Stop Order

A stop order is an instruction to buy or sell a stock only after it reaches a specified price, known as the stop price. Once the stop price is hit, the order becomes a market order and executes at the next available price.

Types of Stop Orders

• Stop-Loss Order (Sell Stop): Designed to limit losses by selling an asset once it falls to a certain price.
  • Example: A stock is purchased at $50, and a stop-loss is set at $45. If the stock drops to $45, the order triggers and sells at the best available price.
• Buy Stop Order: Used to enter a position when an asset starts rising, often for breakout trading.
  • Example: A stock is trading at $90, and a trader believes if it reaches $95, it will continue to rise. A buy stop order at $95 ensures the purchase happens if that price is reached.

Pros & Cons of Stop Orders

Advantages:

• Helps automate risk management by setting predefined exit points
• Can be used to confirm trends, particularly with buy stop orders

Disadvantages:

• No guarantee of execution at the exact stop price, since the order becomes a market order upon activation
• Vulnerable to short-term volatility, potentially triggering the order prematurely

When to Use a Stop Order

• To protect gains or limit losses in an active trade
• To enter a trade once a stock moves beyond a key price level
• To avoid constantly monitoring price movements while maintaining risk control

Stop orders are useful for traders who want to manage risk automatically and execute trades when a stock reaches a critical price level.

See also: Limit Order and Market Order