What is a stop-loss vs stop limit order?
A stop-loss order and a stop-limit order are both types of orders used in trading to manage risk, but they operate differently. Here's a comparison between the two:
Stop-Loss Order:
Definition:
- A stop-loss order is an order placed with a broker to buy or sell an asset once the price reaches a specified level (the stop price).
Execution:
- When the market price reaches or falls below the stop price (for a sell stop-loss) or reaches or rises above the stop price (for a buy stop-loss), the stop-loss order is converted into a market order, and the asset is bought or sold at the best available market price.
Guaranteed Execution:
- A stop-loss order does not guarantee the exact execution price. In fast-moving markets or gaps, the executed price may differ from the stop price, known as slippage.
Stop-Limit Order:
Definition:
- A stop-limit order combines elements of a stop order and a limit order. It consists of two prices: the stop price and the limit price.
Execution:
- When the market price reaches or falls below the stop price (for a sell stop-limit) or reaches or rises above the stop price (for a buy stop-limit), the stop-limit order is triggered. However, instead of converting into a market order, it becomes a limit order to buy or sell the asset, but only at the specified limit price or better.
Price Control:
- Unlike a stop-loss order, a stop-limit order provides more control over the execution price. However, there is a risk that the order may not be filled if the market doesn't reach the limit price.
Comparison:
A stop-loss order is more focused on guaranteeing execution but may result in slippage.
A stop-limit order provides more control over the execution price but may not be filled if the market doesn't reach the specified limit price.
Example:
- If you own a stock trading at $50 and you want to limit your losses, you might set a stop-loss order at $45. If you want more control over the sell price, you might use a stop-limit order with a stop price of $45 and a limit price of $44.50.
Both types of orders are useful tools for risk management, and the choice between them depends on the trader's preferences and the specific market conditions.