What is a Stop Loss Order and how is it used?

What are stop loss orders and how to use them?

A stop-loss order is a buy/sell order placed to limit the losses when you fear that the prices may move against your trade. For instance, if you have bought a stock at Rs 100 and you want to limit the loss at 95, you can place an order in the system to sell the stock as soon as the stock comes to 95. Such an order is called ‘Stop Loss’,

Before understanding more about stop loss order, let us first understand limit orders.

Limit Order

A limit order allows you to buy or sell a stock at the price you have set or a better price.

In other words, if you place a buy limit order with limit price at Rs 92, you want to buy the stock from the exchange only at Rs 92 or lower. Similarly, if you place a sell limit order at limit price of Rs 95, you want to sell the stock at Rs 95 or higher. Your order will not be executed or might get partially executed if you don’t find the desired prices.

Now, let’s look at stop loss order. While placing a stop loss order, you need to give 2 inputs:

1. Trigger Price

Your order will be triggered when market price reaches the trigger price.

2. SL Price / Limit Price / Price

When trigger price is met, a limit order will be placed with limit being the SL price

Case 1 : if you have a buy position, then you will keep a sell Stop loss order.

This types of order is used when you have a buy position and market price is falling and you wish to limit your losses.

Your sell order will be placed when market price falls till the point of trigger price. The order placed will be a sell order with limit price of SL Price. The order will be executed by exchange at the next available bid above SL Price.

If you have a buy position at Rs 100 and you wish to stop your loss at Rs 5, you will place a sell stop loss order at 95. You can place the trigger price at 95.5 and SL Price at 95. When the market price falls till 95.5, a limit order will be placed to sell the stock with limit price of 95 and your order will be squared off at the next available bid above 95 but not below that.

Case 2 : if you have a sell position, then you will keep a buy Stop loss order.

This types of order is used when you have a sell position and market price is rising and you wish to limit your losses.

Your buy order will be placed when market price rises till the point of trigger price. The order placed will be a buy order with limit price of SL Price. The order will be executed by exchange at the next available bid below SL Price.

If you have a sell position at Rs 100 and you wish to stop your loss at Rs 5, you will place a buy stop loss order at 105. You can place the trigger price at 104.5 and SL Price at 105. When the market price rises and reaches 104.5, a limit order will be placed to buy the stock with limit price of 105 and your order will be squared off at the next available bid below 105 but not above that.

Pro Tip: Learn using Stop Loss orders and Limit orders with Pivot Points, Resistance and Support

Note:

  1. For a sell stop loss order, the trigger price must be higher than SL Price and similarly for a buy stop loss order, the trigger price must be lower than SL Price.
  2. You should keep considerable gap between trigger price and SL price. If the market falls or rises steeply, your order might not get executed. Eg: In case of sell stop loss order with Trigger price of 95.1 and SL Price of 95, it might happen that your order is placed when market price falls from 100 to 95.1 and then market price falls steeply below 95 and since its a limit order with limit price of 95, your order is never executed.

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