What is a Stop-Limit Order? 

A stop-limit order is defined as a contingent trade that is set over a specified time frame that combines the qualities of a stop with that of a limit order and is intended to reduce the trader’s risk. It is connected to other order types, such as stop-on-quote orders and limit orders.

Here are some things that you should remember when dealing with stop-limit order:

The use of a stop-limit order is to prevent or limit the trader’s losses by locking their profits in place.

A stop-limit order gives traders full control over when their order will be placed. However, keep in mind that this does not guarantee the execution of your trade.

A stop-limit order is a type of conditioned trade that combines the quality of a limit order as well as a stop-loss to reduce your losses or risk.

A stop order is a trade that is only executed when a certain price is achieved and is then fulfilled at the market price. A typical stop order will be executed in full, regardless of shifts in the price of the assets in the market as transactions are fulfilled.

On the other hand, a limit order is a trade that has been set at a specific price. It can only be activated or executed when the trade can be completed at the limit value or at a price fixed to be more beneficial than the limit cost. In the event that any activity causes the price to become adverse in relation to the limit price, the order’s operation will be stopped.

After the stop price is met, a stop order is executed at the current price. This happens regardless of the price shifts to an adverse position or not. If the market reacts rapidly, deals being completed at less-than-desirable pricing might result in deals being completed. 

Incorporating the properties of a stop order with those of a limit order helps to ensure that the transaction will not be completed if the market value becomes unfavorable based on the trader’s preferred price. In a stop-limit order, when the stop cost is activated, the limit order comes into play to guarantee that the order is not executed until the price is equal to or greater than the limit value stated by the buyer.

How does a Stop-Limit Order Work?

It’s important for traders to understand how a stop-limit order works. When using a stop-limit order, the trader will be required to set up the price point of both the limit and the stop. The trader will also have to set a specific time frame for when the stop-limit order should be executed.

Whenever a forex trader places a stop-limit order, the information is forwarded to the public exchange and entered into the order book. The order will be labeled “active” until it is either canceled, executed or expires. Whenever a buyer sets a stop-limit order, they must indicate whether the order is effective for the futures market or the current market.

If an investor chooses a one-day validity period, for example, the order will expire if it is not executed before the closing of the market session. The buyer can also set their order to be GTC or Good Til Canceled. This means that the order will continue to be valid in the future market periods until it is either activated or closed.

It’s important to remember that a stop-limit order can only be executed during a market session that starts at 9:30 in the morning and ends at 4:00 in the afternoon, Eastern Standard Time. This means your order or trade will not be executed when the market is closed. This also applies to market holidays and weekends when the market is not open for trading.

Does Stop-Limit Order have rules?

The short answer to this question is no. There are no specific rules for traders to follow when using stop-limit orders. This is because traders typically differ when it comes to the risk they are willing to make. This is often called risk tolerance.

Although there are no specific rules to be followed, buyers should exercise caution when setting price limits. If the price of the orders is too low, they will be executed on a regular basis owing to market volatility. This type of order should be set at a safe level that can help the price move towards a beneficial direction while still protecting against excessive loss. On the other hand, limit or take-profit orders should not be placed so far away from the actual bid price that they indicate an implausible move in the currency pair’s price.

Sell-Stop Limit Order Example

For this example, we will be using the TSLA or Tesla stock. Let’s say that the Tesla stock is being traded at a value of $100. A trader wants to invest in this stock as soon as it starts to increase its price. So what the trader does is he or she sets a stop-limit order in advance with a stop price of $150 and a limit price of $160. 

Once the Tesla stock hits the $150 price set by the trader, or if it goes a little beyond it, their order will be executed and will continue to be filled. However, if it goes beyond the limit price of $160, the trade will automatically be closed. In simple terms, a sell stop-limit order is placed at a lower price compared to the market price, while a buy stop limit is priced higher than the market price during the time when the order was placed. 

What is the difference between a stop order and a limit order?

Stop Order

A stop order refers to an order that only will become a market order when a certain price is met. It could be used to move into a new position or to close an existing trade. A buy-stop order instructs you to purchase a forex pair at its market price whenever it reaches your stated price or higher. The purchasing price must be larger than the initial market price. A sell stop order instructs you to sell a currency pair whenever it hits your set price or lower. Keep in mind that the selling price must be lower than the minimum market price.

When trading breakouts, stop orders are widely utilized by traders to enter a market. For example, assume that the GBP/USD currency pair is surging toward an upward breakpoint and, according to your research, you strongly believe it will continue to rise once it breaks over that level. To be able to take advantage of this, you will have to set a stop-buy order a few pips just over the resistance line and wait for the probable upward breakout.

If the price hits or exceeds your chosen price, your long position will be opened. If you wish to trade a downward breakout, you may also utilize an entry stop order. Set a stop-sell order just several pips below the support line to open your short position if the price reaches or falls below your stated price.

A stop order is also commonly used to shield the profits of a trader. When your trade becomes lucrative, you have the option to adjust your stop-loss order to protect a portion of your income.

If you have a long position that has been highly profitable, you can change your stop-sell order from the loss zone to the profit zone to protect against the possibility of incurring losses if your trade does not meet your profit target and the market goes against your set trade. 

Alternatively, if you have a short position that has turned highly successful, you may change your stop-buy order from the loss zone to the profit zone to safeguard your gains. 

Lastly, a stop order is used to minimize a trader’s losses. You have to remember that before you set up a trade, you should have a plan in place for where you want to close your trade if the market moves against your predictions. 

A stop-order placed in advance, also known as a stop-loss, is one of the most successful methods of reducing your losses. If you hold a long position in a currency pair, you will naturally predict the pair’s value to climb. To avoid incurring uncontrollable losses, you can put a stop-sell order at a specific price, immediately canceling your position when that price is met. Instead, a stop-buy order will be used on a short position.

Limit Order

Traders set a limit order only when they are prepared to open a new position or close a current position at a specific price. The order will be completed only if the market trades at a better price or the price specified by the trader.

A limit-buy order instructs the market to purchase the currency pair at the market price until the market hits the trader’s stated price or goes lower than it. That price must be lower than the minimum market price. A limit-sell order instructs the market to sell the forex pair at the higher or initial market price whenever the market reaches the trader’s stated price or if it goes above it. That price must be more than the existing market price.

Another use for limiting orders is to specify a trader’s profit target. Before the trader places their trade, they should already know where they want to collect their earnings if the deal goes their way. A limit order allows the trader to leave the market at a predetermined target price.

If a long position is open for a forex pair, the trader can use a limit-sell order to set their profit target. If a trader opts to go short, they utilize the limit-buy order to set their target profit. Please keep in mind, however, that these orders will only take prices in the lucrative zone.

The most common use of a limit order is to enter a market or execute a trade when you fade breakouts. When you fade a breakout, you do not expect the currency price to break through a certain support level or barrier effectively. Instead, you anticipate the currency price to rebound off of the resistance and fall or to ricochet off the support level and rise. Here is an example of this.

Let’s say you are eyeing the GBP/USD currency pair. You analyze the market and deduce that the currency pair’s movement is unlikely to go through a resistance. This makes you think that it’s the perfect opportunity to open a short position for the GBP/USD once its price is close to the resistance.

To make use of this theory, you set a limit-sell order just a few pips underneath the resistance level, and your short position will be executed when the market rises up to that value or higher. You should apply the limit order to go long near a support level as well as short near a resistance level.

How long does a stop-limit order typically last?

A stop-limit order can be placed as day orders. Day orders expire as soon as the current market session ends. It can also be set to as GTC or Good Til Cancelled orders. GTC orders can continue to be active even after the market session has ended.

GTC orders expire at different times, however. This depends on the broker you are partnered with or the trading platform that you are using. Double-check the time frame during which your GTC order will continue to be active and executable.

Example of a stop-limit order being used in a short position

A buy-stop limit order would be required to minimize losses on a short position. For instance, if an investor opens up a short position in a particular asset at $60 and wants to restrict losses to 30% to 35%, he or she can place a stop-limit order to purchase at $70 and a limit price of $73. If the asset trades between $70 and $73, the stop-limit order will be activated. 

This reduces the trader’s losses on the short position in the intended 30% to 35% range. But if the price rises unexpectedly, the stop-limit order will not be executed, and the short position will stay open and active.

Pros of using Stop-Limit Order

One key advantage of a stop-limit order is that it costs nothing to set it up. It’s a free tool that anyone can use when they trade. A commission is charged only after your stop-loss price has been met and the asset needs to be sold. It can be considered free insurance that you can use to minimize your risks.

You also don’t need to invest your time in keeping track of how the asset’s price is moving on a daily basis. This offers convenience to traders who simply don’t have the luxury of time sitting in front of a computer screen for hours on end to make sure the asset they invested in is performing well. It’s also helpful when you want to go on a vacation but don’t want to miss out on any trading opportunities.

Stop limit is also used to secure your profits. In this scenario, a stop-loss order, frequently known as a trailing stop, is set at a percentage rate just under the current asset’s price and not the value at which you purchased the asset.

As the asset price fluctuates, the price of the stop loss also moves. It’s crucial to remember that if an asset rises in value, you won’t be able to hold your profits until you close your position or sell. The use of trailing stops allow you to let your funds continue to run while still ensuring that some of your profits are protected from losses.

Additionally, stop-limit orders give traders more power over the market. For example, with the use of stop-limit orders, traders can passively trade and capitalize on opportunities when a market downturn ends, and movement for the current trend resumes. Furthermore, the orders may be utilized to enter a trending market when the motion exceeds a specific price.

Stop and limit orders are also suitable for effective risk management. Before executing a transaction, traders might wait until the market achieves an appropriate entry price. This guarantees that every order completed using these pending orders has a beneficial risk/reward ratio.

Investors can also choose when a stop order or limit order is active in the market. This is more commonly known as a time stop. You can specify whether the order is solely effective for the current trading period or if it can be carried over to a future trading session.

You can also determine whether the waiting order is still valid until you cancel it manually. If a trade is not executed during the current trading session, it will expire at the end of the day. In the case of the other alternatives, the order might stay valid until it is completed or manually canceled by the trader.

Risks and Cons of using Stop-Loss Orders

The biggest downside is that a short-term movement in an asset’s price may cause the stop price to be activated. The goal is to choose a stop-loss percentage that permits an asset to move on a daily basis while avoiding as many potential losses as feasible. Placing a 10% stop-loss order on an asset that is known for fluctuating over that percentage in a span of a couple of days is not the best move. 

Keep in mind that there are no specific rules to be followed when you use stop-loss orders. But it’s vital for you to study the market before you set stop-loss order. This way, you get the information that you need to set effective stop-loss order.

Additionally, you have to remember that that once your stop price is met, your stop order immediately turns into a market order. As a result, the amount during which you sell or close your trade may be vastly different from the set stop value. This is a common occurrence in a volatile market where asset values can move quickly and unpredictably.

Another limitation of the stop-loss order is that more and more brokers do not let you put a stop order on certain securities. But forex traders don’t need to worry about this just yet.

The use of top-limit orders poses additional risks too. Although these orders ensure a price limit, the transaction might not even be fulfilled. This might be dangerous for traders in a volatile market, where the movement is unpredictable and quick if the stop order activates but the limit order is not fulfilled before the market price goes above the set limit value.

Suppose a corporation receives terrible news and the limit price is just $2 or even just a dollar underneath the stop-loss value. In that case, the trader must hang onto the asset for an indefinite amount of time before the asset prices go back up. Orders of any sort can be entered as Good Til Cancelled orders or day orders.

Tips and Tricks on how to use Stop-Limit Order Effectively

Tip #1: Closely monitor the trading volume

When deciding whether to utilize a stop-limit order, it is critical to consider the trading volume of the asset. Doing so will also help you decide on the position of your limit. If an asset has historically had a lot of liquidity, you could very well be better off utilizing a stop-order with no limit. This is because you should expect the presence of liquidity.

If the asset is overly illiquid, it might be a good idea to reduce your investment amount to control your risk efficiently.

Tip #2: Keep the asset’s volatility in mind when you are setting your stop-order limit

Choosing the appropriate limit value for a stop-limit order requires a lot of analysis and study. You’re less likely to acquire a fill if you set your limit too high. If you set your limit too low, you may end up paying a high price. This might result in fewer profits and more losses.

It is critical to analyze the volatility of the asset. The wider the boundary, the more you can expect that the market is highly volatile.

Tip #3: Read the charts to get the necessary information that you need

Setting stop-limit orders where you anticipate other investors to purchase and sell is a very smart move. These are generally strong resistance and support levels, as well as past critical swing highs and lows.

Chart analysis is an excellent method for determining these crucial levels. You may use your trading platform’s horizontal line feature to search for spots where the market has previously changed. Once you have successfully identified these critical thresholds, it’s generally good to base your instructions on them. Liquidity tends to increase as the cost nears them.

The Takeaway

Although it is very easy for traders to jump in with both feet and use the simple stop-order limit tool, it is extremely vital for you to know how it works and what risks it entails. Familiarizing yourself with this information can go a long way in your forex trading journey.

When used properly, a trader can enjoy a lot of advantages that this tool has to offer. Regardless if you are using a stop-loss order to secure your profits, save more time, or minimize your risks per trade, you will surely benefit from this simple tool.

Think of the stop-order limit tool as insurance with additional benefits. Not only does it protect your earnings, but it also helps lessen your losses.

Frequently Answered Questions