What is a Stop Limit Order?

A stop limit order is a conditional financial trade that functions over an established timeframe. It combines two features, ‘stop’ and ‘loss’, both of which help mitigate risk. This particular type of order is an option that is available for use with pretty much every online stock broker as well as most crypto exchanges for digital assets.

A stop limit order happens at a specified price or after reaching a given stop price. As soon as the stop price is reached, the stop limit order becomes the standard ‘limit order’ to purchase or sell at the limit price.

There are two essential takeaways from this concept:

  • A stop limit order combines a stop loss order with a limit order and is a dependent trade that alleviates probable risks.
  • Stop limit orders permit traders to have complete and exact control over when the order should be filled. But with that said, it’s not totally guaranteed that it will be executed in a proper fashion

Breaking it down

Before we move forward, let’s first go over the different components that make up a stop limit order. To be more specific, these three factors are a stop order, a stop loss order, and a limit order.

Stop order

A stop order exists in a few different variations, but they are all seen as conditional based solely on a price that is not yet ready for use in the market when the order was originally placed. As soon as the future price is accessible, a stop order will be provoked, but depending mostly on its type, the broker will usually execute them in a variety of ways.

Once the stop price has either been met or exceeded, the stop order will then turn into a traditional market order. Moreover, a stop order can be set up as an entry order as well and if you wanted to open a position (the amount of security or currency that is owned by an institution, dealer, or any other entity) once the price of a stock is rising, a stop market order could potentially be set above the current market price, which in turn becomes a regular market once your stop price has been reached.

Stop loss

A stop loss is something that can help in applying limitations to the number of losses. If the market price reaches the stop price, your order is sent to the exchange as a market order. For example, establishing a stop loss order for 20% below the price at which you purchased the stock will limit your loss to 20%.

Limit order

A limit order is an order to buy and sell stock for a specific price. To better explain this, let’s provide a hypothetical example. Say you wanted to purchase shares of a $200 stock at $200 or less. You can establish a limit order that won’t be filled unless the specified price becomes accessible. However, you cannot set a regular limit order to purchase a stock above the market price. This is due to a better price already being available.

A comparison between a limit order and a stop order goes something like this. Whenever you place a limit order or a stop order, you inform your broker that you don’t want the market price). Instead of that, you want your order to be carried out when the stock price moves in a certain direction. Limit orders can be seen in the order books while stop orders aren’t noticed by markets until the stop is triggered.

stop limit order

Making one work

In order for a stop limit order to work, it requires the setting of two price points:

  1. Stop: The beginning of the specified target price set for the trade
  2. Limit: The outside of the price target set for the trade

In addition, a time frame must be set up, during which the stop limit is officially considered to be ready for execution.

Benefits & Risks

Probably the most notable benefit of a stop limit order is that the trader has precise control over when exactly the order should be filled. The downside, however, is much like with all limit orders. The trade is not wholly guaranteed to be carried out if it turns out the stock/commodity has failed to reach the stop price during the specified time period.

Furthermore, the average stop limit order has two prominent risks. No fills and partial fills. There is a very good chance that your stop price might be triggered. And your limit price might remain unavailable. If you utilize a stop limit order as a stop loss so that you can exit a long position once the stock started to drop, then it might not close your trade.

If the limit price is accessible following the trigger of a stop price, your entire order may not be carried out if there was not enough liquidity at that particular price. Majaski provides an example of this: “…if you wanted to sell 500 shares at a limit price of $75, but only 300 were filled, then you may suffer further losses on the remaining 200 shares.”

Additional features

Combining these two brands of orders allows traders to have a great amount of precision when conducting trades. The most prominent feature of the traditional stop order is that it will typically be filled in its entirety. This is regardless of any potential changes in the current market price while the trades are active.

Limit orders can only be carried out when the trade can be performed at either the limit price or at a price that is viewed as being more favourable than the limit price. Trading activity may lead to the price becoming unfavourable in terms of the limit price. In that case, the activity that is related to the order will consequently be discontinued.

For further comparison, a stop order is mostly filled at the market price following the stop price being hit. This is true whether or not the price shifts to an unfavorable position. Often this may result in completed trades that are at less than desirable prices if the market fluctuates quickly. By joining it with the features of a conventional limit order, trading is put to a halt as soon as the pricing becomes unfavorable. The stop is based solely on the limit of the investor.

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