The stock market holds both major rewards as well as significant risks for any trader or investor – therefore, in order to navigate this space, the latter must come with various strategies that balance both risk and reward. In this context, cover orders are an effective tool in the hands of traders to make sure that the maximum possible risk is limited and predefined. This allows the trader to automate their trading strategy for that particular asset and focus on other orders and strategies.
What is a cover order
A cover order is an unique order type where the trader places two different orders at the same time. One order would be either to buy or sell the stock and the other order would be a stop loss, thus allowing the trader to place the two orders simultaneously. By doing so the trader is safeguarded in limiting a potential loss that could be incurred on a position.
In other words, a cover order is made of two orders or ‘legs’ – the main leg and the secondary leg. The main leg is the primary position (i.e. buy/sell) and the secondary leg is meant to square off the position automatically to limit the losses through a stop loss order.
The cover order facility is only available for intraday orders. Upon choosing the order, you will be asked to provide the trigger price and limit price following which you can place the order.
This method is essentially used by intraday traders and hence It is vital to note that all Cover Orders must be squared-off before 3:10 p.m. every day.
Example of Cover Order
Suppose a stock is currently trading at ₹ 200.
If your main leg is a sell order, you can set a limit order of ₹ 210 (usually a better/higher price than the market price) – the app will sell the stock when price reaches ₹ 210 or above (better). Then your secondary leg can be a stop-loss order set at ₹ 212 (the price at which the stock will be bought back to limit losses). So your potential losses will be limited to ₹ 2 while maximum gain will be ₹ 210 (in case stock price falls to ₹ 0).
If your main leg is a buy order, you can set a limit order of ₹ 190. Then your secondary leg can be a stop-loss order set at ₹ 188 (the price at which the stock will be sold off to limit losses). Your potential losses will be limited to ₹ 2 while maximum gain will be unlimited.
Benefits of Cover Order
Using a cover order has the following benefits for a trader –
- The whole mechanism is completely automated, thereby allowing you to focus on the strategy aspect of the order rather than the execution of the same. The trader does not have to keep looking at the charts again and again under stress regarding whether the price has hit the required level or not. Neither does the trader have to remember the target prices of each leg, especially when the total number of orders, or assets, or strategies being handled at the same time is high.
- The entire order can be entered in one go on the same orderpad – in other words, the buy/sell order and the stop loss order does not have to be set separately.
- It allows the trader to know exactly what amount is the risk and what is the potential gain – in other words, the risk to reward ratio becomes quite transparent to the trader.
- Because of the automation, the order mechanism will act much faster and will execute the order exactly at the target price – something that may not have been possible to do manually.
- Due to the reduced risk, some stockbrokers offer a higher leverage to traders for cover orders than for simple/naked buy/sell orders.
The cover order feature allows the trader to perform a much larger number of low-risk trades without much stress or effort. It has the potential to increase the number of people engaging in stock trading manifold due to the ease of use, automation and clarity that it provides.
For example, an office worker who remains busy throughout the entire period of trading hours can easily place a cover order and not look at the market position at all, despite all fluctuations as he/she knows that the cover order mechanism will take care of the trading the moment the target prices are hit.
Thus, It will allow many non-traders to start engaging in stock market trading, thus increasing the liquidity in the market as well as the share prices in general.
Important features to note
- In Angel One, you can place a cover order for only a particular set of segments (i.e. equity cash and F&O) and within a particular period of time (i.e. 9:15 am to 3:30 pm). That being said, you can modify the order or even cancel it (as long as it is an open order) .
- Since cover orders are intraday orders, if the first leg, that is the limit order, does not get executed before market closing on the same day, then the system will automatically cancel the entire order by the time market closes for that segment.
- Moreover, if the first leg gets executed, but the second leg, i.e. the stop loss order does not get executed, then again the system will cancel the stop loss order at the closing time and also automatically square off your position at the market price at the same time.
- If both the legs get executed, but the price of the asset rises to a new high later that day, you will still have booked losses because your stop loss had been triggered and thus your assets had been all sold already.
Therefore we can see that cover orders are an excellent tool for buying/selling any asset in the market, be it stock or commodity. If you want to avail more such exciting order facilities, try to open demat account with Angel One, India’s trusted online stockbroker.