In financial trading, learning about various types of orders is essential to conducting successful trades. Two of the most popular types of orders used are market orders and limit orders. Whether you are a beginner or expert trader, understanding when to utilise a market order over a limit order will notably influence your trading success.
In this blog, we will discuss the mechanism, advantages, disadvantages and key differences between market orders vs limit orders.
Understanding Market Orders
A market order is a request given to a broker to purchase or sell a security at the best price available. This order prioritises fulfilment over price. Traders who need to enter or exit a position quickly tend to use market orders, particularly in liquid markets. Hence, this type of trading enables you to execute a trade immediately to minimise the chances of financial losses.
Mechanism of Market Orders
When a trader issues a market order, it is placed in the order book and matched against the best available bid (in the event of selling) or ask (in the event of buying). It indicates that the person carrying out the market order is paying the difference of prices between the bid and the ask price.
For instance, the trader initiates a market order to sell, and the order is matched against the best bid available, resulting in a quick transaction. However, each trade execution has a very low commission for the trader compared to other order types.
Benefits and Drawbacks of Market Orders
Here are the benefits of placing a market order:
- Fast Execution: Market orders are executed nearly instantly, which is perfect for traders who value speed over price.
- High Liquidity: As market orders are executed at the best available price, they provide high liquidity, which means faster trade completion.
- Large Trading Volume: Larger share orders can be bought or sold without any trouble because there is no bidding price.
The drawbacks of market orders are as follows:
- Price Uncertainty: These orders can be executed at unfavourable prices if the market is not liquid and there is manipulation.
- Increased Costs in Volatile Markets: In high-speed markets, if there is no control over the execution price, the buy or sell price can vary considerably, leading to increased costs.
- Slippage Risk: Traders can suffer slippage, where the actual executed price varies from the anticipated price because of market movement.
Understanding Limit Orders
A limit order is a specific trading instruction to purchase or sell a stock at a certain price. In contrast to a market order, a limit order does not guarantee the instant execution of the order but ensures that the trader receives the desired or better price.
Traders who value control over price rather than speed prefer to limit orders. They limit the price and number of shares to be traded. Moreover, you can select how long the limit order can last because your trade is not closing instantly with price fluctuations.
Market Order vs Limit Order: Key Differences
The difference between market order and limit order is given below:
| Aspect | Market Order | Limit Order |
| Execution Priority | Immediate execution of trade at the best possible price. | Trade is executed only when the target price is reached. |
| Price Control | No price control | Full price control |
| Order Fulfillment | Almost Immediate | May or may not execute |
| Certainty | Execution at variable prices with high certainty. | Execution depends on price, but it is not guaranteed. |
| Best Used For | Quick entry/exit | Specific price target |
| Risk | Risk of selling at a lower or buying at a higher price. | The trade will not execute if the price is not met. |
Final Thoughts
Choosing between a market vs limit order depends on a trader’s objective. For day traders or those trading in volatile markets, market orders offer quick entry and exit with the risk of price slippage. On the other hand, limit orders are ideal for patient traders who aim to achieve a specific price. Therefore, balancing speed and price control is essential for long-term success in the financial markets.
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