The New Sell and Sell Short: How to Take Profits, Cut Losses, and Benefit from Price Declines, Expanded Second Edition

VOLATILITY-DROP TRAILING STOPS

One trader who likes to use trailing stops is Kerry Lovvorn, whose method is designed to keep him in a trade for as long as prices are running in his favor but get out soon after they start pulling away from their recent extremes.

I do not use a trailing stop until my target is hit. At that time the trade has fulfilled its duty, but the market may be moving in a way that seems to have potential for an additional reward. When the market hits my target, I have a choice. I can take profits, be happy, and go on to the next trade. But then maybe my target was too conservative, and there is greater profit potential left in the move. I do not want to give all my accumulated profit from this trade back but am willing to risk a portion to find out whether the move has more life left in it. My decision depends on how much profit I am willing to give back to find out. The challenge of a trailing stop is the same as that of any other stop—where to set it. If you set it too tight, you may as well go ahead and exit the trade.

Once the market gets going, it can go much farther than we can ever imagine. We can set a trailing stop and let the market decide how far it wants to go and when to take us out.

Using trailing stops is my way of saying—hey, if the market is willing to give me more, this is how much I am willing to give up to find out. I think of it in terms of the price I have to pay to play the game. This is similar to the calculations I make when ...