Tell Your Broker When You've Had Enough With A Stop Order
A stop order is often confused with a limit order, because both require you to specify a price. But there is a difference.
What is a Stop Order?
A stop order is a set of instructions that prevents an order from executing until a stop price has been met. Once the order has been activated, it will execute just like a market order.
Why would you place a Stop Order?
These orders are used when you want to activate an order after the market price has passed through a price that you specify.
There are two common situations that you could benefit from the use of a stop order:
You only want to buy after a price rises to a certain point or you only want to sell after a price has fallen to a certain point.
Traders and investors usually use stop orders to prevent losses when prices are falling. For example, if the market has entered a correction, investors and traders can use a stop order to sell their equities if the price falls 5%. This is usually called a stop loss order
Factors affecting Stop Orders
Volatility can have a huge impact. When prices move quickly, a stop order may "activate" because the stop price was passed. However, when a broker goes to the market the execute the trade, the best price may be far away from your stop price.
Continuing the example above, you could use a stop to limit your loss to 5%. If the markets fell rapidly, the price have fallen 10%, and that is where your order will execute.
When to place a Stop Order
As with the limit order, safe investors use this order type to buy/sell shares at a specific price when they cannot watch the markets for themselves.