A stop-limit is an order to sell or buy a stock once it reaches a certain level, but only if the shareholder can obtain a specified price.
Anna owns 100 shares of XYZ Corporation, whose stock is now trading at $18 a share. While XYZ has enjoyed a nice run, she wants to cut her ties to the stock if it experiences a significant fall.
She contacts her broker and places the following stop-limit order:
Sell 100 XYZ at 15 stop, 14.75 limit
The order will be triggered if the share price drops to $15. But unlike a standard stop, it now becomes a limit order. That means Anna’s broker will only sell her 100 shares if the price stays at $14.75 or higher.
The advantage of a stop-limit order is that sellers don’t have to accept fire-sale prices if the stock takes a temporary plunge.
Investors can also use stop-limits to buy shares, a strategy that many short-sellers use to cap their potential losses. In a short sale, an investor sells a stock they don't own with the hope of buying the shares back at a new, lower price and capturing the profit. But if the stock unexpectedly rises, the stop-limit allows them to trigger a buy order.
Let’s say Tim shorts the same XYZ stock that’s now trading at $18. But instead of going down, as he originally hoped, the price climbs. To protect against huge losses, he places this stop-limit order. Once shares hit $20, the broker will look for an opportunity to sell his 100 borrowed shares at $20.50 or less.
Buy 100 XYZ at 20 stop, 20.5 limit
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