Individual investors use several different techniques to reach their financial goals. The simplest objective is to buy shares of a stock, bond, or mutual fund at a low price and then sell for a higher price sometime in the future. Tools such as warrants, calls, and limit orders, are helpful. Investors who use limit orders to actively manage their portfolios use a few different techniques.
A limit order is one of the most common ways individual investors attempt to control the price they pay or sell a stock for in the open market. A limit order is scheduled to buy or sell a specific number of shares at a price predetermined by the investor. The system of limit orders can be advantageous for an investor who has a good understanding of the market, or for someone who trusts their instincts.
Sell Limit Order
Suppose for example that an investor believes that a particular stock will be in high demand within the next several hours, days, or even weeks. Rather than constantly watching the activity and stock price, an investor may choose to issue a limit order to sell the stock.
In order to select a profitable sell price, an investor will calculate their cost basis. This is the average price they paid for all the shares of this particular stock in their portfolio. The investor will then determine how many shares they wish to sell and name their price, internally gauging potential demand for the stock. A limit order is good through its expiration date and guarantees that each share will sell for the limit price, or better, indicated by the investor.
Buy Limit Order
When an investor believes that the price of a stock will fall or rise rapidly, they may want to issue a buy limit order. This is generally the case for rising stock prices, when an investor wants to get a good price before the demand causes a sharp uptick in activity. However, investors often gamble on plummeting stock they believe will rise again. A buy limit order helps the investor pay no more than the preset price in their scheduled offer.
Limit orders only restrict buy or sell prices of a particular stock. While an investor will never pay more or sell for less than their limit order, it does not guarantee an order will be filled.