What Is a Trailing Stop Order?
A trailing stop is a type of stop order whose trigger price moves automatically as the market price of a security moves in a favourable direction. Unlike a fixed stop-loss order — which stays at a price you set manually — a trailing stop follows the market up (for a long position) or down (for a short position) and only stops moving when the price reverses.
For example, imagine you hold shares purchased at $50. You set a trailing stop 10% below the current price. The stop begins at $45. If the price rises to $60, the stop automatically moves to $54 (still 10% below). If the price then falls back to $54, the order triggers and the position is closed. If the price never falls that far and continues rising to $80, the stop would have followed to $72.
The key feature is asymmetry: the stop rises with gains but does not fall when the price declines. This is what distinguishes a trailing stop from a simple stop-loss.
Fixed Dollar vs Percentage vs ATR-Based Trailing Stops
There are three common ways to specify how far a trailing stop trails behind the current price.
A fixed dollar trailing stop maintains a constant gap in currency terms. If you set a $5 trailing stop on a $100 stock, the stop is at $95. If the stock rises to $120, the stop moves to $115. The gap is always exactly $5 regardless of where the price is.
A percentage trailing stop maintains a constant gap as a proportion of the current price. A 10% trailing stop on a $100 stock starts at $90. If the stock reaches $200, the stop is at $180 — a $20 gap, not $10. The gap grows with the price, which means the stop gives more room as the stock appreciates.
An ATR-based trailing stop uses the Average True Range indicator — a measure of a security's average daily price movement — to set the gap. For example, a stop set at 2× ATR for a stock with an ATR of $3 would trail at $6 below the high. This approach attempts to calibrate the stop to the security's actual volatility rather than using an arbitrary fixed number. When volatility is high, the stop gives more room; when volatility is low, the stop tightens.
How Trailing Stops Are Executed
When a trailing stop order is submitted to a broker, it is typically held at the broker level (not at the exchange). The broker monitors the market price and updates the stop price as the market moves in your favour. If the market reaches the stop price, the broker submits a market order (or in some cases a limit order, depending on the order type selected) to close the position.
Because a standard trailing stop triggers a market order, the actual execution price may differ from the stop price in fast-moving or thinly traded markets. This difference is called slippage. In highly liquid markets such as large-cap US stocks or major ETFs during regular trading hours, slippage on stop orders is typically small. In pre-market or after-hours sessions, or in less liquid securities, slippage can be significantly larger.
Some brokers offer trailing stop-limit orders, which trigger a limit order (rather than a market order) when the stop price is reached. This guarantees you won't sell below a specified limit price — but it also means the order may not fill at all if the price moves too quickly through your limit.
Where Trailing Stops Are Commonly Used
Trailing stops are most commonly discussed in the context of trending markets — situations where a security has made a substantial upward move and a trader wants to participate in further gains while protecting a portion of the profit already accumulated.
They are also used in position management to replace a fixed stop-loss after a trade moves into profitable territory. A common approach is to hold a fixed stop-loss at or near the original entry until the position reaches a predetermined profit target, then switch to a trailing stop to allow the trade to continue running.
In volatile or sideways-moving markets, trailing stops can trigger prematurely — the price dips enough to hit the stop, only to recover and continue moving in the original direction. This is sometimes called being 'stopped out' of a trade. Traders who use trailing stops in choppy conditions often widen the trail percentage or use ATR-based stops to reduce this risk.
The Difference Between a Trailing Stop and a Mental Stop
A mental stop (also called an informal stop or discretionary stop) is a price level a trader decides in advance they will exit at, but does not actually submit as an order. Instead, they watch the price and plan to act manually when it is reached.
The practical difference between a submitted trailing stop and a mental stop is significant. Markets can move very rapidly, particularly around earnings announcements, economic data releases, or breaking news. A mental stop requires the trader to be actively watching, to act quickly, and to execute the order correctly under pressure — all of which are harder in practice than in theory.
A submitted trailing stop executes automatically regardless of whether the trader is watching. This removes the element of hesitation or second-guessing at the moment of execution. Whether this automatic execution is beneficial depends on the specific situation and the trader's strategy.
Trailing Stops in Different Asset Classes
Trailing stop orders are available on equities, ETFs, and options on most major brokerages. Availability varies for other asset classes. Futures brokers typically offer trailing stops on futures contracts. Cryptocurrency exchanges vary widely — some offer trailing stops natively, others require third-party tools or manual management.
The appropriate trail distance also varies significantly by asset class. Equities with low volatility (for example, established dividend-paying stocks) may be trailed more tightly than growth stocks, which can see 5–10% daily swings during earnings seasons. Highly volatile assets like small-cap stocks or cryptocurrencies may require much wider trails to avoid routine market fluctuations triggering the stop.
Common Misconceptions About Trailing Stops
A common misconception is that a trailing stop guarantees an exit at or near the stop price. In normal market conditions this is approximately true for liquid securities, but during gap openings (when a stock opens substantially higher or lower than the previous day's close), the stop may trigger at a price far from where it was set. A trailing stop set at $90 on a stock that closes at $100 and opens the next day at $75 due to bad earnings will execute at approximately $75, not $90.
Another misconception is that using a trailing stop eliminates the need to monitor a position. While a trailing stop does automate the exit under normal conditions, it does not remove all risk, and position monitoring remains important for detecting unusual situations such as trading halts, extreme volatility, or changes in the fundamentals of the underlying security.
This guide is educational only and does not constitute financial advice. All examples are hypothetical and illustrative. Trading involves substantial risk of loss. Always conduct your own research and due diligence before making any trading decisions.