What is a Limit Order?
Limit Order Definition
A limit order is a conditional order to buy or sell a stock below or above a certain price point or better.
Limit orders stand in contrast with market orders, which are orders executed immediately and at the current market price.
Limit orders are useful tools for trading in stocks that do not have much liquidity and are volatile.
They can also help individuals plan for and reach investing goals by setting price targets for stocks.
Limit Order Example
If a trader sets a limit order of $100 to buy a stock that is trading at $120 at that time, then the order will not be executed until the stock’s price falls to $100 or below.
The trader can attach an expiration date to the order to ensure that it is deleted, if the stock’s price fails to move in the desired direction.
Purpose of Limit Orders
Limit orders can be used to buy or sell stocks (and other securities):
- Buy limit orders are stock purchase orders that are not executed until its price falls below a desired price.
- Sell limit orders are stock sale orders that are not executed until the stock’s price rises above a desired price. For example, if a trader sets a sell limit order of $150 for a stock that is trading at $120 at the time of the order, then the order will not be executed until the stock’s price reaches $150 or higher.
Limit Order vs Stop Order
Limit orders are similar to stop orders, but stop orders are executed as a market order once a stock’s price moves past a certain price point.
Because a stop order is executed as a market order, the actual price shares are bought and sold for might be worse than the price chosen to trigger the order.
Limit orders, in contrast, will only be fulfilled at the price specified by the limit order.
If a limit order is placed for 1,000 shares at $10 and the price drops to $10 but only 500 shares are available at $10, a limit order will only purchase 500 shares.
A stop order would, by contrast, purchase 1,000 shares as soon as the price of the stock reaches $10, even if only 500 shares are available at $10 and the remaining 500 shares are bought at a price higher than $10.
Additionally, limit orders are visible to market stakeholders but stop orders remain invisible until the price point specified in the order is met.
How Does a Limit Order Work?
While limit orders will only be fulfilled by the order’s specified price, it does not guarantee execution since the order is executed only when a given condition is reached.
Limit orders also work on a first in, first out basis.
Hence, an order’s execution depends on the number of orders ahead of it.