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Placing an order to trade a security is as simple as telling your broker to buy or sell. But the type of order impacts transaction costs and the likelihood of the order being filled. Therefore, it is important to understand the exact instructions an investor gives to their broker. For most individual investors who are following a buy-and-hold strategy and not actively trading, there are three basic order types that will cover the majority of your stock trades and allow for control over execution.

Market Orders

A market order is the most basic trade order when buying or selling a stock. It instructs the broker to buy or sell “at the market,” or the best price available. Market orders are almost always filled immediately since there is no price specified. However, no price is guaranteed.

Trade orders are executed automatically by systems of computers with established queue procedures. Orders are taken on a first-come, first-served basis, with the most basic orders executed the quickest. Because market orders have no restrictions on share quantity, share price or trade timing, they cut to the front of the order queue. Any type of order restriction complicates a trade, requiring more effort to execute.

Pending orders are arranged by price. The highest ask (sell) price is placed at the top; the lowest bid (buy) price is placed at the bottom. Brokers are required to seek the “best execution” based on the prices offered for buying or selling a specified quantity of stock during market trading hours. In essence, brokers are required to buy low and sell high.

For example, Renewable Energy Group Inc. (REGI) is currently quoted at a bid of $61.00 and at an ask of $61.43. With a market order to buy, the investor would receive shares that are selling at $61.43; with a market order to sell, the investor would relinquish shares that are being bought at $61.00.

Your broker should display the number of shares being offered at given ask or bid price and the exchange where the trade is offered, in addition to the general volume of shares being traded. This information will change in real time.

Presuming the hypothetical investor’s entire order was filled by the quantity of shares offered at the bid or ask price, the market order is executed and filled at those prevailing prices.

However, it is possible for the bid and ask pricing to change between the time you enter your market order and the time your broker executes the trade. You will receive the current price at execution. The difference between the quoted price and the execution price of your order is called slippage. Slippage applies to each share the market order attempts to buy or sell, not just the total quantity to be filled.

Investors should compare market orders to the other two primary stock order types, limit orders and stop orders.

Limit Orders

Limit orders specify a price to be received or paid for a security. This is done by stating the minimum price at which a stock will be sold (if you are selling a security) and the maximum price at which the stock will be bought (if you are a buyer).

Limit orders give you more control over a trade. By specifying a trade price, they eliminate the risk of slippage. The trade will be executed at the specific price you set or at a better price.

One major caveat with limit orders is that they aren’t always filled if the trade price moves away from your specified price. The further away from the bid-ask spread you set your limit price, the less likely it is that your order will be filled.

In addition, if the total amount of your order cannot be filled at the specified price, a portion simply goes unordered. For example, if you wanted to buy 100 shares, and only 70 are available at the limit price you set or better, only 70 shares will be filled.

Stop Orders

Stop orders make a market order or limit order active once a specified price (the stop price) has been reached. Essentially, stop orders are triggers; once the desired price level is reached, it instructs the broker to execute a market or limit order.

These trades are often referred to as “stop-market” or “stop-limit” orders. The most common use of a stop order is to set a sell order below the market price of a stock that an investor owns, referred to as a “stop-loss” order. By placing a stop-loss order, an investor can exit a trading position if the market moves against them and limit their losses when the price of the stock moves to an undesirable level.

A stop-market order tells the broker to seek the best execution, even if the current price has moved away from the trigger price. This is a caveat of the stop-market order: There is no guarantee that the execution price will be equal to or near the stop price. A buy stop-market order should be placed above the market price, and a sell stop-market order should be placed below the market price.

When you place a stop-limit order, you must specify a stop order price as well as a limit price. A stop-limit order gives the investor precise control over when the order should be filled. A buy stop-limit order price should be placed above the ask price and a sell stop-limit order should be placed below the current bid price.

The downside is that a stop-limit order will not be filled if the stock’s price moves beyond the boundaries established by the order. However, stop-limit orders can protect you when a big price move occurs. A stop-limit order will prevent a buy order from being filled at too high of a price and a sell order at too low of a price if the stock makes a big, fast move.

This restriction may give an investor time to reevaluate the situation and to see if a more favorable price is reached in the days ahead, though it is possible that the stock will continue to move further away from the desired price range.

Other Types of Stock Orders

Most individual investors only need to understand how to use market orders and limit and stop orders to best control their trading. For more active investors, there are a few other types of trade orders detailed below. For more on each of these stock order types, see the Education Hub articles at www.aaii.com/education.

All-or-None Order: An all-or-none order instructs the broker to execute the entire order at once, or not at all. The directive to the broker keeps the order active until it is ultimately executed per its instructions or canceled.

Fill-or-Kill Order: A fill-or-kill order instructs the broker to execute the trade immediately and completely, or else the entire order is canceled. This order type does not allow partial execution.

Good-til-Canceled Order: A good-til-canceled order instructs the broker to keep the order open until executed or canceled by the investor. It will expire after a certain period of time has passed, typically 60 or 180 days, depending on the brokerage firm.

Immediate-or-Cancel Order: An immediate-or-cancel order instructs the broker to execute all or part of the order immediately, then cancels any unfilled portion of the order.

Conclusion

A market order is the easiest type of stock trade order to enter and execute. It guarantees that the order will be executed, but the disadvantage is that you may end up with a less advantageous price than you expected based on the quoted price.

For more control, investors can use limit orders and stop orders. Limit orders specify a price to be received or paid for a security. Stop orders designate a price that triggers the execution of the trade at the best market price available.

Each order type has specific uses for best practice.