Stop Loss
Stop orders are used to try to limit an investor's exposure in the market.
A stop order (sometimes known as a stop loss order) is an order to buy or sell a security once the price of the security reaches a specified price, known as the stop price. When the specified price is reached, the stop order is entered as a market order.
Sell Stop Order
A
sell stop order is an instruction to sell at the best available price after the price goes below the stop price. A sell stop price is always below the current market price.
For example:
If an investor holds a stock currently valued at 400p and is worried that the value may drop, he/she can place a sell stop order with the broker at 375p.
If the share price drops to 375p for whatever reason, the broker will sell the stock at the next available price.
This can limit the investor's losses (if the stop price is at or below the purchase price) or lock in at least some of the investor's profits (if the value of the security has risen between when the security was purchased and the stop order placed).
Buy Stop Order
A
buy stop order is typically used to limit a loss (or to protect an existing profit) on a short sale. A buy stop price is always above the current market price.
For example:
If an investor sells a stock short (borrows stock and sells it immediately at current market price
(Shorting), and the investor hopes the stock price goes down in order to give the borrowed shares back at a lower price (Covering) while pocketing the difference) The investor may try to protect himself against losses if the price goes too high using a buy stop order.
With a
stop order, the customer does not have to actively monitor how a stock is performing.
However because the order is triggered automatically when the stop price is reached, the stop price could be activated by a short-term fluctuation in a security's price. Once the stop price is reached, the stop order becomes a market order. In a fast-moving market, the price at which the trade is executed may be much different from the stop price.
