What are Stop and Stop-Limit Orders?

Q: What are stop and stop-limit orders?

A: Stop and stop-limit orders are types of orders that can be used to buy or sell stocks when they hit a price predetermined by you. That price acts as the trigger for either a market order or limit order. Stop and stop-limit orders can be used to buy or sell securities, and are often put in place when investors aren't available to monitor their holdings for a period of time, to help protect from losses or to lock in a profit.

Here's a rundown of how each works when selling:

Stop Orders

With stop orders, also commonly known as stop-loss orders, you pick the price that will trigger the sell order for your stock. That trigger is known as the stop price, and it must be below the last traded price. When the stock reaches that point, your brokerage will create a market order to sell. It's important to note here that your stop price won't necessarily be the sell price. The stock will be sold at the first available price after the market order is placed. This means if the stock is falling quickly, you could end up selling at a price lower than your original stop price.

Let's say you own 1,000 shares of ABC stock at $10 per share. You create a stop order for $8. The market order is triggered when the stock hits $8, but the stock tumbles a little below $8 and the first available buyer is at $7.90. Your order is filled. You can't choose the sell price – after the order is placed, it is entirely market dependent.

The good news is that stop orders will be filled if buyers are available. The bad news is that you are at the mercy of market prices.

Stop-Limit Order

With this version, you choose your stop price and then add your limit price, which is the lowest price you're willing to accept when you sell. Your limit price must be lower than or equal to your stop price when selling, and must also be within 9 per cent of your stop price. When the stock reaches your stop price, your brokerage will place a limit order. Market vs. limit is an important distinction that can significantly change the outcome of your order. The stock will be sold at your limit price or better, but if a buyer isn't available at the limit price, the order won't be executed.

In the ABC example above, a stop-limit order would look like this: You pick a stop price of $8 and a limit price of $7.95. (In other words, if the stock drops to $8 or lower, you want to sell at a price of $7.95 or better.) Let's say the stock has continued to fall and no buyer is available at $7.95 or better. Your order wouldn't be filled and you'd continue to own the stock. The larger the gap between your stop and your limit, the higher the probability of selling your shares.

The good news is that stop-limit orders protect you from selling at a lower price than you'd like. The bad news is your stock may not sell at all, which could mean continuing to own a stock you don't want.

Keep in mind...

• Stock prices fluctuate. Because stock prices tend to naturally move up and down throughout the day/week, a standard stop order could mean you inadvertently sell a stock during a natural fluctuation only to see that stock rise again.
• Gapping. Occasionally, a stock will open at a much lower price than its closing price the day before – without any trading activity. For example, if negative news related to the company was announced in the evening. This could trigger an early-morning stop order that you may not have expected.
• Keep emotions out of it. Stop and stop-limit orders can help keep emotion and bias out of certain decisions, which can be valuable for some investors.

A few specifics...

• For Canadian markets, only stop-limit orders are accepted, not stop orders.
• Neither stop nor stop-limit orders are available for Nasdaq Bulletin Board or Pink Sheet stocks.
• Neither can be placed on orders with an all-or-none qualifier.
• Stop and stop-limit orders are triggered based on the last traded price for both Canadian and U.S. markets.