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Difficulty: MediumTypes of Orders and Order Execution Strategies

An investor sells short 300 shares of Omega Corporation at 42pershare.Tolimitpotentiallossesifthestockpricemovesupward,theinvestorplacesaBuyStoporderat42 per share. To limit potential losses if the stock price moves upward, the investor places a Buy Stop order at 48. Later during the trading day, Omega Corporation stock trades at $48.15. Which of the following statements correctly describes how this order will be handled?

  1. The order is triggered once the stock trades at or above $48.00 and becomes a market order that executes at the next available market price.Answer
  2. B
    The order is triggered at 48.00andguaranteesanexecutionpriceofexactly48.00 and guarantees an execution price of exactly 48.00.
  3. C
    The order is activated at 48.00andcanonlybeexecutedat48.00 and can only be executed at 48.00 or lower.
  4. D
    The executing broker-dealer must fill the order directly from its proprietary inventory at $48.00 regardless of current market quotes.

Answer

The order is triggered once the stock trades at or above $48.00 and becomes a market order that executes at the next available market price.
A Buy Stop order is placed above the current market price (often to protect a short position). When the stock trades at or above the stop price ($48.00), the order is activated and immediately converts into a market order, which fills at the next available market price.

Step-by-Step Solution

1
Identify the type of order placed and the investor's goal.
The investor has a short position and placed a Buy Stop order at $48 to cap upside risk.
A buy stop order is positioned above the current market price and is commonly used to protect short equity positions.
2
Determine the trigger (activation) condition for a Buy Stop order.
The order triggers when a transaction occurs at or above the stop price of $48.00.
Since the stock traded at $48.15, the trigger condition is met.
3
Determine the execution behavior after activation.
The order converts into a market order to buy 300 shares immediately at the best available market price.
Standard stop orders turn into market orders upon activation and do not guarantee a specific execution price or cap the purchase price.

Key Concept

Buy Stop Order Mechanics
Estimated Time:1m 0s
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Topics

Types of Orders and Order Execution Strategies