What Is a Trailing Stop Loss and How Does it Work in Trading?
A trailing stop loss is a stop order that moves automatically with the market price. It can help lock in profit if the trade moves in your favour, whilst still limiting your downside if the price reverses. This makes it a popular tool for managing risk and exits in forex trading.
In this article, we look at how a trailing stop loss works, how it compares with a standard stop loss and a trailing stop limit order, and how to set one in both MetaTrader 4 and MetaTrader 5.
The information in this article is provided for educational purposes only and does not constitute financial advice. Consult a financial advisor before making investment decisions.
Table of Contents
What Is a Trailing Stop Loss?
A trailing stop loss, also known as a trailing stop order, has a few features that set it apart from other order types:
- Moves automatically: the stop level adjusts automatically as the market price moves.
- Follows in one direction only: it moves to lock in gains when the price moves in your favour but stays fixed if the price reverses.
- Uses a defined trailing rule: the distance may be fixed in pips or points, or calculated as a percentage where the platform supports it.
- Becomes a market order once triggered: when the price reaches the stop level, the position closes at the next available price rather than a guaranteed one.
Trailing stops are sometimes grouped under the broader term dynamic stop loss, which covers any stop order that adjusts automatically rather than staying fixed. Not every dynamic stop works the same way, some are based on a moving average or a volatility measure rather than a set distance.
Trailing Stop Loss vs Stop Loss
A trailing stop loss is essentially a variation of a standard stop loss order. Whereas a normal stop loss sits at a fixed price, a trailing stop loss trails the market price, as long as it moves in the direction of your trade.
On the other hand, a standard stop loss stays in the same place until a trader moves it, it gets triggered or the position is otherwise closed. It can also be moved manually by the trader to help protect a profit; however, the key difference is that a trailing stop does this automatically.
Trailing Stop Loss vs Trailing Stop-Limit Order
A trailing stop loss is designed to close a position at the next available price once the stop level is reached, meaning the execution price can differ from the stop level.
A trailing stop-limit order instead submits a limit order when its stop level is reached. A limit order will only execute at the set price or a price which is more favourable to the trader. If the market moves through that price before the order is filled, the position may remain open and losses may continue to increase.
The availability and operation of trailing stop limit orders vary between brokers and platforms.
How Does a Trailing Stop Loss Work?
In order to set a trailing stop loss, traders need to choose a trailing distance in pips, points, or as a percentage. Once set, the trailing stop maintains that distance automatically for as long as the marketmoves in the direction of the trade.
A trailing stop isn't necessarily active the moment it's set. On some platforms, including both MetaTrader 4 and MetaTrader 5, the market needs to move in the trade's favour by at least the trailing distance before the stop is activated. Until that happens, the position has no downside protection unless a separate stop loss has been set alongside it.
For a long position, the stop sits below the market price and rises as the price rises, maintaining the same distance. For a short position, the stop sits above the market price and falls as the price falls. In both cases, the stop only moves in the direction of the trade. If the market reverses course and starts to move against the trader, the stop holds at its last level rather than following in the opposite direction.
Once the stop level is reached, the trailing stop triggers a market order, executing at the next available price which may be different to the exact level of the stop.
Trailing Stop Loss Example
Let’s look at how a trailing stop loss functions on an open position. For example, let’s say you buy EURUSD at 1.11300 and set a 30-pip trailing stop.
The stop stays 30 pips behind the highest price the market reaches, rising as EURUSD rises and holding in place if and when it reverses.
When EURUSD falls back to 1.11700, the trailing stop triggers 40 pips above where the trade was opened and closes the position at the next available price. As the close happens at the next available price, the actual exit could differ from 1.11700 depending on market conditions.
How to Set a Trailing Stop Loss Distance
The trailing distance can be set in a few different ways, depending on the trading platform:
- Pips: the standard unit for measuring forex price movements.
- Points: the smallest price increment that specific instrument is quoted to.
- Percentage: a percentage of the market price.
A percentage-based distance behaves differently from a pip or point distance once a trade is open. Rather than the distance being fixed numerically, it fluctuates together with the price.
For example, on a position opened at 100.00, a trailing stop placed 5% away would start at 95.00. If the price rose to 120.00, the stop would then recalculate to 5% below the new price, moving to 114.00, which is a wider gap in absolute terms.
Using the Average True Range
The Average True Range (ATR) is a volatility indicator which measures how much an instrument typically moves over a given period.
Some traders use this as a basis to decide the distance at which to place their trailing stop. By basing the distance on the markets average range of movement it can help prevent getting stopped out too early or giving up more gains than necessary when the market reverses.
For example, a trader may establish the 14-day ATR and then multiply it by a chosen factor, such as two, in order to set the trailing stop at a distance which is based on the market’s recent behaviour.
How to Set a Trailing Stop in MT4 and MT5
In MetaTrader 4 and MetaTrader 5, it’s not possible to set a trailing stop whilst placing an order. Instead, the trailing stop has to be added afterwards, once the position is opened.
In order to do this, traders can follow these steps:
- Open the Terminal (MT4) or Toolbox (MT5) and select the “Trade” tab.
- Right-click the open position and select “Trailing Stop”.
- Choose one of the preset distances or select “Custom” and enter a distance in points.
- Keep MT4/MT5 open and connected so that it can continue to automatically update the trailing stop.
Bear in mind that the distance on both MT4 and MT5 is set in points rather than pips. A point is the smallest price increment for that particular instrument. For most forex pairs that works out to 10 points per pip.
MetaTrader Supreme Edition
The Mini Terminal, that comes with the MetaTrader Supreme Edition, is a tool which is designed to help place and manage positions.
With the Mini Terminal, traders can set a trailing stop loss in pips whilst placing an order rather than waiting until the position is already open.
It’s important to note that both methods run in the client terminal rather than on the broker's server, unlike a standard stop loss. That means that MT4 and MT5 need to remain open for the trailing stop to keep adjusting. If the platform is closed, the stop loss will stop trailing the price and stay fixed at its most recent level.
Advantages and Disadvantages of a Trailing Stop Loss
Like any trading tool, a trailing stop loss has both advantages and disadvantages and might suit different scenarios better than others.
Advantages
- Can help lock-in profit: as the price moves in your favour, the stop moves with it, helping protect potential gains.
- Removes the need for constant monitoring: once set, the trailing stop adjusts on its own.
- Reduces emotional decision-making: the exit conditions can be defined in advance, rather than decided in the moment as the market moves.
- Suited to trending markets: a trailing stop allows a position to stay open for as long as the trend continues, rather than closing at a fixed profit target.
Disadvantages
- No protection until activated: on MT4, MT5, and some other platforms, a trailing stop isn't set until the market has moved in the trade's favour by at least the trailing distance. If the price moves against the position before that happens, the trailing stop provides no protection at all, unless a separate stop loss has also been set.
- Premature exits from a tight distance: a trailing distance set too close to the market price risks closing the trade on ordinary volatility.
- Doesn't remove gap risk or slippage: like a standard stop loss, a trailing stop isn't guaranteed to close at the exact stop level. If the price gaps past it, for example over a weekend or during a major news event, the position closes at the next available price instead.
- May require the platform staying open: on some trading platforms, including MT4 and MT5, the trailing stop only continues to trail the market price whilst the platform is running.
Frequently Asked Questions
What is a good trailing stop loss percentage?
There’s no fixed percentage that suits every trade or every trader. The right percentage can depend on the instrument’s typical volatility, the timeframe being traded, and how much of a pullback a trader is prepared to sit through before being stopped out.
Can you set a trailing stop on the MT4 or MT5 mobile app?
No. Trailing stops aren’t available on the MT4 or MT5 mobile apps. A trailing stop loss can only be set and maintained using the desktop platform.
Is a trailing stop the same as a dynamic stop loss?
No. Dynamic stop loss is a broader term covering any stop that adjusts automatically rather than staying fixed. A trailing stop is a type of dynamic stop loss which follows the price according to a defined distance or percentage and only moves in the direction of the trade.
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