As anyone who’s been trading stock for any period of time knows, half the battle in the financial markets is not losing money. So how do you control your losses with risk management? The most prevalent way is the trail the stop losses to control the amount of money you lose if a stock trade goes wrong.

First, let’s lay out what it means to trail a stop loss. Trailing means following the trend based on the formation of pivot points and channels within a bullish or bearish retracement. Basically you are following up each major movement of a particular asset with a stop loss to curtail your risk should the trend reverse and lock in any profit you might have secured as a result of your trade. It’s risk management that follows the asset as it moves, whether by an automated algorithm plugged in by your stock trading platform or a manual control mechanism you adjust on your own.

To understand how to appropriately trail the stop in a stock trade, there’s a few terms we need to understand:

-Average True Range

The length of an average candlestick or bar over a specified period of time. Use this within whatever time period you are trading, so if you trade on the day charts, take the ATR of the days to determine this. This is important to risk management strategies because it gives you the average amount of movement you could expect should an asset go outside its expected range or an expected pivot in a stock trade.

-Catalyst

A point of recent support or resistance in which price gravity is powerful enough to stall momentum of trends. These are the points we’re going to pay close attention to when trailing stops and trying to determine if a breakout is occurring in a stock trade.

-200 Day Exponential Moving Average

The average of 200 days of price movement drawn out with data weighted towards most recent price information. This will typically act as one of your most important catalysts in your risk management strategy.

So let’s say we place a trade on Tyco Electronics right as it passes up it’s 200 day exponential moving average and utilizes it as resistance:

That would land you in the stock trade right at around 17 dollars per share. Upon entering the trade, I would set my stop loss for one ATR below the exponential moving average, since that is the most obvious catalyst in this trade. I’d then do the same thing for the next catalyst, moving the stop loss to one ATR below the price level of 18.69 to insure no significant losses, and continue upwards along each catalyst until I had followed the trend as far as my risk protection would allow me. Chances are that with appropriate risk management, you would not be able to ride this trend out the entire length of it, but you only really have to catch the significant portions in order to realize a healthy profit.

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