Stock Question and Answer
What is the difference between a market, limit, and stop order?
It’s important to remember that an order can either be a buy or sell order. Thus, there are both buy and sell market, limit, and stop orders. Furthermore, some brokers have separate orders for shorting: sell short and buy to cover. Just remember, if you enter a trade with a buy order, then it will be exited with a sell order. If you enter a trade with a sell (or sell-short) order, then it will be exited with a buy (or buy-to-cover) order. Generally after selecting whether you want to buy or sell a stock, you then select what type of order you want to enter. The market, limit, and stop orders are the three most common types of orders most brokers offer. Let’s review the definition of each one:
Market order: A market order is an order to buy or sell at the best available current price. Market orders will always get filled, but not necessarily at the exact price you want. Those that use market orders simply want in (or out) of the market NOW, and don’t mind if they get filled at a price worse than expected. I would recommend not using market orders on low volume stocks or after hours as the stock may gap up or down significantly the next day prior to your order getting filled.
Limit Order: A limit order is an order to buy or sell at a specific price or better. Generally if you want to buy a stock at the current price or at a lower price you would use a limit order. For example if stock XYZ was trading at $50 and I wanted to buy it if it dropped to $49, I could place a buy limit order at $49. This would ensure that I don’t buy the stock unless it is at $49 or less. On the other hand, if I wanted to sell stock XYZ if it traded up to $55, I could enter a sell limit order at $55. This would ensure that I don’t sell the stock unless it is at $55 or higher.
Stop Order: An easy way to think of a stop order is as a trigger order. Stop orders allow you the ability to specify a price at which you want your buy or sell order to be triggered, or to become an active order. There are actually two types of stop orders: market and limit. Let’s first highlight a buy-stop market order. If stock ABC were trading at $60 and I wanted to buy it if it traded at or above $62, I could enter a buy-stop market order at $62. Then, when the stock price reaches $62, my stop order becomes a market order.
The stop-limit order combines the benefits of a stop order with that of a limit order. Instead of turning into a market order when the stop price is reached, the stop-limit order becomes a limit order. Using our previous example, let’s assume we enter a buy-stop limit order instead of the buy market order. Our stop will be $62, and our limit will be $63. Given this order, if stock ABC reaches $62, the stop-limit order becomes a limit order (rather than a market order) to buy the stock at $63 or better.
In addition to the three orders mentioned, there are quite a few additional orders offered by different brokerage firms, including one triggers other, one triggers two, and contingent orders to name a few. After you have mastered the basic market, limit, and stop orders, try to familiarize yourself with the more advanced orders.