The rise of DIY investing has empowered individuals to make their own investment decisions while saving on fees. However, before logging into a trading app and entering your stock orders, it's essential to understand the different types available.
Two of the most basic stock order types are market orders and limit orders. Each serves a specific purpose and has advantages and considerations. In this article, we give you a comprehensive overview of market orders vs limit orders, explaining their key characteristics, differences, and when to use them. Once you understand these basic stock order types, you'll be prepared to trade with more confidence and precision.
Key Takeaways
- Depending on your investing style, different types of orders are better for trading stocks.
- A market order simply buys or sells shares at the market price until your order is filled. You put in the order and you will get the next available price.
- A limit order specifies the price you're willing to pay, though there is no guarantee that some or all of the order will trade if you haven't named a price other traders want.
- Stop orders are a type of market order triggered when a stock moves above or below a certain price. Once it hits that limit, it buys or sells the stock. These are a key type of order for managing risk in the stock market.
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Market Order vs. Limit Order
The two types of orders that everyone in stock trading should know are market and limit orders.
Market Orders
A market order is the most basic type of trade. It's an order to buy or sell it immediately at the next price available. Typically, if you buy a stock, you will pay a price at or near the posted ask. If you're going to sell a stock, you will receive a price at or near the posted bid you see on your screen.
One important thing to remember is that the last traded price is not necessarily the one your market order will get. In fast-moving and volatile markets, prices change fast, and your investment strategies need to account for the cost changing a bit from what was last posted on the screen. The price will remain the same only when the bid/ask price is exactly at the last traded price.
Market orders do not guarantee a price, but they do guarantee the order is filled immediately.
Market orders are popular among individual investors who want to buy or sell a stock without delay. The advantage of using market orders is that you're guaranteed to get the trade filled; in fact, it will be executed as soon as possible. Although you won't know the price at which the stock will be bought or sold, market orders on popular stocks will likely be close to the bid/ask prices.
Limit Orders
A limit order, sometimes referred to as a pending order, allows investors to buy and sell securities at a certain price in the future. This type of order is used to execute a trade if the price reaches the preset level; the order will not be filled if the price does not reach this level. In effect, a limit order sets the maximum or minimum price at which you are willing to buy or sell.
For example, if you wanted to buy a stock at $10, you could enter a limit order for this amount. This means that you would not pay one cent over $10 for thatparticular stock. However, it is still possible that you could buy it for less than the $10 per share specified in the order.
| The Four Main Types of Stock Orders | ||
|---|---|---|
| Order Type | Description | When to Place |
| Buy Limit | An order to buy a stock at or below a specific price. | Place when you want to buy at a price lower than the current price. |
| Sell Limit | An order to sell a stock at or above a specific price. | Place when you want to sell at a price higher than the current price. |
| Buy Stop | An order to buy a stock once its price reaches a particular point above the current market price. Once activated, it becomes a market or limit order. | Place when you expect the stock price to keep rising after reaching a certain level. |
| Sell Stop | An order to sell a stock once its price reaches a specific level below the current market price. Once activated, it becomes a market or limit order. | Place when you want to limit losses by selling if the price drops to a certain level. |
Market and Limit Order Examples
Let's go through two examples to show how these orders work. We'll also discuss the fees involved, which are likely $0 for both types, though that wasn't always the case.
Market orders execute immediately at the current market price. You won't pay a commission if you're trading with a well-known brokerage platform (Fidelity, Robinhood, Schwab, etc.). For example, suppose you want to buy 100 shares of ABC Company. You place a market order, and it goes through immediately at the current market price of $50 per share. The total cost would be $5,000 (plus any brokerage fees). However, the final price might differ from the price you expected, especially in volatile markets.
Limit orders set a maximum or minimum price at which you’re willing to buy or sell. While they offer price control, they might not execute immediately, or at all, if the market price doesn't reach the limit price. In the past, brokers would charge higher fees for limit orders because of the need for monitoring. However, you won't see a difference unless you have a complicated order that must be filled over several days, incurring fees from regulators, not the brokerage.
For example, suppose you want to buy 100 shares of ABC Company, but only if the price drops to $48 per share. You place a limit order with a $48 buy limit. If the stock reaches $48, the order executes; otherwise, it stays open until the price hits your limit or the order expires.
Additional Considerations
- Brokerage fees: Always check your broker's fees for both order types, though most brokerage platforms don't distinguish prices for the two.
- Bid-ask spread: The difference between the bid (buy) and ask (sell) prices can affect the final cost, particularly for market orders.
- Order duration: Limit orders can be set for different durations (e.g., day, good till canceled), potentially influencing fees and execution probability.
Additional Stock Order Types
Now that we've explained the two main order types, here's a look at some added restrictions and special instructions you can use when putting in an order:
Stop-Loss Order
A stop-loss order—also called a stopped market, on-stop buy, or on-stop sell—is one of the most valuable orders for managing risk in your investment portfolio. Unlike limit and market orders, executed immediately when entered, a stop-loss order is dormant until a specific price is reached. At this point, it becomes a market order.
For example, suppose you bought shares of ABC company at $50 per share, and you're looking to sell them. You also want to limit your potential losses to 10%. You could place a stop-loss sell order at $45 per share. If the stock price falls to or below $45, your stop-loss order will be triggered and automatically converted into a market order, selling your shares at the next available price. This helps limit your downside risk and protects you from further losses should the market head down, especially if the market is moving fast.
Stop-loss orders are particularly useful for investors who want to protect their gains or mitigate potential losses. This is crucial in cases where you can't constantly monitor the market or when the price is moving so quickly, you need a way to ensure you're protected.
Using a preset price to sell, you can effectively "set it and forget it," knowing that your position will be automatically sold if it reaches the price you selected. This can provide peace of mind and help you stick to your investment strategy, even in volatile markets.
It's important to note that while stop-loss orders can help manage risk, they do not guarantee a specific sale price. In fast-moving markets or during times of high volatility, the actual execution price may differ from your stop price. In addition, if you set a stop-loss after the close of trading on one day, and the stock opens significantly lower than the previous day's close, your stop-loss order may be triggered at a price below what you set. Nevertheless, stop-loss orders are a crucial tool in managing risk for any trader.
Stop-Limit Order
These are like stop-loss orders, but as their name states, there is a limit on the price at which they will execute. There are two prices specified in a stop-limit order:the stop price, which will convert the order to a sell order, and the limit price. Instead of the order becoming a market order to sell, the sell order becomes a limit order that will only execute at the limit price or better. This can mitigate a potential problem with stop-loss orders, which can be triggered during a rare flash crash when prices plummet but later recover.
All or None (AON)
This order is particularly important for those who buy penny stocks. An all-or-none order ensures that you get either the entire quantity of stock you requested or none at all. This is typically a problem when a stock is very illiquid or a limit is placed on the order.
For example, if you put in an order to buy 2,000 shares of XYZ but only 1,000 are being sold, an all-or-none restriction means your order will not be filled until there are at least 2,000 shares available at your preferred price. If you don't place an all-or-none restriction, your 2,000 share order would be partially filled for 1,000 shares.
Traders using a hedging strategy might need an all-or-none approach, and others might use an all-or-none order to test the market: if it goes through, then people are still trading the stock; if not, then you know it's not a very liquid market.
Immediate or Cancel (IOC)
An IOC order mandates that whatever amount of an order that can be executed in the market (or at a limit) in a very short time span, often just a few seconds or less, be filled and then the rest of the order canceled. If no shares are traded in that "immediate" interval, then the order is canceled completely.
Not all brokerages or online trading platforms allow for all these types of orders. Check with your broker if you do not have access to a particular order type that you wish to use.
Fill or Kill (FOK)
This type of order combines an AON order with an IOC specification; in other words, it mandates that the entire order size be traded and in a very short time, often a few seconds or less. If neither condition is met, the order is canceled.
Good 'Til Canceled (GTC)
This is a time restriction that you can place on different orders. A good-til-canceled order will remain active until you decide to cancel it. Brokerages will typically limit the maximum time you can keep an order open (or active) to 90 days.
Day
If you don't specify a time frame of expiry through the GTC instruction, then the order will typically be set as a day order. This means that after the end of the trading day, the order will expire. If it isn't transacted (filled) then you will have to reenter it the following trading day.
What Is a Take-Profit Order?
A take-profit order (sometimes called a profit target) is designed to close a trade once it reaches a specific profit level. When the stock price hits your target, the order executes automatically, locking in your gains. For example, if you buy a stock at $50 and set a take-profit order at $60, the order will sell the stock once it reaches $60, ensuring you capture the profit.
Using a take-profit order is worthwhile when you have a clear target price in mind for your investment and want to ensure you lock in profits. This is particularly valuable in volatile markets where prices can fluctuate quickly.
What Are Commissions in Stock Trading?
Commissions are fees charged by brokers for executing buy or sell orders on behalf of investors. These fees depend on the broker and the type of service provided. For instance, full-service brokers may charge commissions because of the personalized advice and services they offer, while discount brokers generally don't charge fees for trading stocks.
How Can I Trade Stocks For Free?
There are many options for investing without paying fees. Most brokerage platforms, such as E-Trade and Schwab, don't charge for trading stocks, exchange-traded funds, and mutual funds. Once your deposit clears, you simply create an account with a brokerage, deposit money, and start trading these securities without incurring fees.
Note that they might charge fees for other securities, such as futures, options, and bonds.
What Happens If a Limit Order Doesn’t Get Executed?
If a limit order doesn't get executed, it stays open until the market reaches your specific price or until the order expires. Limit orders can be set with different periods in mind, such as "day" orders, which expire at the end of the trading day, or "good-till-canceled" orders, which remain active until you cancel them, they are executed, or the 90-day limit most brokerage platforms allow. If the market never reaches your limit price, the order won't get filled.
The Bottom Line
Understanding the difference between market orders and limit orders is crucial when trading stocks. Market orders allow you to quickly buy or sell a security at the market price, ensuring fast execution but without precise price control if there are quick shifts as your order is put in. Meanwhile, limit orders give you more control over the price at which your trade is executed but may take longer to fill or may not be filled at all if the price isn't reached.
In the end, the choice between using a market order or a limit order depends on your individual trading strategy, risk tolerance, and market conditions. If you prioritize speed and immediate execution, a market order is typically the right choice. However, if you have a specific price in mind and are willing to wait for the market to reach that level, a limit order could be a more suitable option.
As you gain more experience with trading, you may find that combining both market and limit orders, as well as the other orders covered above, can help you achieve your investment goals while managing risk effectively. It's essential to keep learning about the various order types and to stay informed about market trends and conditions that may impact your trading decisions. Successful trading requires it.
