When you buy or sell stocks, there are two types of orders you can place:
* A market order obligates you to buy or sell at the current trading price.
* A limit order puts a cap or a floor on your trading price.
Savvy investors may prefer to use limit orders. Suppose, for example, you like a company’s prospects but you think the current $40 trading price is too high. You could enter a limit order at, say, $30. If the stock falls to that price, you’ll buy it. Thus, if you can be patient, a limit order may allow you to purchase that stock at a favorable price.
Limit orders also can be used on the sell side. You might, for example, set target prices for stocks you own, placing limit orders to get out at those prices.
At the same time, you can place stop-loss orders. Say you buy a stock for $30; you might want to enter a stop-loss order at $25, to limit your downside in the stock. Many investors are reluctant to take losses so using stop-loss orders can be an effective way of removing emotional barriers. You can sell, take a tax loss, and reinvest in another stock that may offer better prospects.