Loading the player...
A:

A stop-loss order, or stop order, is a type of advanced trade order that can be placed with most brokerage houses. The order specifies that an investor wants to execute a trade for a given stock, but only if a specified price level is reached during trading. This differs from a conventional market order, in which the investor simply specifies that he or she wishes to trade a given number of shares of a stock at the current market-clearing price. Thus, a stop-loss order is essentially an automatic trade order given by an investor to his or her brokerage. It will only become active and be executed once the price of the stock in question falls to the specified stop price stated in the investor's stop-loss order.

For example, let's say you are long 100 shares of XYZ Corporation. You bought the shares at $20, and now they are trading at $30 per share. You want to continue holding the stock so you can participate in any future price appreciation it may see. However, you also don't want to lose all of the unrealized gains you have built up so far with the stock, and you would want to sell out of your position if XYZ shares fell to $25.

Rather than watching the market five days a week to make sure the shares are sold if XYZ's price drops, you can simply enter a stop-loss order to essentially monitor the price for you. You could input a stop-loss sell order to your brokerage to sell 100 shares of XYZ if its price falls to $25.

For most stop-loss orders, the brokerage house normally looks at the prevailing market bid price (i.e. the highest price for which investors are willing to buy the stock at a given point in time), and if the bid price reaches the specified stop-loss price, the order is executed and the shares are sold. The bid price is used for stop-loss sell orders - instead of the ask price or the market-clearing price - because the bid price is the price a seller can receive presently in the market. In our example, a stop-loss order placed for 100 shares of XYZ at $25 would effectively limit your potential losses, ensuring you are able to sell your shares for $25 should your stock head south.

Stop-loss orders can also be used to limit losses in short-sale positions. If you are short a given stock, you can issue a stop-loss buy order at a specified price. This order will be executed only if the stock's price rises high enough to reach the stop-loss price, triggering a buy order execution and closing out your short position in the stock. In these cases, the stop-loss order would be executed once the ask price level reaches the stop-loss price, since the ask price is the price at which an investor is able to buy shares on the open market. (For more on this, see Can a stop-loss order be used to protect a short sale transaction? )

To learn more, check out The Stop-Loss Order - Make Sure You Use It, The Basics Of Order Entry and

Trailing-Stop Techniques.

RELATED FAQS
  1. What is the difference between a stop loss order and a limit order?

    Learn how to manage losses and reduce risk in volatile markets while reviewing the differences between stop-loss orders and ... Read Answer >>
  2. How do I place a stop loss order?

    Learn how to place a stop-loss order and how traders use stop orders to either limit potential losses or to protect part ... Read Answer >>
  3. How risky are stop loss orders?

    Understand the purpose and uses of a stop-loss order as a risk management tool for trading and also the risk associated with ... Read Answer >>
  4. What types of investors are best-suited for stop loss orders?

    Use a stop-loss order to mitigate downside risk. Whether you are a conservative beginner or a seasoned day trader, a stop ... Read Answer >>
  5. How do I place a limit order online?

    Learn how a limit order is placed, the types of stocks it is most useful for and the specifications placed with it to suit ... Read Answer >>
  6. What's the difference between a stop and a limit order?

    Different types of orders allow you to be more specific about how you'd like your broker to fulfill your trades. When you ... Read Answer >>
Related Articles
  1. Trading

    Which Order To Use? Stop-Loss Or Stop-Limit Orders

    Stop-loss and stop-limit orders can provide different types of protection for investors seeking to lock in profits or limit losses. Investors need to know how each type of order works to know ...
  2. Trading

    A Look At Exit Strategies

    Setting appropriate exit points should help you avoid taking premature profits or running losses.
  3. Trading

    The Basics Of Trading A Stock

    Taking control of your portfolio means knowing what orders to use when buying or selling stocks.
  4. ETFs & Mutual Funds

    3 Cases When Not to Place Tight Stop-Loss Orders (IBB, XBI)

    Learn about using stop-loss orders for exchange-traded funds. Discover the circumstances when using a tight stop-loss order may not be appropriate.
  5. Trading

    How To Place Orders With A Forex Broker

    Learn how to set each type of stop and limit when trading currencies.
  6. Trading

    Making The Trade: Understand Order Types

    Buying and selling stock can be a lot like buying or selling a car. Traders should use and understand tools such as market orders, limit orders, day orders, and good-'til-canceled orders to ensure ...
  7. Trading

    Can You Buy Stock Insurace? 3 Strategies to Limit Stock Losses

    Investors can use derivative securities to effectively buy insurance on their individual holdings or on their portfolio as a whole.
  8. Trading

    How To Start Trading: Order Types

    The types of orders you use can have a large effect on your trading performance, so understanding the different order types is important to your success.
  9. ETFs & Mutual Funds

    Are Stop-Loss Orders and ETFs a Good Idea?

    Using stop-loss orders can be beneficial as well as risky. Do they make sense when trading ETFs?
  10. Managing Wealth

    Narrow Your Range With Stop-Limit Orders

    With stop-limit orders, buyers protect themselves from prices too high for their tastes.
RELATED TERMS
  1. Stop-Loss Order

    An order placed with a broker to sell a security when it reaches ...
  2. Stopped Out

    The execution of a stop-loss order. Stopped out refers to when ...
  3. Bracketed Buy Order

    A buy order that is accompanied by a sell limit order above the ...
  4. Limit Order

    An order placed with a brokerage to buy or sell a set number ...
  5. Buy Limit Order

    An order to purchase a security at or below a specified price. ...
  6. Order

    An investor's instructions to a broker or brokerage firm to purchase ...
Hot Definitions
  1. Diversification

    A risk management technique that mixes a wide variety of investments within a portfolio. The rationale behind this technique ...
  2. European Union - EU

    A group of European countries that participates in the world economy as one economic unit and operates under one official ...
  3. Sell-Off

    The rapid selling of securities, such as stocks, bonds and commodities. The increase in supply leads to a decline in the ...
  4. Brazil, Russia, India And China - BRIC

    An acronym for the economies of Brazil, Russia, India and China combined. It has been speculated that by 2050 these four ...
  5. Brexit

    The Brexit, an abbreviation of "British exit" that mirrors the term Grexit, refers to the possibility of Britain's withdrawal ...
  6. Underweight

    1. A situation where a portfolio does not hold a sufficient amount of a particular security when compared to the security's ...
Trading Center