A stop-limit order is an order type that combines elements of stop orders and limit orders, enhancing control over trading outcomes. It enables traders to set specific prices for entering or exiting the market, as well as define the maximum or minimum price they are willing to accept, allowing them to mitigate significant risks and increase their chances of success.
At its core, a stop-limit order activates a limit order once the market reaches a predetermined stop price. When setting up a stop-limit order, a trader sets two prices: the stop price, which triggers the creation of a limit order, and the limit price, which is the specific price point at which the order is executed. This can be particularly useful in highly volatile markets.
Let’s imagine a situation when a trader wants to buy a cryptocurrency if its price rises above a certain level, signaling a potential upward trend. If the cryptocurrency is trading at $300, the trader might set a stop order at $310 and a limit order at $315. This means that once the price hits $310, a limit order to buy at $315 or lower will be automatically placed (see image below). This helps the trader secure a desired maximum buy price without having to constantly track the market.
A stop-limit order can also be used for selling. If a trader has purchased a cryptocurrency at a lower price and it increases to $300, they might set a stop-limit order with a stop price of $289 and a limit price of $285. If the price drops to $289, a limit order to sell at $285 or higher is activated (see image below). This helps the trader secure a desired minimum sale price without hA stop-limit order can also be used for selling. If a trader has purchased a cryptocurrency at a lower price and it increases to $300, they might set a stop-limit order with a stop price of $289 and a limit price of $285. If the price drops to $289, a limit order to sell at $285 or higher is activated (see image below). This helps the trader secure a desired minimum sale price without having to constantly monitor the market.
Stop-limit orders have many distinct advantages. For instance, they empower traders to precisely plan trades and ensure their execution at desired price levels. In addition, stop-limit orders allow for effective risk management as they let traders set orders that are automatically triggered when a cryptocurrency reaches a particular level, preventing significant losses in case of sudden price fluctuations.
However, stop-limit orders come with their own set of risks. One of them is the risk of non-execution. If the price skips over the stop price or if market conditions change rapidly, the limit order may not execute. Furthermore, the limit price may not be reached in fast-moving markets. In both cases, the position is left open and traders are exposed to significant risks.
Learn more: What Is a Stop-Limit Order?