Stop Loss vs. Stop Limit Order: Which is better?

Aakash Sharma — Thu, 16 Sep 2021 08:35:11 +0000

In placing an order with online investment brokerage platforms like Zerodha, Upstox, or Groww, you – the investor – give instructions to the broker about what you want them to do with your money. When the instruction is fulfilled, your order gets placed and executed in the stock exchange.

You can place an order in the two stock exchanges of India, which are the National Stock Exchange (NSE) and the Bombay Stock Exchange. If a company’s stock you are interested in buying is listed on both of these exchanges, you can choose the trade as per your preference.

Now, there are two types of effective order options available in the market to reduce your loss possibilities in an investment. Let’s explore what they are.

Stop Loss Orders

A stop-loss order is a buy or sell order you can place if you are concerned that the price of a share could be unfavourable to you. For example, if you buy stock for Rs. 100 and want to limit the loss at Rs. 95, you can register an order in the system for the stock’s sale just when it reaches 95. This order type is called ‘Stop Loss’, as you are placing it to stop a loss more than what you are ready to risk.

- Trigger price: It is the price set by you at which your share goes to exchange to get traded.
- Exit price or limit price: It is the price set by you at which the trade of your share gets executed.

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Making a realistic fundamental and technical assessment of how stocks are traded is the first step in the right direction.

Stop-Loss (SL) Market order: Exit is fixed, exit price is not fixed

Suppose you buy a share at Rs. 200. You choose to apply for the stop loss market order at the trigger price of Rs. 190 to avoid loss. Now, consider that the share value fluctuates and first goes down from Rs. 200 to Rs. 150, then a little up to Rs. 180. It dips due to certain conditions that are not in anyone’s control.

As you chose the stop loss market order, the system triggered your stop loss limit at the first drop itself, Rs. 150, and it was executed in the market at the Rs. 150 price only, giving you a loss of Rs. 50. In the stop loss market order, the Rs. 180 value is not considered because the stop loss market order gets triggered and executed simultaneously – in the first downfall itself.

Stop-Loss (SL) Limit Order – Two price option

Here exit price is fixed, but if the exit will happen or not is not certain. Taking the above example, let’s say that Rs. 200 is the buy price of a share. You put the SL limit order exit price at Rs. 190, and trigger price at Rs. 191.

If the share price falls, your exit price might get hit only if a buyer is willing to buy at your proposed amount, which is Rs.190. If the condition is such that the price falls substantially to say Rs. 150, your exit price will not be met, and you will not be able to execute the order and exit the shareholding. This can mount losses for you.

Which is better for you?

The best way to choose an investment strategy in the stock market is by weighing the risks and your capacity to handle them. If shares and their prices are volatile, then a stop loss limit order may be more effective due to the guaranteed price. If the trade doesn’t execute, then you, the investor, will have to wait only a short while before the price rises.

If there is insufficient information about a firm, for example, its long-standing suspicious financial records, the stop loss market order would be apt. In such a case, the stock price may not return to its current level for months or years, that is, if it ever returns to normal at all. Investors should reduce losses and take the market price on the sale. Failure to implement this loss prevention method can result in significant losses.

Another essential point to consider when setting up any stop loss order is sustainability and keeping costs down. Technical analysis is a valuable tool here as stop loss prices and rates are usually determined at a technical or competitive level.

Investors who place stop-loss orders on steadily climbing stocks should take care to give the stock a little room to fall back. If they set a price close to the current market price, they might stop early and get a relatively low cost. If prices rise again, they may even lose out on gains.

In short, stop loss market and limit orders provide excellent protection for long-term as well as short-term investors. The stop-loss orders guarantee execution (exit), while stop-limit orders guarantee the price, thus, helping investors become more vigilant and sustainable in their investments.

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