I recall being a stockbroker trainee who was confronted with new concepts and terminology. Then, most of the customers purchased individual stocks some bought bonds and a few purchased mutual funds. The types of orders a customer would give were linked to both his position in the stock market and the customer’s trading strategy and/or methodology. To the novice, these orders that sound simple can become complex and confusing when price and time qualifiers are added.
A person wanting to buy or sell a specified number of shares of a specific stock immediately regardless of price would simply enter a market order. An order to buy or sell 500 shares of ABC at the market tells the executing trader to either buy or sell 500 shares of ABC now at the best price available. The execution price could be at, above or even below the current price shown on the quotation screen.
Time and Price Qualifiers
Market orders are executed immediately. Other order types may not receive an immediate execution. Limit, stop and stop limit orders have a price qualifier that is frequently away from the current market price and require a time qualifier to allow for market movement. There is no guarantee that these price qualified orders will ever be executed.
While there are others, the two most common time qualifiers are “Day” and “GTC.” A day order expires at the end of the current trading session. If the order is entered after the prior market close it would be effective during the next trading session. GTC is trade jargon for “Good ‘Til (Until) Canceled.” Today, most broker-dealers limit the life of GTC orders to sixty or ninety days. The broker-dealer determines the time limit. Unexecuted GTC orders are called open orders and usually show on client’s monthly statement or internet account page.
Limit Order (Price Qualifier)
A limit order puts a ceiling over a buy price or a floor under a sell price. Buy limits are placed at or below the current market price and a sell limit are always placed at or above the current market price. These limit orders must be either Day or GTC orders.
Sell Limit (Price Qualifier)
Let’s assume you own 100 shares of ABC. The stock is currently trading at 10 and you would like to sell it if the price increases to 13. You would enter an order to sell 100 ABC at 13. The order would read “Sell 100 ABC 13” for a day order or “Sell 100 ABC 13 GTC” For a GTC order. This language tells the executing trader to sell 100 ABC at no lower than 13 and if the stock trades at or above the limit price your sell order will be executed. Assume good news for ABC arrived after the prior day’s close and the stock opened at 15 and the order was still in force. The shares will be sold at or near the opening price. But in any case, there will not a be transaction below 13. Sell limit orders are always placed at or above the current market.
Buy Limit (Price Qualifier)
A customer would place a buy limit order when the intent was to purchase shares of that security at or below the current market price. An execution would occur when the price of the stock traded at or below the limit price.
Stop Orders (Price Qualifier)
Stop orders are protective orders that are mostly used to reduce loss from adverse market movement. Stop orders are like switches, activated when the stop price is hit, that turn on another order. Unless there is an additional price qualifier, that secondary order is a market order.
Sell Stop (Price Qualifier)
Assume a client purchased 100 ABC at 10 expecting the price to increase to 15. The stock price failed to increase as expected and the customer became nervous about the future success of his investment. He made the decision that if the price declined to $7.50, he wanted to liquidate. To accomplish this, he would enter a sell stop order. The order would read “Sell 100 ABC 7.50 Stop.” Once the price went to or through $7.50, the stop order would be elected. This would have triggered a market sell order. The execution price could be at, higher or lower than the stop price. Sell stop orders are always placed below the current market price.
Buy Stop (Price Qualifier)
The most frequent use of a buy stop is to protect a short position from additional loss. A buy stop is always placed above the current market price. Assume an investor is short 100 ABC at 10. Instead of declining as expected the stock price is going up. The investor decides that if the stock goes above $12.50 he wants to cover his short. So, a buy stop is placed at $12.50. The order would read “Buy 100 ABC 12.50 Stop.” The stock increases to $12.50 per share and the stop is elected turning on a market buy order that covered the short position.
The combination of order types and qualifiers can make these orders confusing. They are most easily understood when considered in terms of entering and exiting an investment strategy.