Stop Orders: Mastering Order Types

January 30, 2023 Kevin Horner
Learn how stop orders can help traders gain better control of their trade objectives.

A stop order can be a powerful tool that when used effectively, gives traders more control over their trade objectives. Here we explain what a stop order is, how it works, why and when you might use them, and the risks of this order type.

What is a stop order?

A stop order is an order to buy or sell a stock at the market price once the stock has traded at or through a specified price (the "stop").

How does a stop order work?

When a stop order is submitted, it is sent to the execution venue and placed on the order book, where it remains until the stop triggers, expires, or is canceled by the trader.

Once triggered, a stop order becomes a market order, which will generally result in an execution. However, a specific execution price or price range isn't guaranteed—the resulting execution price may be above, at, or below the stop price itself. Therefore, traders should carefully consider when to employ a stop order.

Why should I use stop orders?

You can use a stop order as an automatic entry or exit trigger upon a certain level of price movement in a specified direction; it's often used to attempt to protect an unrealized gain or minimize a loss.

  • Sell stop: A sell stop represents a market order to sell at the next available bid price, if/when the trade price decreases to, or down through, the stop price. You should enter a stop price for a sell stop order below the current bid price; otherwise, it may trigger immediately.
  • Buy stop: Although more commonly used as an exit strategy, stop orders can also be used to enter a position once it reaches or surpasses a particular price threshold. A buy stop order represents a market order to buy shares at the next available ask price, if and when the last trade price increases to, or up through, the stop price. You should enter the stop price for a buy stop order above the current ask price; otherwise, it may trigger immediately.

When should I use stop orders?

Because stop orders result in the submission of a market order, the same execution and eligibility characteristics apply:

  • Stop orders will only trigger during the standard market session, 9:30 a.m. to 4 p.m. ET. Stop orders will not execute during extended-hours sessions, such as pre-market or after-hours sessions, or take effect when the stock is not trading (e.g., during stock halts or on weekends or market holidays).
  • Although stop orders only trigger during the standard market session, traders can decide whether the stop should only be effective for the current market session or carry over to future market sessions. Stop orders designated as day orders expire at the end of the current market session, if not yet triggered. Good-'til-canceled (GTC) stop orders carry over to future standard sessions if they haven't been triggered. At Schwab, GTC orders remain active for up to 180 calendar days unless executed or canceled.

What are the risks of using stop orders?

Stop orders submit a market order when triggered, generally guaranteeing execution unless trading is halted or closed. However, guaranteed execution comes with some tradeoffs, so understanding the risks you face is important.

  • Gaps: Stop orders are vulnerable to pricing gaps, which can sometimes occur between trading sessions or during pauses in trading, such as trading halts. The execution price can be higher or lower than the stop's trigger price, which only denotes when the order should be submitted.
  • Fast markets: How fast prices move can also affect the execution price. When the market fluctuates, particularly during periods of high trading volume, the price at which your order executes may not be the same as the price you saw at the time the order was routed for execution.
  • Liquidity: You could receive different prices for parts of your order, especially for orders that involve large numbers of shares.
  • No market for the security: If there's no "market" for the stock (meaning that there's no bid or no ask available) or if the stock itself isn't open for trading, the market order triggered by your stop can't execute.

Bottom line

Stop orders can be a useful tool if your priority is immediate execution when the stock reaches a designated price, and you're willing to accept the risk of a trade price that is away from your stop value. However, before placing a stop order, you should understand how market hours, liquidity, and market speed can affect the execution and pricing of a stop order.

The information provided here is for general informational purposes only and should not be considered an individualized recommendation or personalized investment advice. The investment strategies mentioned here may not be suitable for everyone. Each investor needs to review an investment strategy for his or her own particular situation before making any investment decision.

All expressions of opinion are subject to change without notice in reaction to shifting market or economic conditions. Data contained herein from third party providers is obtained from what are considered reliable sources. However, its accuracy, completeness, or reliability cannot be guaranteed.

There is no guarantee that execution of a stop order will be at or near the stop price.

Investing involves risk, including risk of loss.