What is a stop order and how do you place one?

What is a stop order?

A stop order is an instruction to your broker to enter or exit a trade if the market price hits a certain predetermined level, which is less favourable than the current price.

You’ll determine the level at which stop losses will be triggered, within certain parameters – it also depends on whether you’re going long, short and entering or exiting a trade.

There are two main stop orders: stop-loss and stop-entry

1. Stop-loss order

This is when you exit a trade when a price moves against you and hits a certain level of loss – limiting future losses for you. They can also potentially result in profit if set above the opening level (in the case of a long position, or below it in the case of going short). When the predetermined price limit is reached, your stop loss triggers and the position is closed automatically.

This’ll be a certain price less favourable than your opening position and it’ll be determined by whatever the maximum amount of loss is that you feel comfortable with. This way, you ensure you won’t lose more than you’re prepared to, if a trade doesn’t work out as expected. This does not protect from slippage, however, in which case you’d need a guaranteed stop. Learn more about guaranteed stops here

• If you’re buying (going long), the stop order will be set below the market price
• If you’re selling (going short), the stop order will be set above the market price

2. Stop-entry order

The opposite of a stop-loss order, this is used to open a position when the market hits a predetermined level

• If you’re buying (going long), your stop-entry order level will be above the current price
• If you’re selling (going short, your stop-entry order will be below the current price

Opening a stop-entry order position once the market is moving against you can actually be a valuable strategy for hedging or trading a sudden market spike or downturn. For example, let’s say you believe that, should Rolls Royce’s share price drop to a certain level, they’ll rebound significantly and rapidly. So, you open a long position on Rolls Royce shares and set a stop entry order to capitalise on this, should your prediction come true.

How do stop orders work?

Stop orders are designed to work automatically, so you don’t have to watch the market constantly to check whether prices will move against you. This is especially useful in volatile markets when prices change suddenly and you don’t have time to manually close out a trade that’s turned against you (in the case of stop loss orders) or open one during a short window of opportunity (in the case of stop entry orders).

Get insights on volatility trading

How stop-loss orders work

When you open your position, you’ll manually set your stop-loss order parameters. If the market moves against you once your position is opened, your stop order is automatically triggered when the price is reached that you’ve set as your stop amount. At this point, the trade is automatically closed to limit further loss. Again, remember that this won’t protect against negative slippage without a guaranteed stop.

Types of stop loss orders

There are three types of stop-loss order. Here are the ones you can use with us:

• Normal stop loss: this is the type of stop loss we’ve explained above. This stop loss kicks in when the price limit you’ve set has been reached
• Trailing stop loss: rather than kicking in at a certain price point, a trailing stop loss is predetermined by how far away from your opening position it is. For example, if you don’t have a specific amount of loss you’re comfortable with in mind, but instead would rather not lose more than 20 points’ unfavourable movement. You can set a trailing stop order that will move with your position as it moves favourably, then automatically closes your trade if the market moves 20 points against you
• Guaranteed stop: in volatile markets, your normal stop loss may not have time to trigger and, so, would not be executed at the level you requested. This would happen when the market moves so swiftly that, by the time you stop loss is triggered, your order is filled at a worse price that the stop loss you set. This is called negative slippage. Guaranteed stops ensure that your order will be fulfilled at the price you set, no matter what. Bear in mind that you’ll pay a premium for a guaranteed stop, but only if it’s triggered

Learn more about slippage and how to avoid it

How stop-entry orders work

A stop-entry order involves you manually setting the level at which you want to open a position, if the market moves in your favour.

As in our previous stop-entry example, this may be because you believe that, should the price of Rolls Royce shares hit a certain ‘low’, the price will rally. So, you’d set a stop entry order around the level that you’ve predicted.

If that price level is reached, your stop entry automatically opens a long position for you without you having to do anything, automatically enabling you to ride the Rolls Royce price rally (if your prediction happens to be correct) thanks to your stop entry order.

How stop orders work for share dealing

While the stop orders we’ve described so far have been for spread betting and CFD trading, you can use stop entry orders on your share dealing account, too.

Here, you’d enter your amount of shares to buy or sell and your stop amount, similar to the process in spread betting or CFD trading. The order will be filled when your stop level has been met, at the best available price. Unlike with trading, no stop losses, trailing stops or guaranteed stops are available with share dealing.

How to place a stop order

How you place your stop order will depend on what type of stop order you’re after.

What are the benefits and risks of using stop orders?

There are pros and cons to using stop orders. Understanding them is key to determining whether or not you should be using stops:

Benefits of using stop orders

• Stop orders limit your risk of loss without limiting your potential for profit
• Because stop orders are triggered automatically, you don’t constantly have to monitor your open positions (in the case of stop-loss orders) or the market (in the case of stop-entry orders)
• They can also help you trade smarter, limiting the risk of emotional influences, as setting your stop-loss essentially automates when you’ll exit an unfavourable trade

Risks of using stop orders

• Once you’ve opened a position with a stop-loss, there’s no way to change that stop-loss level. So, for example, if you become more bullish as you watch a trade unfold, a more conservative stop-loss order than what you’re now comfortable with could close the trade before you’re ready
• If an unfavourable market movement is temporary – say, for instance, a ‘dead cat bounce’ occurs for an asset you’ve gone short on – you can lose future profits when the temporary unfavourable movement triggers your stop loss
• Setting a normal stop-loss is no guarantee that your stop loss will be executed at that exact level. If the market moves suddenly past the point at which your stop loss has being set, it could be fulfilled at a worse price than your stop loss amount. This is why guaranteed stops are used – to prevent negative slippage

A stop order example

Let’s say you want to go long on Apple shares and place a stop-entry order. You’ve conducted your own analysis and believe that Apple shares will likely go down briefly in a ‘dead cat bounce’, then rise again. Your prediction is that this will happen when the Apple share price, which is currently at 147.50, drops to 145.00.

So, you decide to open a spread bet at £10 per point and set up a stop-entry order to automatically buy (go long on) 10 Apple shares when the price hits 145.00 (buy price 145.10 and sell price 144.90). The margin requirement is 20%, so you’ll have to put down £290.20 to open your position (20% x [145.10 x £10]).

If the Apple price rises again from this point, you’ll automatically have an open position thanks to your stop-entry order. However, you have a limit on the amount of initial loss you’d be prepared to weather to ride this ‘dead cat bounce’ market move, so you also place a stop-loss order at 134.50. If the Apple share price drops by this much, your stop-loss order will automatically close out your trade, preventing further losses.

If your stop-loss were to kick in at 134.50, you’d make a loss of £106 ([134.50 – 145.10] x £10). However, if the dead cat bounce you were predicting materialises, and the Apple share price rallies to 159.50, you’d make you a profit of £144 ([159.50 sell price – 145.10 original buy price] x £10 per point).