Professional Forex traders have learned a great secret, the use of a trailing stop loss.
You must have noticed that professional traders ride big trends.
They ride trends that keep going higher, with their profits increasing exponentially.
So, you must have asked yourself…
“How do they find it possible?”
The answer is…
They use a trailing stop.
Maybe you don’t agree.
Because you used it but the market triggered it before the trend begun.
So, what could be wrong?
Here is the answer…
However, you don’t have to worry.
In this article, I will be showing you how to fix the above issues and many others.
You will also learn powerful techniques that you can use to trail your stop in order to ride big trends and reduce risks.
What is a Trailing Stop Loss?
A trailing stop refers to an order that “locks in” your profits as the price moves in your favor.
The above chart shows how you can trail a short-term trend using a 20-period Moving Average.
The 20 MA is the continuous line pointed to by a black arrow marked as 20 MA.
This line runs throughout the chart and is in sync with the price action.
If the price goes up, the 20 MA also goes up.
If the price goes down, the 20 MA also goes down.
The price trends above the 20 MA for a very long time
This gives you an opportunity to ride the move for long.
During this period, you will get an opportunity to enjoy all the benefits associated with the move.
However, it reaches a point where the price action crosses the 20 MA in a bearish direction and closes below it.
This position has been pointed to by a red arrow on the chart.
This is the best time for you to exit your position.
Staying in that position is dangerous because you may make a loss.
That was a short-term trend, and we have used a 20-period Moving Average.
If you want to ride a medium-term trend, you can use a 50-period Moving Average.
If you want to ride a long-term trend, use a 200-period Moving Average.
How to use the ATR on Big Trends
You must have seen some traders using a 20 pip trailing stop.
This is a big joke!
Because it does not consider the volatility of the Forex markets.
Suppose on average, the market swings at 200 pips in a day.
Then a trader sets a 20 pip stop.
It makes no sense.
But what is the solution?
Here it is…
Use an Average True Range (ATR) indicator to set a volatility based trailing stop.
It works as follows…
- Choose the ATR multiple that you will use. It can be 3, 4, 5, etc.
- For a long position, subtract X ATR from the highs and that will be your trailing stop.
- For a short position, add X ATR from the lows and that will be your trailing stop.
However, TradingView can make this work even easier for you.
It comes with an indicator called Chandelier Stops that can help you perform this function.
If you want to ride a short-term trend, use a 2 ATR.
If you want to ride a medium-term trend, use a 4 ATR.
If you want to ride a long-term trend, use a 6 ATR.
Something important you’ve to note is that you don’t need a chart in order to trail your stop.
So, how can you do it?
Here is how…
Choose the stop percentage where you will exit the trade.
This can be 10%, 20%, 30% or whatever you choose.
Suppose you buy a Forex pair at $100 and you set a trailing stop of 10%.
It means that if the Forex pair drops by 10% from its high, you will exit the trade.
How to use the Zero Indicator Method to Trail your Stop Loss
An uptrend is made up of higher highs and lows.
So, you can use the swing low to trail your stop because if the trend holds, it should not close below it.
Just do the following…
- Identify the previous swing low.
- Set a trailing stop below the swing low.
- Exit the trade if the price closes below it.
Consider the chart given below…
The above chart shows the positions of the trailing stop.
The stops have been set below the swings lows and marked as SL 1, SL 2 and SL 3.
In the red arrow marked as Swing Low Exit, the prices closes below the previous swing low and stop.
This is the right position to exit the trade.
Note that the exit point is followed by a further decline in the price of the pair.
If it were not for the stop, the trader would have made a loss.
Note that the market keeps on hunting stop losses placed below swing low or Support.
So, to avoid this, it is recommended that you place your stop 1 ATR below the market structure.
How to Trail your Stop Loss in Parabolic Trends
Some markets make a parabolic move in one straight line.
Consider the chart given below…
The above chart shows the market making a parabolic move.
The parabolic move occurred during the fourth slope of the market.
However, you must know that parabolic moves are not sustainable.
Anytime you spot a parabolic move on your market, just wait to see the market reverse and collapse.
So, if you have a market that is showing a parabolic move, you should trail your stop tightly.
Don’t give it too much room to breathe.
You should wait to “run” once you see the first sign of cracks.
So, how should you do it?
Let me show you…
- Determine the timeframe of the parabolic move.
- Trail the stop on the previous candle low.
- Exit the trade when the price breaks and closes below it.
Consider the example given below…
In the above chart, the daily candle has been pointed by a black arrow marked Daily Candle.
After the formation of this candle, the next two candles (the red ones) closed below its low.
This has been shown using a horizontal, red, dotted, line.
This is a good time for you to exit the trade.
This will save you from being caught in a trade when the trend collapses.
How to Capture a Swing and Ride Massive Trends
You can do these two at the same time.
Because there is no rule that states you can only do one of them, either capture a swing or ride a trend.
This gives you the consistency of a swing trader and the ability to ride big trends like a Trend follower.
So, how do you do it?
It’s very simple.
Exit a portion of your trade at a fixed target, then you let the remaining portion to ride the trend.
Consider the chart given below…
The above chart shows where to take partial profits when trading.
The trader entered the trade at Support level.
The Support is the black running horizontally near the bottom of the chart.
The trader then took partial profits near the Resistance.
The Resistance is the black line running horizontally at the top of the Support.
The remaining profit will then be used to ride the trend.
However, you should not just take the partial profits blindly.
You have to consider the following…
- The number of units to sell at your fixed target.
- How to manage the remaining units.
So, let me explain the above two factors in depth…
The number of units to sell at your fixed target
Knowing the number of units to sell is of great importance.
If you sell too little units, it will become a Trend following trade.
And if you sell too many units, it will become a swing trade.
If you are a newbie trader, just sell 50% of your position at the first target then let the remaining portion ride the trend.
After some time, you will become proficient in using this technique.
You will be able to play around with different percentages to know the one that suits your goals.
How to manage the remaining units
Now that you’ve hit your first target profit, what next?
Should you attempt to ride the trend or have a second target profit?
If you choose to go with a second target profit, where should you place it?
If you choose to ride the trend, how will you trail your stop?
Only you can answer such questions.
This means that the answers to the above questions are subjective.
And again, it will depend with your goals and personality.
So, just think about it.
Do what you know will help you meet your trading goals.
You must be asking yourself this question…
Which is the best strategy to trail your stop loss?
The fact is…
There is no best trailing stop strategy.
The strategy you choose is determined by what you want from your trade.
If you need to ride a short-term trend, you can choose a 20-period MA, 2 ATR, etc.
If you need to ride a medium-term trend, you can choose a 20-period MA, 4ATR, etc.
If you need to ride a long-term trend, you can choose a 200-period MA, 6 ATR, etc.
That’s what I meant.
So, first determine what you expect from your trade and choose the best strategy that will help you achieve it.
However, you should ask yourself the question…
“What is the type of trend that I need to capture?”
So, first get an answer to the above question.
After getting it, just use the right technique to help you achieve your goal.
How Not to Use a Trailing Stop
A common mistake made by many traders is placing the stop too close to the current price.
An example is when a trader sets a one or two-pip stop.
Most currency pairs move by at least a couple of pips each minute.
This means that if you place your trailing stop too close to the entry, you will be stopped before the occurrence of any meaningful price move.
You should place your trailing stop at a distance from the current price that you do not expect to be reached unless a change in market direction occurs.
If a market fluctuates within a 10 pip range while it’s still moving in the same overall trending direction, it will need a trailing stop that is larger than 10 pips.
However, don’t make it too large that the entire point of the trailing stop is negated.
The general rule is…
The trailing stop should get you out of trade if the market begins to move against you with the possibility of erasing your profit.
It’s true that trailing stops help traders lock in profits as the price moves in their favor.
However, if the trailing stop is not used well, it may get a trader out of trade at an opportune time.
This may make the trader miss some profits by exiting the trade when it’s too early.
The price may make a slight pullback.
This can be caused by many market conditions, like an attempt by sellers to push the price lower.
In most cases, the price keeps on moving upwards after the pullback.
In such a case, if the trailing stop was placed too close to the current price, the trader will exit the trade.
So, always ensure that there is a sufficient gap between the position of the trailing stop and the current price.
This will ensure that you stay in the trade for long and only exit the trade when it’s necessary to do so.
A trailing stop should help you make more profit, not to stop you out of trade when it’s too early.
Again, you as a trader can trail your stops manually.
To do this, you only have to move the position of the stop as the price moves.
If the price upwards, you shift the stop upwards, locking in the profits that you have made.
If the price moves higher again, you move the stop to a higher level, locking in further profits.
This way, you can earn much higher profits that when using a hard stop.
However, if the price action reverses and begins to wipe out your profits, the trailing stop should help you exit the trade automatically.
So, you have learned the following…