What is a Buy Stop Order?

A buy stop order directs a broker to buy a security immediately when the strike price is higher than its current spot price. When the price reaches that point, the buy stop order turns to a market order, and can be employed at the bid price. The market order is applicable to stocks, forex, derivatives or various marketable instruments. The buy stop order plays a major role that assumes a share price that rises to a certain height continues to rise proportionally.

How Does a Buy Stop Order Work?

A buy stop order is used as a tool to prevent massive losses of an unprotected short position. An investor is willing to gamble on that short position in the hope that the security will decline in price. In case of such a scenario, the investor is prompted to buy cheaper shares so as to have big profit margins among the short sale and sought for a long position. The investor can place a buy stop order with the aim of protecting against a rise in share price so as to cover the short position at a price that curbs losses. The buy stop is often referred to as stop loss order for its role of resolving a short position. The short seller is allowed to place their buy stop order at a strike price lower or higher than their initial point of opening their short position. In case there is a drastic price decline the investor may opt to protect his profits against future upward movement by placing the buy stop below its initial opening price. An investor with the aim of avoiding disastrous loss from significant upward movement will open a buy stop order above its initial short sale price. The above described strategies normally use the buy stop so as to protect against a buoyant movement in a security. Another un-common strategy use the buy stop to gain profit from the expected rise in the share price. Technical analysts usually opt for the resistance and support for a stock. The unpredictable price may go up and down but on the high end grouped by resistance and on the low end by support. These are usually referred to as price ceiling and a price floor. Some investors predict that a stock that gradually climbs above the line of resistance is referred to as a break out and, still it continues to climb. In regard to this case a buy stop order is useful in profit making. Therefore, an investor will open a buy stop order just above the price ceiling in order to get available profits once a breakout has taken place. A stop loss order can as well protect against future decline in share price.