So, you're all set to dive into the world of investing. As an investor, you might come across some unfamiliar terms, especially if you're just starting out. One of them could be "limit order." Whether you're new to investing or have been doing it for a while, you might be wondering "what is a limit order?"

But don't worry if you're not sure what it means! We're here to help you understand the concept in a simple and easy way. Let's do this!

What is a limit order?

Think of a limit order as your personal price tag for buying or selling shares. It's like setting a budget and saying: "I'll only buy this stock if it's priced at $X or lower" or "I'll only sell this stock if it's priced at $Y or higher."

With a limit order, you can set that specific price. If the stock's price drops to that level, your order will be automatically executed. This way, you'll get the stock at the price you wanted.

How does a limit order work?

When you place a trade to buy or sell a stock, you have two main options: market order or limit order. A market order means you'll buy or sell the stock at the current market price, whatever it may be. But, a limit order lets you set a specific price at which you want to buy or sell the stock.

Imagine you want to buy shares of a company called XYZ Ventures. (Note: XYZ Ventures is a made-up company for this example.) Right now, those shares are being sold for $50 each. But you don't want to pay more than $45 for them. What you can do is set a limit order for $45. If the stock reaches that price, your order will be executed.

Advantages of limit orders

There are several possible benefits to using limit orders in your investing journey.

1. Limit orders give you more control over your trades. You can actually choose the price at which you want to buy or sell a stock. It's like setting your own price tag! With limit orders, you can make sure you don't end up paying more than you're comfortable with or selling for less than you want.

2. Limit orders allow you to set target prices for buying or selling shares. For example, you're eyeing a stock that's currently trading at $100, but you only want to buy it if it drops to $90. You can then set a limit order for $90.

If the stock reaches that price, your order will be executed. This potentially allows you to buy at a lower price and increase your potential profit.

3. Limit orders can protect you from making hasty decisions based on short term ups and downs in the market. By setting a specific price for buying or selling a stock, you can avoid letting emotions take over in the heat of the moment.

All in all, limit orders are a handy tool that allows you to set specific prices for buying or selling shares. Because of this, you have more control over your trades. This can eventually help you save money, and make more informed decisions in your investment journey.

What is a stop order?

Let’s say you’re thinking of automating your buying or selling decisions based on specific conditions you set. This is when a stop order comes in. A stop order is a type of instruction you can place when trading shares in financial markets.

For example, imagine you bought some shares of a company like XYZ Ventures. Now, you want to sell them if the price goes higher than a certain point to make a profit. You can set a "sell stop order" at that specific price. If the stock price reaches that level, your order will be automatically executed, and your shares will be sold. This can help you lock in your profits and make sure you don't miss out on potential gains.

But let's say you want to buy more shares of XYZ Ventures only if the price goes below a certain point. This time, you can set a "buy stop order" at that specific price. If the stock price reaches that level, your order will be automatically executed. You'll be able to buy more shares at a lower price.

There's also another type of stop order called a "stop limit order." A stop limit order works like a regular stop order, but it involves setting two prices - a stop price and a limit price.

The stop price is the point at which the order becomes active. On the other hand, the limit price is the minimum or maximum price at which you're willing to buy or sell the shares. This way, you have more control over the price at which your order gets executed.

Keep in mind that stop orders are not guaranteed to be executed at the exact price you set, especially in fast-moving markets. The order will be executed at the best available price at that moment.

Also, be aware that stop orders are not foolproof and may not protect you from all risks. It pays to understand how they work and use them wisely as part of your investment strategy.

What should you know about limit orders before you start investing?

Limit orders occur when you set specific prices for buying or selling shares. It's important to know there are risks involved with limit orders. Understanding how they work can help you make informed decisions and avoid any potential pitfalls.

One risk of using a limit is when your order won't go through if the stock doesn't reach the price you set. That means you might miss out on buying the stock if the price doesn't reach your limit. Knowing about this possibility can help you when setting your limit price. It's a good idea to note the current market conditions and the stock's price history to make informed decisions.

Another risk of using a limit order is that the stock may quickly surpass your limit price, causing you to miss out on potential gains. This occurs because the market can sometimes move too fast. When this happens, your order may not be filled if the stock price surpasses your limit before your order is executed.

It's important to use limit orders wisely by thinking about your investment goals and what's happening in the market. Educating yourself goes a long way in making informed investment decisions. Keep learning about different ways to use limit orders to help you arrive at smart choices.

Ways to use limit orders in investing

Although there may be many different ways to use limit orders in investing, let's break down a couple of ones to get you started.

1. Set realistic limit prices. When you're using limit orders, make sure you pick prices that make sense based on what's going on in the market. Think about things like the stock's current price, how it's done in the past, and what's happening in the market.

Try not to set limit prices that are too far from the stock's recent prices. Doing so might make it harder for your order to go through. Choosing realistic limit prices can increase the chances of your orders getting filled.

2. Consider liquidity and volatility. Before using limit orders, it's crucial to consider the liquidity and volatility of the stock you're trading.

Liquidity is how easy it is to buy or sell a stock without messing up the price. If a stock has lots of buyers and sellers, it's considered liquid. Shares like these are good for using limit orders because it's more likely that your order will go through.

Volatility is how much a stock's price changes. If a stock's price swings a lot, it's considered volatile. Shares like these can make it harder for your limit order to happen because the price can change a lot.

It's important to keep liquidity and volatility in mind when you're picking your limit prices.

3. Use different types of orders. It's a good idea to diversify your trading strategies by using different types of orders in conjunction with limit orders.

For example, you can use market orders when you want to buy or sell a stock at the current market price, regardless of the limit price. This can help you take advantage of immediate price movements.

Using different types of orders, like limit orders, can give you more flexibility when you're trading in the stock market. It helps you adjust to changes in the market if necessary.

4. Regularly review and update your limit orders. It also helps to check and update your limit orders regularly as the financial markets are always changing. Keep an eye on the stock's current price, news, and other factors that might affect your orders.

If needed, you can adjust your limit prices to match your investment goals and the current market conditions.

Do limit orders matter for long term investors?

As a long term investor who plans to hold shares for a long time, you might be curious if limit orders are useful for your investment strategy. Well, the good news is that limit orders can actually be beneficial for long term investors too!

Limit orders let you take advantage of short term price changes by setting a specific price at which you want to buy or sell a stock. This means you can buy shares at a lower price or sell them at a higher price.

In the long run, this can potentially help you make more money from your investments. This is one of the many ways you can maximise your returns as a long term investor.

Another benefit of using limit orders is that they can help you minimise transaction costs. When you place a limit order, you specify the price at which you want to buy or sell a stock. If the stock doesn't reach that price, your order won't be executed, and you won't incur any transaction costs.

Using limit orders can also help you maintain disciplined investment behaviour. As a long term investor, it's important to stick to your investment plan. It's easy to get caught up in the short term market ups and downs. But it's crucial to remember your investment strategy and stay focused on your long term goals.

Scenarios where limit orders can be useful for long-term investors

1. Dollar-cost averaging. Let's say that you want to invest in shares on a regular basis over time, regardless of short term market fluctuations. Using limit orders allows you to set specific price points at which you want to buy.

For example, if you want to buy shares of a stock every month, you can set a limit order to buy at or below a certain price. In doing so, you can average out your purchase price over time.

Dollar-cost averaging can have significant benefits when done properly. It could help save you money, and avoid making impulsive decisions based on short term market changes. You may consider this strategy if you want to stay steady and focused on your investment plan.

2. Rebalancing. As a long term investor, you may want to maintain a balanced portfolio allocation. This means making sure you have the right mix of different types of shares.

But sometimes, the value of certain shares may go up, which can throw off your balance. This is when limit orders might come in handy. You can set a specific price at which you want to sell those shares, so you can lock in any profits and get your portfolio back on track.

3. Tax management. Limit orders can be useful when preparing for tax time. By setting specific prices at which you want to sell shares, you can minimise capital gains taxes.

If you're worried about keeping track of all the calculations and paperwork when it comes to tax management, don't worry! You can use the ATO's CGT calculator and record-keeping tool to help you out. It's a handy resource that can make things easier for you as you start your investment journey.

4. Mitigating emotional bias. Sometimes, our emotions can get in the way of making investment decisions. But with limit orders, you can avoid letting your emotions take over.

You can set specific prices at which you want to buy or sell, and the order will happen automatically when the market reaches that price. It's a great way to stay disciplined with your investing and not let emotions drive your choices.

In a nutshell, limit orders are a powerful tool for first-time and long term investors alike. They allow you to set specific prices at which you want to buy or sell shares, providing you with more control over your investments. These features of limit orders may help you save money and maintain a disciplined investment approach in the long run.

Limit orders could be a helpful tool in reaching your investment journey. But remember, it's important to do your research and see how they align with your investment goals. Take the time to understand how they can benefit you. This way, you can make informed decisions based on what you want to achieve with your investments.

Happy investing!