What does a stop order do when a specific price is reached?

What does a stop order do when a specific price is reached?

• A. Becomes a limit order
• B. Becomes a market order
• C. Automatically cancels
• D. Limits the quantity sold

Answer: (B)

A stop order is designed to trigger a market order once a specified stop price is reached. When the stock reaches that designated stop price, the stop order automatically converts into a market order, which means that it will be executed at the prevailing market price. This mechanism is commonly used by investors to limit potential losses or protect gains in a volatile market. In this context, if the specified price is met, the conversion to a market order allows for immediate execution. This contrasts with a limit order, which would only fill at a specific price or better and doesn't guarantee execution after the stop price has been reached. Other options, like automatically canceling or limiting the quantity sold, do not accurately describe the function of a stop order. Therefore, recognizing that a stop order converts to a market order upon reaching its price is crucial for effective trading strategies in managing risk.

A stop order is designed to trigger a market order once a specified stop price is reached. When the stock reaches that designated stop price, the stop order automatically converts into a market order, which means that it will be executed at the prevailing market price. This mechanism is commonly used by investors to limit potential losses or protect gains in a volatile market.

In this context, if the specified price is met, the conversion to a market order allows for immediate execution. This contrasts with a limit order, which would only fill at a specific price or better and doesn't guarantee execution after the stop price has been reached. Other options, like automatically canceling or limiting the quantity sold, do not accurately describe the function of a stop order. Therefore, recognizing that a stop order converts to a market order upon reaching its price is crucial for effective trading strategies in managing risk.