Locking in profits as markets go wild
Why you should resolutely apply a 25% trailing stop strategy
Stocks go up. And stocks go down. But these days, it seems that the only movement you see in the markets is excessive. Where stocks used to go up, they now soar overnight. And where they used to "correct"... comes the plunge. That's what makes it so hard to optimize your profits. For years, it has been the recommendation of the Red Zone Network of publications to set and observe a trailing stop.
A trailing stop is really quite simple: If shares go down 25% below your purchase price (35% for options), or fall 25% below the stock's high, you bite the bullet and sell... keeping your potential loss to 25%. Ask your broker whether he can place a selling order with a trailing-stop for you. If he doesn't offer this service (and few discount or online brokers do), watch the prices of your shares carefully and react fast if the price touches the -25% limit. The limit for options, as they tend to be more mobile quickly, is -35%. Of course, depending on your threshold for pain the limit can be lower, but we don't necessarily recommend it.
This strategy is especially potent in handling the ups and downs of Internet and "New Economy" stocks. Here's an example. One of our publications recommended MP3.com in May. At that time, the share was priced at US$9.96. The price rose to US$19.19, a gain of 92.5%.
If you didn't watch the price change you might still hold this share. With MP3.com now priced at US$8.56, you would have lost 14.11%. If you used trailing stops you would automatically have sold MP3.com at no less than US$15.35, locking in a respectable 54% gain.
