Stop-limit orders

Stop-limit orders automatically trigger an attempt to buy or sell an asset when it hits a price you specified beforehand — so you know it’ll only be completed at a price you want to pay.

For example, say you want to buy a stock called $KALE. It’s currently at $37, but you want to buy it only if its price drops below $35. You would place a stop limit purchase order at $35. As soon as the price fell below $35, your order would be attempted. If the price never fell below $35, your order would patiently wait — for the price to come down, you to rescind the order, or 90 days to pass.

How stop-limit orders work

Stop-limit orders have two components:

1. The stop: a price at which a broker will start trying to execute your trade. 

2. The limit: either the highest price you’re willing to pay (if you’re looking to buy) or the lowest price you’re willing to accept (if you’re looking to sell).

A stop-limit order means the broker will start looking to make a trade for you once a certain price is reached in the market. The trade will go through only if it’s possible to get a price within the range you set.

You can submit a stop-limit order to be good for a day (open during one trading day) or good-until-canceled (open until you cancel it, up to 90 days).

Why stop-limit orders are useful

Stops, as they’re commonly called, let you sell a given asset if its price starts dropping, or buy it if its price starts rising, without having to watch prices all day yourself.

This time, let’s say you already own shares of $KALE. They’re worth $50 each. You could set a stop that triggers a sale if the share price rises to $55. Conversely, you might be interested in buying more $KALE, but only if they fall below their current price of $50. In that case you could set a stop that triggers a purchase if they fall to $45. 

The limits are useful because trades aren’t always executed at the price you see when you press a buy or sell button, or when your stop is triggered. Once you make the decision to buy something, your broker still needs to find someone to sell it to you, and vice versa. That process is automated, and it’s completed as quickly as possible. But it depends on many factors, including volume. (If there aren’t a lot of trades happening, the opportunities to be matched with a relevant buyer or seller are limited.) In some cases, by the time a trading partner is found, the best available price has gone up or down from where it was when the search began. A limit lets you condition your purchase on getting the price you want (or a better one). 

As with every dinner party attended in the early 2010s, it’s time for more $KALE. In order to minimize losses, say you want to sell your shares if the price falls to $45 — but only if you can find a buyer to pay $40 per share or more; otherwise you want to hold on to it for the long haul. You would set a stop price of $45 and a limit price of $40.

Or say you want to increase your position in $KALE if the price rises to $55 — but only if you can pay less than $60 per share, because you don’t think it’ll go much higher. In that case your stop price would be $55 and your limit price would be $60.

What’s the difference between a stop-limit order, a regular stop order, and a regular limit order?

A regular stop order, sometimes called a stop-market order, results in your broker buying or selling the asset in question at the next price available in the market, regardless of what that price is. A stop order that initiated a sale of $KALE once it reached $45, for example, could result in shares being sold at $35 if the price continued to drop before a buyer was located.

A regular limit order, meanwhile, can’t be set to buy at a higher price than the current market price or to sell at a lower price than the current market price. If $KALE is currently $50 and you place a order to sell it with a limit of $40, the trade will be triggered immediately, because $50 is a “better” price to sell at than $40. If $KALE is currently $50, and you place an order to buy it with a limit of $60, the trade will be triggered immediately, because $50 is a “better” price to buy at than $60. A limit order, in other words, doesn’t know that you might only want to buy or sell if the market is already heading in a particular direction.

The risk with stop-limits

Stop-limit orders have one built-in risk, which is that they might result in a trade not being executed if your price conditions can’t be met. A stop-limit order to buy a certain stock carries the risk of not being filled, and a stop-limit order to sell a certain stock carries the risk that you’ll still end up holding the stock. Stop-limit orders don’t adapt to market conditions or breaking news; a buy order limit that’s set at $60 is going to stay at $60 even if the company in question makes an announcement that, in retrospect, might have dropped the price to buying it at $59.

In case you weren’t paying attention before: pros and cons of stop-limit orders

• The benefit of stop-limit orders is that they effectively allow you to automate the decision to make a trade or to pass on a trade. 

• The drawback of stop-limit orders is that they’re fixed in advance and can result in a trade not being executed.