Stop-limit vs stop-market orders: which one protects you

Every stop order has two parts: a trigger price and the order it sends when the trigger is hit. The only difference between a stop-market and a stop-limit is that second order. That one difference decides whether you get out in a fast drop, and at what price.

Interactive Brokers' own course on order types sums up the choice in one line: "In general, orders guarantee a fill or guarantee a price, but not both" (IBKR Campus: stop and stop limit orders). This post works through what that means on a small cap, with the same position in an orderly drop, a gap, a halt and the pre-market. It is part of our pillar on day trading risk management. Scalpel is independent and not affiliated with or endorsed by Interactive Brokers.

Stop limit vs stop market: the definitions

The SEC's investor bulletin on stop, stop-limit and trailing stop orders defines them this way:

• Stop order (also called a stop-loss order): "When the stop price is reached, a stop order becomes a market order." The bulletin adds that the stop price "is not the guaranteed execution price" and the fill "can deviate significantly from the stop price."
• Stop-limit order: "Once the stop price is reached, a stop-limit order becomes a limit order that will be executed at a specified price (or better)." And: it "may not be executed if the stock's price moves away from the specified limit price."

The two prices of a stop-limit do not have to match. The bulletin's own example is a sell stop-limit with a stop of $3.00 and a limit of $2.50: it becomes live when the market reaches $3.00, and can then fill anywhere from $3.00 down to $2.50, but not below. Our glossary has the short versions: stop order and stop-limit order.

Stop loss vs stop limit: the same question

People often ask "stop loss or stop limit?" A stop-loss is not a third order type. It is what you use the stop for. Either order can be your stop-loss; the question is which one you want carrying it.

The same trade, four ways

You hold 600 WXYZ from 8.20 with a stop at 7.95: 25 cents of risk, $150, your 1R. Compare a stop-market at 7.95 with a stop-limit at 7.95, limit 7.90.

1. An orderly drop

Prints step down: 7.97, 7.96, 7.95. The bids are 300 at 7.95 and 400 at 7.94.

• Stop-market: triggers on the 7.95 print and sells 300 at 7.95 and 300 at 7.94, average 7.945. The loss is $153, about 1.02R.
• Stop-limit: triggers on the same print and sends a sell limit at 7.90, which is marketable against those bids. Same fill, same loss.

In normal trading the two orders behave the same. The difference only shows when the book thins out.

2. A gap through a thin book

A seller sweeps the bids. The tape prints 7.98, then 7.81, with nothing in between. The bids left are 200 at 7.80, 300 at 7.76, 500 at 7.70 and 800 at 7.62.

• Stop-market: triggers on the 7.81 print and sells into the book: 200 at 7.80, 300 at 7.76 and 100 at 7.70. Average 7.7633, a loss of $262, about 1.75R. Painful, but you are out.
• Stop-limit at 7.90: triggers on the same print and sends a sell limit at 7.90. The best bid is 7.80, so the order sits above the market, unfilled. If WXYZ is 7.40 ten minutes later and you sell there, the loss is $480: 3.2R, and only if you were watching.
• Stop-limit at 7.70: a 25 cent gap between stop and limit. The same print sends a sell limit at 7.70, which takes the same three levels as the market order: average 7.7633, $262. The wide limit fills like a market order here, but it would still refuse to sell below 7.70 if the bids vanished entirely.

That is the trade-off in one example. The tight stop-limit protected a price you never got, and cost you twice as much. The plain stop and the wide stop-limit both got you out, at a bad price.

3. A halt

Small caps halt often under the Limit Up-Limit Down plan. A Tier 2 stock priced above $3.00 has a 10% price band, and one between $0.75 and $3.00 has a 20% band; if the price sits at the band for 15 seconds, trading pauses for five minutes (FINRA: guardrails for market volatility).

Say WXYZ spikes to 9.00 and halts limit up, then reopens at 7.60, under your stop, without trading anywhere in between. Neither order can fire during the pause. At the reopen:

• Stop-market: triggers on the first print, 7.60 or wherever it is, and sells into whatever bids exist. A loss of about $360 at 7.60, 2.4R, possibly more.
• Stop-limit, either limit: both 7.90 and 7.70 are above the market. Unfilled.

No order you can place protects a position through a halt. LULD trading halts covers what happens to resting orders in detail.

4. Before the open

From 04:00 to 09:30 ET, exchanges take limit orders only. A plain stop has nothing it can send, so at most brokers it simply waits for the open. A stop-limit can work if you allow it to trigger outside regular trading hours, which in TWS is the Allow order to be activated, triggered or filled outside of regular trading hours setting, but pre-market books are thin, so the gap problem from case 2 is the normal case. Why your stop loss did not trigger in the pre-market walks through it with the IBKR settings.

How bad can a stop-market fill get?

Usually a few cents. On extreme days, much worse. The joint CFTC and SEC staff report on May 6, 2010 found that over 20,000 trades across more than 300 securities executed at prices more than 60% away from their values just moments before. It also describes retail stop-loss and market orders that were converted to limit orders and re-priced lower and lower, until they reached unrealistically low bids. Those trades were later broken, but you cannot plan on that.

That is the case for the stop-limit: it puts a floor under the worst fill. The case against it is case 2 above, which happens far more often on small caps than a flash crash does.

Which one protects you?

Our view, for a long-only day trader in US small caps:

The common mistake is the tight stop-limit: a stop at 7.95 and a limit at 7.94 or 7.93. It feels precise. In practice it is the order most likely to leave you holding a falling stock.

How IBKR triggers and handles stops

Three details from Interactive Brokers' order types page matter for both orders:

• Simulated orders. IBKR may hold stop and stop-limit orders on its own system and send them to the exchange only when triggered. Your stop is not on the exchange's book until then.
• Data filters. IBKR warns that simulated orders depend on market data and may ignore last-sale prints outside the bid and ask, which can affect when a stop triggers.
• Trigger methods. You can choose how a stop is triggered: on last price, on the bid or ask, or doubled versions that need two prints in a row. The SEC bulletin notes that firms differ here too: "Some brokerage firms use only last-sale prices to trigger a stop order, while others use quotation prices."

How to place each one in TWS

IBKR's lesson shows both in the Mosaic order entry panel. This video from Interactive Brokers walks through creating a stop and a stop-limit, and where they appear in the Activity panel:

Watch6:38

1. 01

   Select the position and choose Sell

   Pick the stock, click Sell, and set the quantity to the shares you hold.

2. 02

   Pick the order type

   In the Order Type drop-down, choose STP for a plain stop or STP LMT for a stop-limit.

3. 03

   Set the prices

   For STP, enter the stop price below the market. For STP LMT, enter the stop price and, in the extra limit field, a limit price below it. On a small cap, leave a real gap between them: 15 to 30 cents, more on a pricier stock.

4. 04

   Check time in force and outside RTH

   Leave DAY or choose GTC. If the stop must work before 09:30 or after 16:00, it has to be STP LMT with outside regular trading hours allowed.

5. 05

   Submit and confirm

   Review the preview and transmit. The order shows on the Orders tab in the Activity panel.

To put the stop on at the same time as the entry, use a bracket order on IBKR. For where the stop price itself should go, see stop loss placement, and for orders that follow the price up, trailing stops. The full set of order types is in order types for day trading.

Where Scalpel fits

Scalpel does not use either order for its stops. It keeps the stop in the app, watches every trade print, and when price trades at or through your stop it sends a marketable limit sell: in LIVE, priced 5 cents under the last trade and flagged for extended hours, so it is accepted at 07:52 the same as at 11:00 (how stops work).

It sits between the two orders above. Like a stop-limit, the exit has a limit, so it will not sell at any price. Unlike a fixed stop-limit, it is priced off the trade that broke your stop, not a number set in advance, and if price trades under the limit, or the exit sits unfilled for 5 seconds, Scalpel cancels it and sends a new one under the latest trade, at 5 cents or about 1% under it, whichever is lower, up to 5 times (pre-market stops). This short video shows the stops and targets:

Watch1:49

ORDERS & POSITIONS

PositionsOrdersNET P&L-$100.00

ORDERS

TIMEQTYSIDEFILLFEESTATUS

07:52:32400SELL0-Working

07:52:31400SELL0-Cancelled

07:41:07400BUY5.501.40Filled

ABCD stopped out (working stop)

The limits, plainly. The stop only works while Scalpel is running and connected with a live feed and the symbol on a desk; a broker-side stop keeps working with your computer off. A halt still stops it, as it stops every order. And no fill is guaranteed: after 5 re-prices Scalpel leaves the last order working and tells you to check it in TWS.

Trading carries a significant risk of loss. Nothing here is financial advice.

Questions

What is the difference between a stop limit and a stop market order?

Both trigger at your stop price. A stop-market then sends a market order, which fills at whatever price the book offers. A stop-limit sends a limit order, which never fills worse than your limit but may not fill at all if price gaps past it.

Is a stop limit or stop market better for day trading?

In regular hours, a plain stop or a stop-limit with a wide limit, so you get out in a gap. Before 09:30 ET only a stop-limit can work, because market orders are not accepted. A tight stop-limit is the order most likely to leave you holding a falling stock.

Can a stop-limit order not execute?

Yes. If price falls through both your stop and your limit before the order fills, the limit order sits above the market unfilled, and you still hold the shares.

Does a stop loss guarantee my exit price?

No. A stop-market guarantees an attempt to fill, not the price, and the fill can be well under the stop in a gap or after a halt. A stop-limit guarantees the worst price, not the fill.

Do stop orders work during a trading halt?

No. Nothing trades during a halt, so no stop can fire. When the stock reopens, a stop-market sells at the reopening prices, which can be far below the stop, and a stop-limit with a limit above the market does not fill.