Trader’s Dictionary — ELI5 Part 3

Advanced Order Types

In the last Trader’s Dictionary, we went over the basics of different order types and how to execute them on the exchange. These were simply the very basics — limit, market, stop-loss. There are still many different order types and variations to learn about, so, as promised, we’ll go over four more in this post: Stop-Limit Orders, Trailing Stop Orders, Post Only Orders and OCO Orders.

What more can be learned about order types?

Disclaimer:

This information is meant for educational purposes only, and should not be taken as investment advice.

1. Stop-Limit Orders (Stop-Entry)

A stop-limit order is an order that combines the features of a stop order and a limit order. A stop-limit order will be executed at a specified price, or better, after a pre-designated stop price has been hit. Once this price is hit, the stop-limit order becomes a limit order to buy or sell at the set limit price or better.

Here’s a quick example of how a stop-limit order is used for opening a position:

You’re looking at an ETH/USD pair and you’re thinking to buy. The price is currently $700, but you want to be sure that you’re getting into the right position. You notice a resistance level at $710, so you don’t want to buy prematurely in case the price gets rejected at resistance. You also don’t want to miss out if resistance is broken and the price flies past it. In this situation, you can set up a stop-limit order. You set your stop at $5 above resistance and your limit at $10 above resistance. Now, if the price breaks through that $710 support and hits $715, your stop is hit which triggers the placement of your limit order at $720. When the price reaches your limit order, the position is opened.

This works the same for selling. Say the price of ETH is currently $700, and you believe it’s trending down. You want to sell, but you don’t want to sell into support at $680. Still, you don’t think that support will hold. Instead of risking it, you simply place a stop-limit with your stop set $5 below support and your limit at $10 below. Once support breaks down to $675, your limit order will be triggered at $670.

Note: Setting stop-limit orders above resistance or below support should be done at price points that feel right to the trader. The $5 and $10 examples here are meant as just that — examples.

2. Trailing Stop

A trailing stop is a stop order that can be set at a defined percentage away from an asset’s current market price. A trailing stop is placed for a long position below the asset’s current market price. For a short position, it is set above the current price. A trailing stop is designed to protect gains by enabling a trade to remain open and continue to profit as long as the price is moving in the investor’s favor but closes the trade if the price changes direction by a specified percentage. A trailing stop can also specify a dollar amount instead of a percentage.

To give an example that is easy to follow, let’s use a trailing stop specified by a dollar amount:

In this scenario, you are in a long position on ETH/USD. Your entry is at $700, and the current market price is at $730. Your trade is currently up $30, and you are in profit. In order to maximize the amount of profit you will realize when this trade is closed, you can set a trailing stop at -$5 to the current price. That means the stop opens $5 below that price — in this case, $725. With each dollar up the price goes, your trailing stop moves up with it. If the price moves up to $735, your trailing stop follows at $730. If your trade continues to move up to $743, your trailing stop follows at $738. As you’ve set your stop to -$5, it will always stay $5 behind the current market price if that price continues to move up. So while in a long, your stop may move up with the price, but it will never move down. If the price hits $743, moving your stop up to $738, your stop will remain at $738 if the price falls to $742 or lower. If the price falls all the way back to $738, your position will be closed, securing your $38 profit from the long.

As with all other orders, the same works for a short position. In the case that you are in a short from $700 with a current market price of $670, you will want to set your stop to trail $5 above the current price. This means that instead of setting your trailing stop for -$5, you’ll simply set it for $5. Upon placing the trailing stop order at the current price of $670, your stop will begin at $675, moving down with the price — or closing your position if the price moves back up.

Trailing stops are a great tool for securing profits, but they also run the risk of closing your out of a profitable trade prematurely, as market volatility can often cause price to swing up and down even as it is trending. For this reason, using a trailing stop, you will want to find at trailing price that you are comfortable with. One that is not too close to the current market price, as my $5 example may be, but also one that is not so far away that if the price pivots back in the direction of your entry, you end up missing out on potential profits once the trade is closed.

3. Post Only

A post only order will never immediately execute into existing bids or offers on the orderbook. This order type is used to ensure that you will not pay a “taker” fee while trying to get filled during volatile price action. If the order triggers at a price that would otherwise cross the orderbook and execute into existing orders, it will simply be cancelled rather than filling.

Post only orders may also be useful when price action is slow. In this case, you may be trying to set a limit order at the front of the book. Often times there will be hidden orders at the front of either side of the book. If you intend to place a limit order at the front of the book and there is a hidden order at your desired entry price, you will end up buying or selling into this hidden order, causing you to incur a taker fee. By setting this order as “post only,” you avoid this risk entirely. If there is no hidden order, your order will post as usual. If there is a hidden order, your order will immediately be cancelled.

This kind of flexibility is important in systems where there is a significant benefit to “maker” orders, such as low fees or even rebates.

4. OCO (One Cancels the Other)

A one-cancels-the-other order (OCO) is a pair of orders placed with the condition that if one order executes, the other order is canceled. An OCO order combines a stop order with a limit order on an automated trading platform. When either the stop or limit price is reached and the order executed, the other order automatically gets canceled.

These are most useful when setting risk/reward targets for your trade. With OCO, you can place a take profit and a stop loss on the same position without fear that if one executes and you are not there to manually cancel the other, an undesired position may open.

Say you are in a long position at $800. You set a stop loss to sell your position at $750 if the trade moves against you, and a take-profit to sell your positon in profit at $900. By using OCO for these two orders, when one gets filled, the other gets cancelled. This means that if your take-profit order is filled at $900, and the market falls back down to $750, you won’t be unintentionally opening a short position at this lower price. Without OCO, these unintentional fills can occur if the opposing order isn’t manually closed. This can result in disastrous losses.

Follow for further Trader’s Dictionary — ELI5 posts

Missed the last ones? No worries — check them out here:

Trader’s Dictionary — ELI5, Part 1.

Trader’s Dictionary — ELI5, Part 2.

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