Stop orders

Stop orders, often called “stop loss” orders, feel a bit “backward.” When a buy stop order is placed, the investor buys the security when its price rises. When a sell stop order is placed, the investor sells the security when its price falls. Why would an investor want to buy at high prices and sell at low prices? There are a few legitimate reasons.

Sell stop orders

Let’s assume the following:

Long 100 shares of ABC stock @ $50

Investor places a sell 100 shares of ABC stock @ $45 stop

Sell stop orders trigger when the market price falls to the stop price or below. When the order triggers, also referred to as electing, it begins the process of executing. In this example, the order triggers (elects) when the market price falls to $45 or below. By placing this order, the investor cuts their losses when their stock position loses $5 or more. Essentially, they’ve set a floor beneath themselves.

Long 100 shares of ABC stock @ $50

Investor places a sell 100 shares of ABC stock @ $45 stop

Trading tape: $45.02… $45.01… $44.99… $44.97… $45.01…

Stop orders do not execute immediately like limit orders. First, the order triggers when the market price falls to $45 or below. This order triggers at $44.99. After the trigger, the order transforms into a market order, which will fill at the next available price. The next available price is $44.97, where the order executes.

Stop orders always involve this two-step process. First, the order triggers, then it becomes a market order that fills at the next available price. Because the end result is a market order, nothing is guaranteed with this order type. Execution isn’t guaranteed because the order only triggers if it falls to $45 or below. Price is not guaranteed because it becomes a market order that will fill at the next available price, regardless of what it is. The execution price could be above, below, or at the stop price.

Let’s see if you understand sell stop orders.

An investor goes long 100 shares of stock @ $80. They place a sell 100 shares @ $78 stop order.

Trading tape: $79… $80… $78.50… $78… $79…

At what price will the order trigger? At what price will the order execute?

Here’s a video that dives further into sell stop orders:

Buy stop orders

Buy stop orders are also “stop loss” orders for short stock positions. Click the following link if you need a refresher on shorting a security. Investors with short positions utilize buy stops to prevent losses. Let’s look at an example:

Sell short 100 shares of ABC stock @ $80

Investor places a buy 100 shares of ABC stock @ $90 stop

Buy stop orders elect (trigger) when the market price rises to the stop price or above. In this example, the order elects when the market price rises to $90 or above. By placing this order, the investor cuts their losses when their short stock position loses $10 per share or more. Essentially, they’ve established a ceiling above themselves.

Sell short 100 shares of ABC stock @ $80

Investor places a buy 100 shares of ABC stock @ $90 stop

Trading tape: $89.97… $89.99… $90.02… $90.01… $89.98…

The order triggers when the market price rises to $90 or above, specifically at $90.02. After the trigger, the order transforms into a market order, which fills at the next available price. The next available price is $90.01, where the order executes.

Let’s see if you understand buy stop orders.

An investor goes short 100 shares of stock @ $20. They place a buy 100 shares @ $21 stop order.

Trading tape: $20.70… $20.90… $21. 10… $20.50… $20.85…

At what price will the order trigger? At what price will the order execute?

Here’s a video that dives further into buy stop orders:

Timeframe

Like limit orders, stop orders can be day or GTC orders. If placed as a day order, the order is canceled if it remains unexecuted by the end of the day. If placed as a GTC order, the order stays open until executed or canceled by the investor.