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You've decided to invest your cash in stocks, hoping for a strong return. You’ve conducted your research and feel that you are ready to invest by implementing a limit order. You’ve found a company that is set to trend according to news sources and consider it an excellent opportunity for investment. You determine a limit order price by the closing stock price that day, and you set what you feel is a reasonable limit order and are confident in your decision. Then, you check the stock the next day, only to find that your order was unable to be filled because the stock took a sharp increase in price upon the market opening.
The above scenario described is a prevalent one and can be frustrating for any investor. Many traders, identifying a potentially profitable setup, will place a limit order after hours so their order will be filled at their desired price, or better when the stock market opens. The problem is that many buyers do the same thing, and the increased demand can cause the price of the stock to gap higher.
- When too many buyers have the same idea, a limit order becomes ineffective because the price of the underlying asset jumps above the entry price.
- A buy stop order is a type of order transformed into a market order once the stated stop price has been reached.
- The downside of a buy stop order is that you may end up paying more than you expected if the opening day price is higher than you had estimated it would be.
- An order that is made above the current market price is known as a buy-stop-limit order.
- A buy-stop-limit order protects you from overpaying by setting a minimum and maximum limit price.
A limit order is ineffective when the price of the underlying asset jumps above the entry price. This is because the limit price is the maximum amount the investor is willing to pay, and in this case, it is currently below the market price.
You can minimize the chances of this situation happening again if you understand two types of orders: the buy stop order and the buy-stop-limit order.
A buy stop order is a type of order transformed into a market order once the stated stop price has been reached. To explain how this works, let's consider a hypothetical example.
Let's say that the current price of XYZ Company is $12.86, and it looks like it is positioned to go higher. You may wish to place a buy stop order with the stop price set at $13.01. This order would turn to a market order once the market price rose above $13.01. By using this type of order, you would eliminate the problem of not getting filled when the price rises above your desired entry price.
Unfortunately, by using this order, you run the risk of getting filled at an unwanted level if the price surges drastically higher. For example, if the price of XYZ Company opens the next day at $17, the buy stop order will be triggered, and you will buy the shares for around $17 instead of around $13, as you had planned for.
Using an order known as a buy-stop-limit is a way for you to eliminate the chance of getting a bad fill and limit the price paid for the asset. A buy-stop-limit order is similar to the buy-stop order, except that a limit price is also set as the maximum amount the investor is willing to pay.
For example, assume a buy-stop-limit order is placed on XYZ Company with a stop price at $13.01 and a limit price set at $15. If the price jumps to $17, this order will not get filled because you specified you don't want to pay more than $15.
Entering the market at a specific price can be a difficult move to time. It may result in missing opportunities or getting in at the wrong point based on your research.
Utilizing the buy stop order and the buy-stop-limit order can help you buy your stock at the prices you see value at. Once you are comfortable with these order types, you will increase the likelihood of your orders getting filled when and how you want them to be filled.
One of the problems with using a stop-limit order to sell a security is there is no assurance you'll get the price that you want. For example, if you buy a stock at $45 and place a stop-limit to sell at $40, you're placing a conditional order that only gets executed if the conditions of the trade are met. For your stop-limit order to be filled, it will need to meet the parameters you set regarding the target price for the trade, the outside price for the trade, and a specified time frame.
While a stop-limit order gives traders more control over the conditions of the trade, it does not act as a guarantee the trade will get filled. Here we review what constitutes a stop-limit order and some common reasons why your stop-limit order might not get executed.
- A stop-limit order to sell a stock combines a stop order with a limit order, meaning shares are sold only after they reach a specified price, with a limit on the minimum price the seller will accept.
- While using a stop-limit order gives investors more control over how their order will be filled, it's not a guarantee they'll receive the price they want.
- If there are no bids that meet the conditions of your stop-limit order, your trade will not get filled.
First, it's important to understand the differences between a stop order and a stop-limit order. While similar-sounding, the conditions for each order type are not the same.
If you establish a stop order to sell a stock, it means that the stock will be sold at or beneath a certain price. A stop order triggers a subsequent market order when the price reaches your designated point.
For example, if you own 500 shares of a company trading for $45 and you put a stop order in at $40, you are saying you will sell your shares at $40 or the best available price under $40. Your stop order could be executed at $40 on the dot. But if the market is falling fast, it may be executed at $38 or a range of lower prices as your shares are being sold off.
In contrast, investors who opt for a stop-limit order to sell a stock are looking to have more precise control over when the order should be filled by specifying a range of acceptable prices. A stop-limit order includes two prices:
- The stop price, which is the start of the specified target price for the trade
- The limit price, which is the outside of the price target for the trade.
The stop-limit order will be triggered once the given stop price has been reached. The stop-limit order then becomes a limit order to sell at the limit price or better. In our example, with a stop-limit order, you could reduce the downward range by indicating you only want to sell your shares at a stop price of $42 with a limit price of $40.
An advantage of using a stop-limit order is that it can help the investor mitigate risk by locking in gains or limiting losses.
To make the stop-limit order work in our above example, another person in the market has to bid somewhere in the range of your $42 stop price and $40 limit price for all 500 of your shares. However, if there isn't a bid—or a combination of several bids—then your order won't be executed. In widely traded stocks with high volume, this is usually not a problem, but in thinly traded or volatile markets, your order may not get filled.
Also, remember, shares don't necessarily go down incrementally like a thermometer. They can jump to certain prices if the bids and asks aren't matching up. It's possible for a stock to trade at $43 and then fall to $39 without touching the $42 mark.
In practice, however, this doesn't happen very often and your stop-limit order will likely be filled either in a single trade or over several trades as the stock price hovers around the $42 level. In short, a stop-limit order doesn't guarantee you will sell, but it does guarantee you'll get the price you want if you can sell.