What is a limit purchase order?
A buy limit order is an order to buy an asset at a price less than or equal to a specified price, allowing traders to control how much they pay. By using a limited buy order, the investor is guaranteed to pay this price or less. Although the price is guaranteed, filling the order is not. If the asset does not reach the specified price, the order is not executed and the investor may miss the trading opportunity. In other words, by using a limit buy order, the investor is guaranteed to pay the price of the limit buy order or better, but there is no guarantee that the order will be executed.
Key points to remember
- A limited purchase order guarantees the specified price or less.
- A purchase limit is not guaranteed to be fulfilled.
- Limit purchase orders control costs but can result in missed opportunities in rapidly changing market conditions.
- A buy limit order is no better than a stop buy limit order or a market order. All types of commands are useful and have their own advantages and disadvantages.
Benefits of a Limited Purchase Order
A limited purchase order guarantees that the buyer does not get a worse price than he expects. Limit buy orders allow investors and traders to accurately capture a position. For example, a limited buy order could be placed at $ 2.40 when a security trades at $ 2.45. If the price drops to $ 2.40, the order is automatically executed. It will not be executed until the price has dropped to $ 2.40 or less.
Another advantage of a limit purchase order is the possibility of an improvement in the price in the event of a stock shortage from one day to the next. If the trader places a buy order at $ 2.40 and the order is not triggered during the trading day, as long as the order remains in place, he could benefit from a downside spread. If the price opens the next day at $ 2.20, the trader will get the shares at $ 2.20 because it was the first price available at or below $ 2.40. While the trader is paying a lower price than expected, he may want to wonder why the price has dropped so aggressively and if he still wants to hold the stocks.
Unlike a market order in which the trader buys at whatever current offer price, a limit purchase order is placed on a broker’s order book at a specified price. The order means that the trader is ready to buy a specific number of shares of the stock at the specified limit price. When the asset drops to the limit price, the transaction is executed if a seller is willing to sell at the price of the purchase order.
Since there is a buy limit on the book, which means that the trader wants to buy at this price, the order will be offered, usually below the current market price of the asset. If the price goes down to the purchase limit price and a seller deals with the order (the purchase limit order is filled), the investor will have bought at the offer, and thus avoided paying the difference. This can be useful for daytraders looking to capture small quick profits. For large institutional investors who take very large positions in a security, differential differential price orders at different price levels are used to try to get the best possible average price for the order as a whole.
Limit buy orders are also useful in volatile markets. Suppose that a trader wants to buy a stock, but knows that the stock is changing a lot from day to day. They can place a buy order in the market, which takes the first available price, or they can use a limited buy order (or a stop buy order). Suppose the action closed yesterday at $ 10. The investor could set a purchase limit at $ 10, guaranteeing that he will not pay more than that. If the stock opens the next day at $ 11, they will not be filled on the order, but they have also saved themselves from paying more than they wanted.
Disadvantages of Limit Purchase Orders
A limited purchase order does not guarantee execution. Execution only occurs when the price of the asset is lowered to the limit price and a sell order is processed with the limit purchase order. Trading assets at the limited purchase order price is not enough. The trader can have 100 stocks displayed to buy at this price, but there can be thousands of stocks in front of him who also want to buy at this price. Therefore, the price will often have to completely clear the price level of the limit purchase order before the limit purchase order can be filled. The earlier the order is placed, the earlier in the queue, the order will be at this price, and the more likely it is to be executed if the asset trades at the purchase limit price.
Limit purchase orders can also result in a missed opportunity. The price of the asset must be negotiated at the purchase price limit or less, but if this is not the case, the trader does not enter his trade. Controlling costs and the amount paid for an asset is important, but the same goes for seizing an opportunity. When an asset increases rapidly, it may not return to the specified purchase limit price before climbing higher. Since the trader’s goal was to catch up on a higher move, he failed by placing an order that was unlikely to be executed. If the trader wants to enter, at any cost, he can use a market order. If they don’t mind paying a higher price but want to control how much they pay, a stop buy limit order is effective.
Some brokers charge a higher commission for a limited buy order than for a market order. However, this is a largely outdated practice, as most brokers charge a flat fee per order, or a fee based on the number of shares traded (or the dollar amount), and do not charge based the type of order.
Example of a limited course purchase
Apple shares trade at an offer of $ 125.25 and an offer of $ 125.26 when an investor decides to add Apple to their portfolio. They have several choices in terms of types of orders. They could use a market order and buy stocks at $ 125.26 (assuming the offer remains the same and there are enough stocks at that price to fill the buy order at the market) , or they could use a purchase limit at any price of $ 125.25 or less.
Perhaps the trader thinks that the price will drop slightly over the next few weeks, so he is placing a buy order limited to $ 121. If the Apple share is trading at $ 121 (ideally $ 120.99 to ensure that the order is filled), the investor will hold shares at $ 121, a significant saving compared to the price of $ 125.25 / 26 that the investor saw for the first time.
However, the price cannot drop to $ 121. Instead, it can go from an auction of $ 125.25 to $ 126, then $ 127, then $ 140 over the next few weeks. The price increase in which the investor wanted to participate was missed because his buy order at $ 121 was never executed.
If an investor expects the price of an asset to fall, then a buy limit order is a reasonable order to use. If the investor is not afraid to pay the current price, or more, if the asset starts to rise, then a market order to buy a stop order is the best bet.