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The most common order types for stocks
Are you overwhelmed by the different types of orders available for buying and selling stocks? Or are you looking to refine your trading strategy?
Regardless of your level of expertise, understanding the various stock order types is crucial for making informed investment decisions. In this article, we'll take a deep dive into the different types of orders you can use to buy and sell stocks and explain how each one works.
Regardless of your level of expertise, understanding the various stock order types is crucial for making informed investment decisions. In this article, we'll take a deep dive into the different types of orders you can use to buy and sell stocks and explain how each one works.
Big ideas
- Understanding the different order types is crucial for making informed investment decisions in the stock market.
- Several trading types of orders are available for buying and selling stocks, including market orders, limit orders, and stop orders.
- Each order type has unique characteristics and benefits. Choosing the right order type for your trading strategy is essential for achieving your investment goals.
Before you learn about order types, you must understand one of the top considerations when choosing your preferred order type: Price gaps.
Many factors cause price gaps. Unexpected news, events, such as earnings reports, political developments, or natural disasters, can cause a stock's price to move quickly and dramatically, resulting in a price gap. Traders unprepared for such events may find themselves on the wrong side of a trade or unable to execute it at their desired price.
Many factors cause price gaps. Unexpected news, events, such as earnings reports, political developments, or natural disasters, can cause a stock's price to move quickly and dramatically, resulting in a price gap. Traders unprepared for such events may find themselves on the wrong side of a trade or unable to execute it at their desired price.
What are price gaps?
DEFINITION
A price gap occurs when a sudden and significant difference occurs between a stock's opening and closing price.
Large trades or changes in trading volume can also cause price gaps. For example, suppose a large institutional investor suddenly sells many shares. In that case, the investor saps up all the nearest buy orders, which can cause the stock's price to drop quickly to a price acceptable to the next set of buyers and create a gap.
There are four main types of price gaps:
- Common gap. A common gap is a typical one that you often might come across in charts, resulting from regular market movements. It often shows up when little trading activity is unrelated to important news or events. Common gaps are rapidly filled, and the price recovers to its prior levels.
- Breakaway gap. When the price moves over a support or resistance level created during a trading range, it creates a breakaway gap. A breakaway gap occurs when the price uses a gap to exit a well-established trading range. Chart patterns, such as a triangle, wedge, cup and handle, rounded bottom or top, or head and shoulders pattern, create a breakout gap.
- Runaway gap. A runaway gap occurs in the middle of a trend and is a sign of solid momentum in the current direction. As the price suddenly picks up speed and keeps moving in the same direction, a gap forms behind it. During an uptrend, it signifies an increase in buying of an asset, whereas during a downtrend, it represents an increase in selling the stock.
- An exhaustion gap. An exhaustion gap indicates the trend is losing steam that occurs on a chart at the end of a prolonged trend or a significant move in the stock price. It typically appears as a sudden spike in the opposite direction of the trend, indicating that the market is losing momentum and that a reversal may be imminent. This type of gap can be either bullish or bearish.
What is a market order?
If you've ever traded stocks, you've probably encountered the term "market order." But what does it mean?
DEFINITION
A market order is an instruction to buy or sell a stock at the current market price.
A market order instructs your broker to complete the transaction as quickly as possible at the best available price.
There are only two market order types, namely, buy and sell orders, which, when executed, will buy or sell the asset at the prevailing market price.
When using the Trading 212 investing app, selecting the "buy" or "sell" button opens an order ticket to complete. The ticket should contain the stock symbol, the number of shares involved, and whether you're buying or selling. This is what is known as a market order.
There are only two market order types, namely, buy and sell orders, which, when executed, will buy or sell the asset at the prevailing market price.
When using the Trading 212 investing app, selecting the "buy" or "sell" button opens an order ticket to complete. The ticket should contain the stock symbol, the number of shares involved, and whether you're buying or selling. This is what is known as a market order.
The difference between order vs trade is that an order consists of instructions to buy or sell a security. Once the order has been executed, it becomes a trade.
Market orders are typically used when speed and execution are the most important factors. These can be helpful if you need to purchase or sell stock fast and don't necessarily care about the final price you end up paying.
To better understand the meaning of market order, let's consider Samantha, a day trader specialising in tech stocks.
One day, she hears a rumour that a reputable company is preparing to launch a brand-new product that would transform the industry. Samantha is aware that if the rumour is accurate, the value of the company's shares will soar.
Samantha immediately issues a market order to purchase 500 shares of the company's stock. Samantha's broker carries out the deal in seconds at the current rate. However, the market price has increased dramatically from where it was only a few seconds ago because of the unexpected spike in demand for the stock. While Samantha buys the first 100 shares at the market price, she has to pay more for the other 400 shares.
She feels confident that the stock would increase, but knows that using a market order entailed certain risks. The company's new product is a huge success, and the stock price will increase over the next few weeks. Samantha eventually succeeds despite the unanticipated stock price increase, which makes Samantha pay more.
It's important to know that the price paid when using a market order is the price dictated by the market. The difference between a market order vs. limit order is that the market order is conducted immediately at the prevailing market price. In contrast, a limit order is conducted at a specified price in the future.
Market orders are typically used when speed and execution are the most important factors. These can be helpful if you need to purchase or sell stock fast and don't necessarily care about the final price you end up paying.
To better understand the meaning of market order, let's consider Samantha, a day trader specialising in tech stocks.
One day, she hears a rumour that a reputable company is preparing to launch a brand-new product that would transform the industry. Samantha is aware that if the rumour is accurate, the value of the company's shares will soar.
Samantha immediately issues a market order to purchase 500 shares of the company's stock. Samantha's broker carries out the deal in seconds at the current rate. However, the market price has increased dramatically from where it was only a few seconds ago because of the unexpected spike in demand for the stock. While Samantha buys the first 100 shares at the market price, she has to pay more for the other 400 shares.
She feels confident that the stock would increase, but knows that using a market order entailed certain risks. The company's new product is a huge success, and the stock price will increase over the next few weeks. Samantha eventually succeeds despite the unanticipated stock price increase, which makes Samantha pay more.
It's important to know that the price paid when using a market order is the price dictated by the market. The difference between a market order vs. limit order is that the market order is conducted immediately at the prevailing market price. In contrast, a limit order is conducted at a specified price in the future.
Pros of market orders
One of the main pros of a market order is the speed of execution. Unlike other orders, such as limit orders, which only execute at a specified price, a market order executes immediately at the next available market price. This means you can buy or sell shares quicker. But it should be noted that the next available price might not be your preferred one if the stock is illiquid or it is a fast moving market with big price gaps. Overall, the advantage of using a market order is the certainty of execution. When you place a market order, you are much more likely to get the shares you want but just without the extra certainty over the price offered by a limit order.
Cons of market orders
One of the main cons of a market order is its vulnerability to price volatility. Since market orders execute at the current market price, they are susceptible to sudden price movements. This can result in significant losses or missed opportunities in a volatile market. For example, if you place a market order to buy shares of a company, and the price suddenly spikes, you may end up paying more than you intended. Alternatively, if you place a market order to sell shares, and the price suddenly drops, you may receive less than you expected.
Limit order explained in simple terms
A limit order is an order type that specifies the price at which the trade will be executed. A limit order allows you to buy or sell a stock at a set price in the future. Only when the stock reaches the set price will the order be completed. If the price does not reach the specified limit, the limit order will not go through. For example, an investor who wants to buy a stock for $20 could enter a limit order. That means that if the stock's price reaches $21, they could still buy it for $20. However, the order will not be executed if the price does not reach $20.
Limit orders are excellent for those who want to buy or sell stocks at a pre-determined price or a specific price level, rather than the current market price. A limit order protects investors from sudden price changes in the market. It ensures they get the price they want for their securities. However, it is important to note that there is no guarantee that a limit order will be filled, as the market price may never reach the specified price.
Limit orders are excellent for those who want to buy or sell stocks at a pre-determined price or a specific price level, rather than the current market price. A limit order protects investors from sudden price changes in the market. It ensures they get the price they want for their securities. However, it is important to note that there is no guarantee that a limit order will be filled, as the market price may never reach the specified price.
There are two main types of limit order:
- Buy Limit order. A buy limit order is an order to buy a security at or below a specified price. For example, if a stock is currently trading at $50 per share, an investor might place a buy limit order for $45 per share. If the stock price drops to $45 or below, the investor can buy the stock at that price or lower. On the other hand, if the stock price does not drop to the specified price, the order will not go through.
- Sell Limit Order. A sell limit order is an order to sell a security at or above a specified price. For example, if a stock currently trades at $50 per share, an investor might place a sell limit order for $55 per share. The order will only be filled if the stock price rises to the specified price.
Pros of limit orders
One of the main pros of a limit order is giving investors greater control over the price at which they buy or sell securities. By specifying a limit price, investors can ensure that they only buy or sell securities at a price that they are comfortable with. This can be especially important in volatile markets, where prices fluctuate rapidly. Another advantage of a limit order is that it can be customised to suit an investor's specific investment strategy and goals.
Cons of limit orders
One of the main cons of a limit order is that there is no guarantee that the order will be executed.
Suppose the market price never reaches the limit price. In that case, the order may not be filled, which means that the investor may miss out on an opportunity to buy or sell the security. Another disadvantage of using limit orders is that they may take longer to execute than market orders. Because limit orders require the market price to reach or exceed the specified price, the order may be filled after some time. This delay can be particularly problematic in fast-moving markets, where prices change rapidly.
Suppose the market price never reaches the limit price. In that case, the order may not be filled, which means that the investor may miss out on an opportunity to buy or sell the security. Another disadvantage of using limit orders is that they may take longer to execute than market orders. Because limit orders require the market price to reach or exceed the specified price, the order may be filled after some time. This delay can be particularly problematic in fast-moving markets, where prices change rapidly.
Limit orders and price gaps: How do price gaps affect limit orders?
When a price gap occurs, it can cause limit orders to be filled at a price that is significantly different from the trader's intended limit. For example, if a trader places a limit order to buy a stock at $50, but a sudden price gap causes the stock to open at $60, the trader's order may be filled at $60, even though they intended to buy at a lower price.
This can be particularly problematic for traders who use sell-limit orders, orders that automatically sell a security when it reaches a certain price. If a price gap causes a stock's price to drop below the stop-loss order's limit, the order may be filled at a much lower price than the trader intended, potentially leading to significant losses.
This can be particularly problematic for traders who use sell-limit orders, orders that automatically sell a security when it reaches a certain price. If a price gap causes a stock's price to drop below the stop-loss order's limit, the order may be filled at a much lower price than the trader intended, potentially leading to significant losses.
What is a stop order?
Stop orders are a powerful tool for traders looking to manage their risk and minimise losses in the stock market.
DEFINITION
A stop order is an order to buy or sell a stock once it reaches a certain price, known as the stop price.
A stop order instructs your broker to execute a trade if the stock price moves against you, limiting your losses.
Stop orders are a great way to protect your profits and limit your downside risk. You place a safety net underneath your trade when you enter a stop order. If the stock price falls below your stop price, your broker will automatically sell your shares, minimising your losses.
Stop orders are a great way to protect your profits and limit your downside risk. You place a safety net underneath your trade when you enter a stop order. If the stock price falls below your stop price, your broker will automatically sell your shares, minimising your losses.
Stop orders come in two types: buy-stop orders and sell-stop orders.
- Buy-Stop order. A buy-stop order is used to buy a stock once it reaches a certain price. For example, if you want to buy a stock that is currently trading at $50, but you only want to buy it if it goes above $55, you would enter a buy-stop order with a stop price of $55. If the stock reaches $55, your broker will automatically execute the trade, buying the stock at the best available price.
- Sell-Stop order. On the other hand, a sell-stop order is used to sell a stock once it reaches a specific price. For example, if you own a stock currently trading at $50 but want to limit your losses if the stock drops below $45, you would enter a sell-stop order with a stop price of $45. If the stock reaches $45, your broker will automatically execute the trade, selling the stock at the best available price.
Stop orders are handy for traders who cannot monitor the market constantly. With a stop order in place, you can be sure that your trade will be executed at the right time, even if you cannot watch the market closely. This can be particularly helpful for traders with other commitments, such as a full-time job, preventing them from monitoring the market all day.
Pros of stop order
One of the main pros of stop orders is their effectiveness in risk management. By setting a stop price, traders can ensure that their positions are automatically sold if the stock price falls below a certain level. This can help prevent significant losses in the event of a sudden market downturn. In addition, stop orders are flexible. They can be customised to suit a trader's specific needs. For example, traders can set different stop prices for different positions, depending on the level of risk they are comfortable with. Additionally, stop orders can be adjusted in real-time, allowing traders to react quickly to changing market conditions.
Stop orders vs limit orders cheatsheet
Cons of stop order
The main cons of stop orders are that they may not execute as intended during periods of market volatility. In fast-moving markets, prices can fluctuate rapidly, causing stop orders to be executed at prices far below their intended level. This can result in significant losses for traders expecting to limit their losses with a stop order.
Stop orders and price gaps: How do price gaps influence stop orders?
Stop orders can be affected by price gaps in the market. A price gap occurs when there is a significant difference between the closing price of a security and the opening price of the same security on the next trading day.
A price gap can cause a stop order to be executed at a price significantly different from the stop price specified by the trader. This can happen because stop orders are triggered when the market price of a security reaches or crosses the stop price determined by the trader. If the market price gaps through the stop price, the stop order may be executed at a price far from the intended price.
For example, a trader places a sell-stop order on a stock at a stop price of $50. However, the news is released overnight that caused the stock to gap down to $40 at the market opening. Suppose the trader's stop order is triggered at the market opening. In that case, the order may be executed much lower than the intended stop price of $50.
A price gap can cause a stop order to be executed at a price significantly different from the stop price specified by the trader. This can happen because stop orders are triggered when the market price of a security reaches or crosses the stop price determined by the trader. If the market price gaps through the stop price, the stop order may be executed at a price far from the intended price.
For example, a trader places a sell-stop order on a stock at a stop price of $50. However, the news is released overnight that caused the stock to gap down to $40 at the market opening. Suppose the trader's stop order is triggered at the market opening. In that case, the order may be executed much lower than the intended stop price of $50.
Recap
Understanding the different orders for buying and selling stocks is crucial for successful investing. Market orders may be more suitable for long-term investors, as they are typically cheaper and based on fundamental analysis that plays out over time.
On the other hand, traders who are more focused on short-term trends may opt for limit orders, which allows them to be more conscious of the market price and minimise risk through stop-loss orders.
By selecting the right order type for your investment approach and goals, you can save time and money while reducing your risk and increasing your profit potential. Knowing what each order does and how it might affect your trading is key to making informed investment decisions in the stock market.
On the other hand, traders who are more focused on short-term trends may opt for limit orders, which allows them to be more conscious of the market price and minimise risk through stop-loss orders.
By selecting the right order type for your investment approach and goals, you can save time and money while reducing your risk and increasing your profit potential. Knowing what each order does and how it might affect your trading is key to making informed investment decisions in the stock market.
FAQ
Q: What are stop-limit orders?
Stop-limit orders are a type of conditional order that mitigate risk by combining the characteristics of a limit order and a stop loss order into a single order. The purpose of a stop-limit order is to reduce exposure to risk by combining the characteristics of a stop order and those of a limit order within the context of a conditional trade executed over a predetermined period.
Q: How to use a stop limit order?
You can use a stop-limit order by setting the stop price at the level at which you want the order to become active and the limit price at which you want a trade executed. If the price of the stock exceeds the predetermined trigger price, the limit order becomes active and is carried out if the price is equal to or higher than the price that the investor specified.
Q: What is a market order?
A market order is an order to buy or sell a stock at the best available price on the market at the time the order is placed. In most cases, placing a market order will assure that your trade will be executed, but it will not guarantee a certain price. When the primary objective of the deal is to be executed instantly, market orders are the best option to use.
Q: How does a limit order work?
A limit order is buying or selling a security at a specified price or better. With a limit order, traders can control the execution price of their order and avoid getting filled at unfavourable prices due to sudden price movements or price gaps. When a limit order is entered, it will only be executed if the security's price reaches the specified limit price or better. If the limit price is not met, the order will remain open until it is either filled or cancelled by the trader.
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