Understanding Closing Orders in the Stock Market

There are several types of closing orders available to stock market investors. The type of order that an investor will decide to use depends on the type of trade and the expected rate of return. Typically, the orders instructed to a broker involve the execution of a buy or sell order at a certain price, known as the stop price, as soon as the market price reaches that price. This is known as a stop order.

Investors who place a closing order do so to anticipate potential profit or loss from the market's volatility. In particular, closing orders protect investors from losses against price drops as they take place when the stop price is reached and the buy or sell order is executed above or below stop price.

A stop loss order is placed when investors want to stop the drop of the share price below a certain price. For instance, if an investor holds 100 shares of company X and expects that the share price will rise above $20 that is the purchase price, he may set a stop loss order at $15 to protect the investment. If the share price falls to $15, the stop loss order will be automatically executed and the stock will be sold at the prevailing market price.

A stop buy order is placed when investors want to minimize losses from the rise of the share price above a certain price. For instance, if an investor holds 100 shares of company X and expects that the share price will fall below $20 that is the purchase price, he may set a stop buy order at $25 to protect the investment. Worst case scenario if the price rises to $25 will be to lose $5 per share. So, the losses are minimized as soon as the market price reaches a certain price. Besides, a stop order offers the flexibility to adjust the order according to price changes. For instance, if the price rises to $26, the investor may cancel the stop order of $25, ensuring a loss of $4 per share instead of $5. The stop order can continue to be adjusted until the price falls to $20 and the stop order is executed.

The stop loss order is also referred to as stop sell order because investors place it to liquidate their long position. Similarly, the stop buy order is also referred to as stop buy order because investors place it to liquidate their short position.

Closing orders are generally used by savvy investors who seek for a quick response to stock price movements. With this investment strategy, investors do not have to worry for sharp market fluctuations that will cause their profit to lose. On the other hand, closing orders required special attention when it comes to short-term market fluctuations because if the market is extremely volatile the market price may be different than the stop price as the stop order may not be adequately adjusted.

Finally, closing orders are mostly used on exchanges than on over-the-counter markets (OTC). Typically, stock exchanges are more volatile than OTC markets and the intensity at which market prices change intrigues investors. However, if many closing orders are placed for the same stop price, the share price may fall sharply and really quickly.