    A price level that, if reached, will trigger an order to sell ...
  2. Stopped Order

    A market order on the NYSE that is stopped from being executed ...
  3. Stop-Limit Order

    An order placed with a broker that combines the features of stop ...
  4. Bracketed Sell Order

    A sell order on a short sale that is accompanied (or "bracketed") ...
  5. Stopped Out

    The execution of a stop-loss order. Stopped out refers to when ...
  6. Stop Payment

    A request made to a financial institution to cancel a check or ...
Hot Definitions
  1. Investing

    The act of committing money or capital to an endeavor with the expectation of obtaining an additional income or profit.
  2. Stagflation

    A condition of slow economic growth and relatively high unemployment - a time of stagnation - accompanied by a rise in prices, ...
  3. Notional Value

    The total value of a leveraged position's assets. This term is commonly used in the options, futures and currency markets ...
  4. Interest Expense

    The cost incurred by an entity for borrowed funds. Interest expense is a non-operating expense shown on the income statement. ...
  5. Call Option

    An agreement that gives an investor the right (but not the obligation) to buy a stock, bond, commodity, or other instrument ...
  6. Pro-Rata

    Used to describe a proportionate allocation. A method of assigning an amount to a fraction, according to its share of the ...
Trading Center