Volatility based Trailing Stop Loss
Taken form Average True Range developed by J. Welles Wilder in 1978
Setting an arbitrary stop based on your own whims, rather than the past behavior of the share, it is likely that you will get stopped out of a trade without a logical reason. You can choose to exit your position when the volatility of the instrument increases dramatically, or beyond a pre-defined level. To assist in this goal, an indicator called average true range (ATR) can be utilised.
ATR trailing stop loss indicator provides both a long and/or short trailing stop.
Set up a long trailing stop loss if you are long the market and close out of your position when candlestick closes below the trailing stop loss.
Set up a short trailing stop loss if you are short the market and close your position when candlestick closes above the trailing stop loss.
Sharechart Default: ATR 5 period Ė Long 10 period & Short 10 period
Sharechart Default Multiplier: Long 2.5 & Short 2.5
Say you were bullish on Lend Lease Corporation Limited on a break above $9.00 in mid August 2003; the ATR trailing stop loss (the red line under the share price) would have given an exit at approx $10.50, as shown below. Note, the ATR trailing stop loss is a protection mechanism in case price moves rapidly in the other direction protecting profits and/or minimising loses. It does not mean that the price canít recover in future and eventually move up again.
Note: Setting for the above ATR trailing stop loss was: