Limit Order

Every trader in the financial market aims to buy and sell assets at the most favorable price, meaning they want to make a profit, not incur losses. Prices are determined by market mechanisms that follow strict trading rules. However, not all ways of entering the market make it possible to achieve this. The most optimal option for doing so is considered to be a limit order.

What Is a Limit Order and How Does It Work?

A limit order is an instruction that a trader issues to a broker to buy or sell a certain amount of an asset once the market price reaches a specified level. A limit order always includes two parameters:

The price at which the trader wants to complete the purchase or sale. This price is usually better than the current market price, with fluctuations within the minimum price steps allowed by the trading platform.
The planned volume of the transaction. The main advantage of a limit order is that entry into the market occurs only at the specified or a better price.

A limit order is executed only when the market price reaches the specified level.

These nuances are the main differences between a limit order and a market or stop order. The last two types of orders are executed at the current price, either at or worse than it.

Note: Each limit order is displayed in the order book (known as Level 2 on American exchanges). An order to sell is called an ask order, and an order to buy is called a bid order.

In a typical order book display, sell orders are located in the upper section, while buy orders are displayed in the lower section.

Types of Limit Orders and Their Execution

Exchange trading operates with two types of limit orders:

Sell Limit Order. Placed above the current market price, it is executed when the rising price reaches the specified level, opening a short position.
Buy Limit Order. Placed below the current market price, it is executed when the price drops to the specified level, opening a long position.

Note: There is no guarantee of execution for a limit order. If the price never reaches the required level, the transaction will not be completed, and the order will remain in the order book. Only the trader can cancel the order; it will not be deleted automatically.

Examples of How Different Limit Orders Work

A limit order is triggered only when there is a counter-market order. In this case, it may be partially executed.

For example, a trader calculated that he would need to sell 10 lots of Company A shares at a price of $1,200.

The current order book shows the best bid at $1,100 and the following ask prices:

$1,150 — 5 lots.
$1,175 — 3 lots.
$1,200 — 2 lots.

The trader places a limit order for 10 lots at $1,200. The upper part of the order book will now look like this:

$1,175 — 5 lots.
$1,195 — 3 lots.
$1,200 — 12 lots.

Another trader places a market order for 12 lots. The order is executed at the best available prices. The buyer receives 5 lots at $1,150, 3 lots at $1,175, and the remaining 4 lots at $1,200 — 2 lots from a previous order and 2 lots from the trader’s new order (which is partially executed).

How Is a Limit Order Used in Trading?

A limit order is used to:

Enter the market — buy or sell an asset at a specified or better price.
Lock in profits on open positions. In this case, the limit order is called a Take-Profit order. It follows the same placement and execution rules as any other limit order. It must be remembered that the volume of the order should match the volume of the open position.

Note: A limit order may be partially executed, meaning profits may not be realized for the entire volume of the open position. In addition, the limit order can be part of composite pending orders available on various trading platforms and terminals.

Some traders effectively use the mechanics of limit orders by dividing one large-volume order into several smaller ones. This approach allows them to:

Often execute the full transaction volume at a better average price than if it were a single large order.
Maintain flexibility in managing positions in case of a price rebound by placing bids at more favorable levels.
Enter the market quickly.
Avoid causing major price disruptions.

At the same time, a limit order provides two significant advantages:

It ensures execution strictly under the conditions of the trading system used, since the order is filled at the specified or better price.
It eliminates the need for constant market monitoring.

After submission, the limit order is stored on exchange servers, and if the market moves to the specified level, it will be executed automatically.

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