Buy limit and buy stop: what is the difference and how to trade with them
March 23, 2023
Buy limit vs buy stop: which is the best order to enter the market? Let’s start to find out with an overview of trading orders, and then delve into the difference between the two.
Advanced trading orders
For those trading on simplified exchanges such as Young Platform, the only way to buy or sell is through the immediate execution of the trade. This is called a market order: it means that the buy or sell order is executed at the next available price in the market, i.e. within seconds.
However, this is not the only way: professional traders rarely use this type of order. Rather, they use buy limits and buy stops: but what are they?
Those who have gained some experience in buying and selling cryptocurrencies and are beginning to understand the basic market dynamics will feel the need for ‘smarter’ orders, which do not require them to wait for a price in order to access an exchange and execute a trade.
Trading in fact needs precise and timely tools, as well as automatic ones. These must be able to be activated under certain conditions, even when we are not connected to the exchange.
This is why limit orders and stop orders exist. These two categories of orders respond to precise time and price indications in order to buy and sell at the most advantageous time. They therefore require more detailed strategies and advanced settings than the market order.
Before finding out the meaning and difference between buy limit and buy stop, it is essential to have already worked out the notions of support and resistance.
These orders are usually used based on the technical analysis traders make on price charts.
Buy limit order: how it works
Before focusing on the difference between the two terms and the uses of each, it is worth analysing them separately. Buy limit order is the term most commonly used to refer to the opening of a position with limit orders. It simply indicates a purchase through limit orders.
Basically, this means that I have opened a buy position, setting the execution price of the trade at a lower price than the current market price.
This price is called the ‘limit price‘ and is generally set so as to make the transaction more convenient in the immediate future.
In other words, buy limit orders are set at a lower limit price than the market price and sell limit orders are set at a higher limit price than the market price.
Unlike market orders, your order will not necessarily be executed. There is, in fact, no guarantee that the cryptocurrency will ever reach your chosen price. In this case, the order will simply remain pending to be executed until you cancel it.
Limit orders normally do not expire, but can be cancelled manually at any time. Some exchanges such as Young Platform Pro, however, allow an expiry to be set via advanced options.
On the other hand, it is possible for your order to intercept a price that is even more profitable than the set price. This occurs if the market moves fast and you create an order very close to the market price.
For example, let’s say the price of BTC is €12,500 and you set a buy limit order at €12,450. If as you place the order the price reaches €12,400, the limit will be executed instantly (like a market order) at this last price. This is because €12.450 was never available, so the closest price is taken as the execution price. Let’s now compare buy limit vs buy stop by explaining how the latter works and highlighting any differences between the two.
Buy stop order: how it works
Just as the buy limit indicates a buy limit order, the buy stop also indicates a buy stop order. Again, only when the cryptocurrency reaches the stop price, i.e. the price you set, will the order be executed. But what is the difference between the two?
The simplest difference between a buy limit and a buy stop is the price set: the stop price is pejorative. In other words, if you want to buy you set it at a higher price than the market price, if you want to sell you set it at a lower price.
Also on a technical level, the stop order is slightly different from the limit. In fact, the stop price is not the guaranteed execution price for a stop order. This is how a stop order really works: the moment the market reaches the stop price, a market order is triggered. This is a subtle but important difference to limit orders, and it is also why we do not find stop orders in the order book: they are basically market order activators.
The execution price of a stop order can therefore deviate significantly from the stop price, especially in a volatile market.
When using buy limit vs. buy stop
With buy limits and buy stops, traders enter the market by opening a position. They do so, however, with a different expectation.
The buy limit order is used when a trend change is expected. This results from the identification of a support line, which is expected not to be broken. Instead, the price is expected to rebound at the support.
Consequently you would set a purchase at a lower price than the current one with the prospect that it would fall and then rise again: profit would be guaranteed in this case.
Stop orders, as can be guessed, respond to the opposite expectation.
You only make a buy stop when you firmly believe you are at the beginning of a price rally: the trend is already positive, and you think it will continue in this way in the short term, even breaking a resistance line.
Execution of the market order at a stop price above resistance will imply a break of the level and thus a probable further price increase that will generate profit.
To better understand this order, let’s make an example. Bitcoin is at €9,500 and I am certain that it will soon rise above the resistance of €10,000. I therefore choose to place a buy stop to buy at a price above the resistance, for example at €10,050.
Why buy at a higher price? If the price rises above resistance, there is a high probability that it will continue to rise. You therefore buy at an inexpensive price now, which later becomes relatively more profitable.
If the resistance is not exceeded, however, the order will not be executed and therefore you will not lose anything.
Of course, this requires great skill in identifying the correct resistance levels, otherwise the sense of the stop order is lost: for example, falling into a bull trap means generating a loss from a buy stop.
It is always a good idea to first practise spotting supports and resistances, simulate these trades to better understand the market and know how to write off losses in the event of a wrong forecast. So who wins in the buy limit vs buy stop challenge? Although the buy limit has more predictable execution characteristics, it is actually the short-term market trend outlook that makes the difference.