When you sell or buy a stock, bond, or exchange traded mutual fund, you must decide how you want the broker to execute the trade. It may sound like a complicated process, but market orders make it relatively easy to trade without making those often-difficult decisions.
What is a market order?
A market order is a popular and default option for the average person who wants to buy or sell stocks or other securities.
Investors give a market order to their brokers to purchase or sell a stock, bond, or other instruments as quickly as possible. Unlike limit or stop orders, market orders are alternative for investors who are sure they want to purchase or sell assets promptly.
How do market orders work?
When you instruct a broker to purchase or sell a stock for you, either by clicking the trade button on the broker's website or contacting your broker, you generally have numerous submission options.
If you are using an online brokerage, these different options may appear under the header "Order Type" when you submit a trade. Depending on your brokerage, you may execute your trade as a market order, limit order, stop order, or even a trailing stop order.
Suppose you give your broker a market order to purchase or sell a stock, security, bond, exchange traded mutual fund, or other instruments. In that case, the order will be executed immediately if the market is open or at the opening if the market is closed. There has to be a market for security as well.
With market orders, you cannot guarantee a specific price. The price will be determined based on the price available in the market at the time your order is completed; it is called a "market" order because the market determines the price.
With a market order, the market price may be higher or lower than the last traded price you saw on the site. If the price of a stock fluctuates, or if you place an order at the close of the market, the price may fluctuate significantly. It means that if you submit a market order, you may spend more money than you expected when you buy a stock or make less money than you expected when you sell a stock.
Market orders are a good option for investors who want to simplify and automate how they buy securities. For example, investors who wish to invest in the stock market by setting aside a fixed amount each month using a dollar-cost-averaging strategy may benefit from using market orders to initiate trades.
Market orders are often ideal for investors who only trade top-rated index funds, exchange traded mutual funds, or stocks. This is because each stock and bond have a "bid" price—the price buyers are willing to pay—and a "ask" price—the price sellers are willing to offer the stock.
Why use market orders?
A market order is one common and basic transaction in the market. It is the favored option of most stock buyers and sellers most of the time and is designed to be completed as fast as possible at the current asking price.
A market order is also usually the lowest-priced option. Some brokers charge more for trades involving limited orders.
Because market orders are very liquid, they are a safe alternative for any large-cap stock. This means that many of their shares are changing hands at any moment in the trading day. The trades can be completed immediately.
Disadvantages of market order
Market orders are less reliable when trading in less liquid investments, such as small-cap stocks. Because these stocks are potentially thinly traded, bid-ask spreads are often significant. As a result, market orders may be slowly filled at disappointing prices.
Example of a market order
Assume that the bid-ask price of a industrial stock is at $18.50 and $20, respectively, and there are 100 shares available at the ask. If a trader places a market order for 500 shares, the first 100 shares will be executed at $20.
The remaining 400 shares, on the other hand, will be sold at the best asking price. If the stock is lightly traded, the next 400 shares might be sold at a higher price.
This is why, for some transactions, limit orders are a potentially smart idea. Market orders are filled at a price set by the market, while limit orders give traders more control over the price.
Market Order vs. Limit Order
With a limit order, you specify the price you want to your broker, and your broker will only execute the trade if the market price is better than your fixed price.
● The prevailing market price determines the price when the trade is executed.
● Your trade will be executed regardless of any change in the stock price.
●A guaranteed price greater than or equal to the minimum price set for a limit sell order, or a guaranteed price less than or equal to the maximum price set by a limit buy order.
● If the price moves in an unfavorable direction, your trade will not be executed.
While limit orders give investors more control over prices, market orders are potentially better for many long-term investors.
The Bottom Line
A market order instructs your broker to trade security immediately, regardless of price. This is a good option for investors who want to buy or sell stock as soon as possible. Because unlike other types of sales orders, a market order is not dependent on your stock reaching a specific price target.
Suppose you are concerned about price movement because you submitted a trade after hours or because the stock price fluctuates rapidly. In that case, you may need to submit a limit order, which will instruct your broker to execute the trade only if the price is favorable.