BANKING16/03/2022

Types of orders: market order vs limit order

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Types of orders: market order vs limit orderTypes of orders: market order vs limit orderTypes of orders: market order vs limit order

Market order vs limit order. Discover more on Fineco Newsroom.

IN A FEW WORDS

Market orderLimit orderTrading


7 min reading

Market order vs limit order: the difference

If most of what you know about stock trading comes from pop culture, you might think the activity is as simple as clicking on a buy or sell button. If you have delved into the matter more, you might be overwhelmed by the sheer variety of orders and the opaque jargon to describe them: fill or kill, stop-limit order, good ‘til cancelled. But two main types of orders are the bread and butter of every trader: market orders and limit orders.

What is a market order?

Market orders are the most straightforward. They simply tell the broker to buy or sell a security immediately at the current market price. The focus for this order is speed rather than price. In the time it takes to execute the trade, the security may have changed in price since the last time it was transacted, but the trade will move forward regardless at whatever the current going price is.

Market orders are the most likely to be filled, but they are not guaranteed to be filled because there is not always a supply of the security (for buyers) or demand for it (for sellers). More liquid stocks are more likely to be filled quickly and at a price very close to the bid/ask price.

What is a limit order?

Limit orders are designed to ensure specific price conditions rather than an immediate transaction. The risk is that the order might not go through, but the advantage is that you can be sure the price will align with your goals when it does. There are four types of limit orders:

  1. Buy limit order: the order to buy a security will only go forward at or below a certain price specified by the trader.
  2. Sell limit order: this is a sell order that only executes at or above the specified threshold.
  3. Buy stop: this order tells the broker to buy when a certain price above the current market price has been reached. This type of order can be used to profit from upward trends in strategies like breakout trading. It can also be used to cover losses when short selling (which is the practice of selling borrowed stocks with the intention of buying them back later at a lower price).
  4. Sell stop: a sell stop order instructs the broker to sell at or below a given price that is below the current price. This order is usually used to limit losses.

The duration of these orders varies. If the right conditions are met due to market movements, they will be triggered and converted into market orders to buy or sell the security as quickly as possible. If the market does not reach or cross the thresholds, you can specify that they are good ‘til cancelled or set a specific time limit after which they will no longer be valid.

Market vs limit order

The chart below outlines the strengths and weaknesses of the market and limit orders to help you decide which is best in different circumstances. A general rule of thumb is that market orders are best in highly-liquid markets, while limit orders are better suited for thinly traded or illiquid environments.

Type of order

Advantages

Disadvantages

Market order

·       Market orders get filled before limit orders, lowering the risk of no liquidity.

·       Market orders provide more immediacy when you are certain you want to enter or exit a position.

·       Market orders can’t be executed after hours (and could execute at a very different price once the next session opens).

·       In markets with fast-changing prices, you may end up executing the trade at a very different price than you expected.

·       For large orders of relatively illiquid shares, your order may not be filled quickly, and the prices may be unfavourable.

Limit order

·       A limit order is safer than a market order when the price is the key factor rather than the successful execution of the trade.

·       Limit orders can be used in after-hours trading.

·       Provides more security in highly volatile environments.

·       Your trade may not execute or execute only partially if the market never meets your parameters or there is a lack of liquidity at that price.

·       Limit orders are a more complex strategy and can have higher fees and commissions from brokers.

 

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