What Is a Stop-Limit Order?
A stop-limit order combines the features of a stop order and a limit order to mitigate risk. It relates to limit orders and stop-on-quote orders.
How Stop-Limit Orders Work
The trader controls precisely when the order fills, but execution isn’t guaranteed if the stock doesn’t hit the stop price. A stop-limit order involves two price points: stop price and limit price. First, set the stop price, the trigger for the trade. Once set,
Then, define the limit price, your desired buy or sell price. The limit price controls the maximum or minimum price for the trade. Also, set an execution time frame.
After reaching the stop price, the order converts to a limit order. It then executes at the limit price or better. Most online brokers offer this option.
Your trade may not execute if the price moves too quickly or trading gaps occur, causing missed profit opportunities.
Features of Stop and Limit Orders
A stop order triggers at a set price and fills at the current market price. A limit order executes at or better than a specified price. Combining both gives the investor precise trade execution. It ensures no execution if the price becomes unfavorable after the stop triggers.
Advantages and Disadvantages of Stop-Limit Orders
- You control your entry or exit price with a stop-limit order.
- Stop-limit orders manage risk effectively.
- Automation allows the order to execute without constant monitoring.
- Stop-limit orders adapt to various trading strategies.
- Execution isn’t guaranteed if the limit price isn’t reached.
- Stop-limit orders don’t protect against price gaps.
- These orders can induce psychological pressure.
- They are more complex than other order types.
Stop-Limit vs. Stop-Loss Order
A stop-loss order converts to a market order upon reaching the stop price. A stop-limit order converts to a limit order. Stop-loss orders don’t offer price protection, while stop-limit orders do. Stop-loss orders ensure execution, while stop-limit orders don’t guarantee it.
Example of a Stop-Limit Order
Say Apple Inc. (AAPL) trades at $155. An investor sets a stop-limit buy order with a stop at $160 and a limit at $165. The order activates above $160 and fills below $165. If AAPL gaps above $165, the order remains unfilled.
The Bottom Line
A stop-limit order mitigates risk by combining stop and limit orders. The order, which combines the features of both a stop and limit order, provides more precision over the desired execution price, helping to lock in profits and limit losses. Investors set a stop-limit order by placing the stop price where they want the order to trigger and a limit price where they would like a trade execution. If the security reaches the specified trigger price, the limit order activates and executes if the price is at or better than the price specified by the investor. Most online brokers offer stop-limit orders with a day-only or GTC expiry.