Understanding Market and Limit Orders

It is common for traders to use the ‘buy’ and ‘sell’ buttons provided by trading software to open or close trades. However, simply clicking buy or sell can lead to inefficient results in a highly volatile, fast-moving market. As such, traders need to understand how to make use of more specific trade orders to avoid unnecessary losses. This article discusses those trade orders and how you can use them.

I. What is a trade order?

Typically, investors rely on brokers to settle transactions for them. When an investor wants to sell or buy shares, she will give an order to the broker to complete the transaction. Usually, the investor quotes the bid price or ask price. The set of instructions that the broker receives from the investor refers to a trade order. Investors issue trade orders either through the phone or via trading platforms connected to the Internet.

Trade orders allow an investor to issue clear and concise instructions to which brokers must stick during execution. Typically, trade orders carry time and price restrictions governing the desired execution of the order. Execution of the order puts the investor either on the profit side or on the loss side. A typical stock market consists of millions of orders at any given time where some traders get into trades while others exit.

II. Market order

While trade orders help an investor to get in or out of trades, they serve other purposes too. For instance, the market order facilitates a quick entry or exit into a trade. Using a market order helps to avoid slippage. However, the market order does not always execute at the set price.

Market orders are designed to execute at the most recent price, whether it is the bid price or the ask price. Therefore, an investor is able to exit a trade or enter one as quickly as possible. Market orders are the most common and most basic trade orders. A majority of traders rely on them.

III. Limit order

Another popular trade order is the limit order. This type of order specifies the kind of price a trader would like to either exit or enter a trade. For example, say a trader makes a buy order and sets the limit order at $30. Here, the order is executed immediately as it reaches that set price. The order can be executed when the price is lower than $30 but never above this limit. On the other hand, consider a trader who makes a sell order and sets the limit order at $20. Here, the order will be executed at the set limit price, or at higher prices.

There are thus two types of limit orders, the buy limit order, and the sell limit order. The buy limit order protects the trader from buying a stock at higher prices than desired. The sell limit order protects the trader from selling securities at lower prices than profitable.