Thursday, July 12, 2007

Limit Orders

Similar to my previous post on the financial-benefits-to-homeownership, I am now making a list of the benefits of limit orders:
  • The market sometimes behaves irrationally - a large institution buying or selling stock can significantly affect the price in the short term. You can place buy limit orders to take advantage of spikes downward in the market and sell limit orders to take advantage of upward spikes in the market. For regular purchasing or selling, this also makes sure you don't get taken for a ride between the time you get a stock quote and the time you press the 'Place Order' button.
  • Options are priced based on the underlying stock value, but they tend to move in $0.10 increments. A buy limit order of $3.50/share will theoretically be executed as soon as that jump takes place, meaning the stock has to move back a smaller amount before it rises to $3.60 (again, theoretically. Also, this doesn't equate to profitability, as there is the ask/bid price spread). A sell limit order has the opposite property, but is still a good thing due to the previous point.
  • Limit vs Trailing Stop: a trailing stop order can result in higher profits if the stop price rises above the limit price. However, the actual execution of the order is a market order, which means it could execute at any price. For instance, I tried a trailing stop on some Google options. The stop value got up to $9.50, but when it finally executed, I only got $9.33. A limit order may miss more profits than a trailing stop order, but the profits are more predictable.
  • Limit orders may not execute, which can be both bad and good. First, you may not have your order execute and your money will sit idle (or you will still own a stock you may not want). But, this makes them ideally suited to conditional orders like one-cancels-all. For example, let's say I have $10,000 to invest. I can place a one-cancels-all order on three different stocks - 20 shares of GOOG @ $500, 133 shares of GRMN @ 75, or 100 shares of IBM @ $100. Given today's closing prices of $544.47, $79.69, and $109.10, none of these are likely to execute - I chose the prices for easy calculations in my head. But, if any of these stocks suddenly (even if only briefly!) becomes an amazing deal, I'd be able to take advantage.
Fewer points here compared to the homeownership post, but they're longer. I have a couple options/earnings strategies I want to flesh out, too, so be looking for that. Hopefully I get around to it soon.

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