Protect your profits with trailing stop losses

If you are a day trader, you would certainly be maintaining a stop loss and a profit target on every trade. You set a stop loss to limit your loss to a manageable level as per your risk appetite and the profit target that you set is to book your profit once your target price is reached. But it could happen that the price might reverse before reaching your profit target and you could even lose the entire notional profit you had made if the price falls below your purchase price (in the case of long trade) or rises above the sale price (in the case of short trade). So how do you protect your profits from vanishing, or worse, suffering a loss when you could have exited with a profit? The answer: By availing the facility of setting trailing stop loss

A trailing stop loss ((TSL) is a facility provided by your broker through which you can set multiple stop losses at different price points. Let us understand this with an example. Suppose you buy a stock of a company at Rs 100 and you set your first stop loss (SL) at Rs 97 and profit target at Rs 110. With your TSL facility, you can set multiple SLs above your purchase price. So, you can set the second SL at Rs 103, third SL at Rs 106 and the last SL at Rs 108, which is close to your target price of Rs 110. Now, if the stock price moves from Rs 100 to Rs 105 and then corrects up to Rs 103, your second SL would be triggered and the profit of Rs 3 on the trade will be booked. However, if the price corrects up to Rs 103.50 without triggering your stop loss and therefrom it moves up to Rs 107, your SL at Rs 106 will ensure that profit of Rs 6 on the trade will be protected in case the price fall down to Rs 106 or below.

Similarly, if the price moves up to say Rs 9.50 and then the stock corrects up to Rs 108, your SL at Rs 108 will be triggered, which will protect your profit of Rs 8 on the trade. Of course, if the price reaches your target price of Rs 110, the sell target price will be triggered and you will exit the trade with profit of Rs 10. This way, TSL helps a trader to protect his incremental profit by setting higher SLs above the purchase price in the case of a long trade. The reverse will be the case when the trader goes short on a trade. In a short trade, the trader sets multiple TSLs that are incrementally lower than the sale price.

The importance of TSL is evident from the fact that, in the above example, if the trader had not set TSLs and had set only SL at Rs 97 and target at Rs 110 and the stock price, after moving up to Rs 107, had plunged to Rs 97, the trader will exit with a loss of Rs 3 on the trade when he could have exited with a profit of Rs 6 (with TSL at Rs 106). Therefore, every trader must avail the facility of setting TSLs on his trades.