Limit Order Definition Types Step By Step Examples

Limit Order Definition

It is one of the order types in the share marketThe Share MarketThe share market is a public exchange where one can buy and sell company shares based on the demand and supply of shares. read more that allows traders to set the desired price they are willing to buy or sell. It gives a trader more control for executing security’s price than when they are worried about market order during volatility. Traders specify their price using a limit order, whereas they choose a price in the market order market. One can modify them until it executes.

They purposely use it to get a better price, and thus one must place it on the correct side of the market.

Buy order = At or price less than the current market price.Sell order = At or price more than the current market price.

For example, if Mr. Bill is a trader who wishes to buy 100 stocks of Tropical Inc. but has a $20 or lower limit. Then, if he wishes to sell the same shares at $22, he will not see the shares until the price reach $22, or more than $22.

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Types of Limit Order

Buy Order – One can place a buy limit ordera buy limit orderA buy limit order is a trading system in which a trader gives instructions to buy a security only below a certain price, allowing them to determine the exact amount of investment they want to make in that security.read more at a specified price or lower.Sell Order – One can place a sell limit order at a specified price or higher than it.

Examples

Let us see some simple to advanced illustrations.

Example #1

Suppose a portfolio manager Portfolio ManagerA portfolio manager is a financial market expert who strategically designs investment portfolios.read more wishes to buy stocks of MRF Ltd. but believes that the current valuation is too high, $833. He wants to buy at a specified price or less.

He instructs his traders to buy 1,000 shares when their price falls below $806.

The traders then order to buy 1,000 shares with an $806 limit. They can begin buying stocks automatically when it reaches $806 or less, or they can cancel the order.

Example #2

He can instruct 50% of the shares at a price above $35. Then, it is a sell limit order, where he will sell the shares only if it reaches $35 and above. Else, he will cancel it.

Advantages

They let traders enter and exit deals with an exact price. As a result, they can attain a certain predefined goal in a trading security.It can be beneficial in a volatile market scenario. For example, when a stock suddenly rises or falls, a trader worries about getting an undesirable price from a market order.It can be advantageous when the trader cannot keep regular track of his portfolio but has a specific price in mind. They would like to execute, buy or sell any particular security. They can be placed with an expiration date.

Disadvantages

It is subject to the availability of security at a set price. Therefore, it prevents the negative execution of trading. But, on the other hand, it does not guarantee a buy or sell action because it will always be executed only when the desired price is attained. In this way, traders can miss an opportunity.Traders must enter a limit price correctly to ensure the goal is to get a specified price. Therefore, it is essential to be on the upper hand of the market price. Otherwise, the trade will be filled at the current market price.Compared to market orders, brokerage feesBrokerage FeesA brokerage fee refers to the remuneration or commission a broker obtains for providing services and executing transactions based on client requirements. It is usually charged as a percentage of the transaction amount.read more for limit orders are higher. The order is not executed if the market price never reaches a high or low as the investor specified. Hence, it is not guaranteed. They are more technical and not straightforward trades; they create more work for the brokers, leading to a higher fee.

Limitations

They are unsuitable for aggressive trading techniques because order executions are essential rather than price.While using it, the market may not touch the price. Therefore, it is hard to make money in these scenarios.It may be challenging to find the actual price and make limit orders suitable for low-volume stocks not listed on major exchanges.

Important Points to Note

The risk with limit orders is that the current price must never fall within the order’s criteria; in this case, the investor’s order may fail to execute.At times, the target priceThe Target PricePrice Target in the context of stock markets, means the expected valuation of a stock in the coming future and the valuation may be done either by the stock analysts or by the investors themselves. For an investor, price target reflects the price at which he will be willing to buy or sell the stock at a particular period of time or mark an exit from their current position.read more may reach. Still, there could not enough liquidity to fill the order.It is featured with price restriction; it may sometimes receive partial or no fill.All stock market transactions are impacted by certain points like the availability of stocks, the timing of commerceCommerceCommerce is the accumulation of several transactions for a given industry. A transaction is a one-time event where an entity exchanges anything of value with a different entity.read more, the stock’s liquidity, and the size of the order.There are always present priority guidelines for such orders.

Conclusion

A limit order allows the trader to pre-determine the price they want to buy or sell. It ensures that price considerations are fulfilled before the trade is executed. It deals primarily with the price of a security. So, if the security’s price is currently resting outside of the criteria set in the limit order by the trader, the transaction does not happen. They can be beneficial in the scenarios where a stock or other asset is thinly traded, has highly volatile, or possesses a wide bid-ask spread where a bid-ask spread Bid-ask SpreadThe asking price is the lowest price at which a prospective seller will sell the security. The bid price, on the other hand, is the highest price a prospective buyer is willing to pay for a security, and the bid-ask spread is the difference between them.read more is a difference between the highest price a buyer is willing to pay for security in the market and the lowest price a seller is willing to accept for a security.

Placing a limit order puts a cover on the amount an investor is willing to pay. It always allows precise order entry and is appropriate to traders when it is more important to get a specific price rather than the execution of trade to get filled by the market price.