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Market Order Vs Limit Order Vs Stop Order: How The Different Types Of Trading Orders Work

Understanding the different order types could enhance your trading strategies.

These days, with a brokerage account, we are able to place our trading orders on a variety of trading instruments conveniently across various platforms. Whichever platform we use, we generally have a few options, such as market orders, limit orders, and stop orders, for placing our trades. This article explains the differences between each order type and when you should use them.

What Is A Market Order

A market order instructs the broker to buy or sell a security (such as stocks, commodities, or forex) immediately at the best available current price in the market. When you place a market order to buy, it means you are willing to purchase the security at the prevailing “ask or buy” price. Similarly, when you place a market order to sell, it means you are willing to sell the security at the prevailing “bid or sell” price.

These types of orders are the quickest to be filled, but they also have some price uncertainty. In a highly volatile market, the actual price at which the market order is executed might differ slightly from the last quoted price due to slippage. For example, in a fast-moving market, your order to buy Coca-Cola at the current market price of $65.03 might get filled at $65.05 per share instead of the last quoted price of $65.03.

Source: CityIndex

You could consider a market order when the security is actively traded and you wish to take advantage of the current market conditions by executing your orders immediately.

What Is A Limit Order

A limit order instructs the broker to buy or sell a security at a specific price or better than the current market price. When you place a buy or sell limit order, you specify the maximum price that you’re willing to pay or accept.

These types of orders give you the best possible price as you specify the price level at which you are willing to execute the order of your trade. However, there is no guarantee that your orders will be filled, as the price of the security needs to reach the specified level.

For example, if you wish to buy 250 shares of Coca-Cola at $58, which is lower than the current market price of $64.35, you could place a buy limit order. The order would only trigger if the price fell to or below $58, allowing you to purchase at a cheaper level.

Source: CityIndex

You could consider a limit order if you do not wish to constantly monitor market prices or have an exact price level at which you intend to buy or sell the security.

Read Also: Stock Split: What Does It Mean For US Stocks (Like Tesla) That Splits

What Is A Stop Order

Unlike the other two types of orders, a stop order, also referred to as a stop-loss order or stop-limit order, is used to limit losses or protect potential profits in a trade. The stop order gets executed as a market order when the price of the security reaches a specified price, known as the stop price.

These types of orders could be placed as either a buy-stop order or a sell-stop order. If you have a short position on a security, you could place a buy-stop order where the stop price is above the current market price. Similarly, if you have a long position, you could place a sell stop order if the price is below the current market price.

Depending on your market position, a stop order could be useful to limit potential losses or take partial profits should the security go against the intended direction of the trade.

Read Also: Investing Terms 101: What Is The P/E Ratio And How To Understand It?

Which Order Type Should You Use

Typically, market orders and limit orders are the two main order types that you can use when placing your trade to either buy or sell a security. With a market order, you get fast execution of your orders, which is useful in a volatile market if you wish to participate in it. On the other hand, if you prioritise getting a specified price for your orders or are unable to monitor the price action of the security, a limit order may be useful in ensuring that your orders are filled at a level that you are willing to accept.

For certain markets and securities, you may have an additional option for a stop order. These orders can be used as a limit against large losses should the market move against your position. They can be used to manage your risk as part of your trading strategy.

For more insights on other trading-related terminology, check out our DollarsAndSense Explains column.