A limit order is an instruction to buy or sell an exchange-traded security, such as a stock or ETF, at a specified price or better. Where a market order prioritizes immediate execution, a limit order prioritizes price. If speed is the main priority, a market order is the better option.
Price over speed
A limit order allows an investor to target a specific price when they believe a security is currently overpriced (if buying) or underpriced (if selling). Any price can be selected, but the further the limit price sits from the current price, the longer the investor may wait for the order to execute. In some cases, it may never execute at all.
For example, consider a stock trading at $100. An investor could place a limit order to buy it at $50. The order is valid, but it will only fill if the stock actually falls to that level. How long the investor is willing to wait is an important consideration when using limit orders.
A limit order does not guarantee execution. The trade will only fill if the market reaches the specified price. If it does fill, however, the investor is guaranteed to receive that price or better. It is also worth noting that if the limit price is already available on the market at the time the order is placed, it will execute immediately.
Buying and selling
Limit orders work differently depending on whether you are buying or selling.
Buying: A buy limit order is placed below the current ask price. The investor is willing to purchase the security, but only at a lower price than what sellers are currently asking. This approach is common when the investor believes the security is overvalued and expects the price to pull back.
Selling: A sell limit order is placed above the current bid price. The investor is looking to sell at a higher price than what buyers are currently offering. This is typically used when a seller wants to wait for the price to increase before locking in a profit.
Getting a better price
When a limit order does execute, it will always fill at the specified price or better. For a buy order, "better" means a lower price than the limit the investor set; for a sell order, it means a higher price. This can happen when the market moves in the investor's favour between the time the order is placed and when it fills. For example, an investor who sets a buy limit at $95 could end up paying only $92 if the stock continues to fall before the order is matched.
Order duration
When placing a limit order, the investor must specify how long the order should remain active. Most brokerages offer three standard options.
Day: The order remains active until the market closes. If the limit price is not reached before end of day, the order is automatically cancelled.
Good 'til cancelled (GTC): The order stays open until it is filled or manually cancelled. Most brokerages will automatically cancel GTC orders after 90 days to prevent old orders from being forgotten and unexpectedly executed.
Good 'til date (GTD): The investor selects a specific expiry date. The order is cancelled at the end of the day on that date if it has not been filled.Summary
A limit order is used when an investor wants to buy a security below its current price, or sell above the current price. It prioritizes price over speed and will only execute if the security's price reaches the specified level. If it does execute, the investor is guaranteed to receive that price or better. Investors must set an order duration when placing a limit order. If the price isn't reached within the time frame they specify, the order is unfilled and cancelled.
