Sun. Jan 29th, 2023
Understanding market orders: A way to quickly buy or sell securities

Market orders are a good option for investors who want to simplify and automate how they buy securities.

Market orders are instructions to your broker to buy or sell a security as soon as possible.A market order is typically guaranteed to go through, although it doesn’t guarantee the price of the security you’re buying.With a market order, the final price of your trade will be set by the market.

When you buy or sell a stock, bond, or mutual fund, you have to decide how you’d like your broker to execute on that trade. This may sound like a complicated process, but a market order makes it relatively easy to trade without constantly needing to make difficult decisions.

What is a market order?

A market order is the most popular — and default — option for ordinary people who want to buy or sell stocks or other securities. 

A market order is an order an investor gives to their broker to buy or sell a stock, bond, or other security as soon as possible. Compared to other types of orders, like limit orders or stop-loss orders, a market order is a good choice for investors who are sure they want to buy or sell the security right away.  

How do market orders work? 

When you tell your broker to buy or sell stocks for you, whether that’s by clicking the trade button on your broker’s website, or by calling your broker over the phone, you’ll usually able to choose between a few different options for how to submit your trade.

If you’re using an online brokerage, those different options might appear under the header “order type,” when you go to submit your trade. Depending on your brokerage, you may be able to choose between having your trade executed as a market order, a limit order, a stop order, a stop limit order, or even a trailing stop order.

If you submit a market order to your broker to buy or sell a stock, bond, mutual fund, or other security, your broker will execute the trade immediately if the market is currently open, or upon market opening if the market is currently closed. 

With a market order, you’re not guaranteed a specific price. The price will be set based on what’s available in the market at the time your order is fulfilled; it’s called a “market” order because the market sets the price. 

With a market order, the market price could be higher or lower than the last traded price you see on the website. If the price of the stock is volatile, or if you’ve placed your order when the market is closed, the price could swing significantly. This means if you submit a market order, you might spend more money than you were expecting to buy a stock, or you might earn less money than you were expecting 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 want to use the dollar-cost averaging strategy by setting aside a fixed amount of money every month to invest in the stock market might benefit from initiating trades with market orders.

Market orders are typically ideal for investors who are trading only in very popular index funds, mutual funds, or stocks. This is because every stock and bond has a “bid” price — the price buyers are willing to pay — and an “ask” price — the price at which sellers are willing to offer the stock. 

For stocks and ETFs with a high trading volume, “the spread (the space between the ‘bid’ offers and the ‘ask’ offers) is usually quite small, meaning you can expect to have your market order executed within a few cents of the spread,” explains Todd Keffury, founder and Chartered Retirement Planning Counselor at Cadenza Financial Planning. 

Quick tip: If you submit a market order with a brokerage that engages in the controversial practice of “payment for order flow,” you may be less likely to get the best possible price for your stock.

Market order example 

Let’s look at an example of how a market order works when the markets are closed.

At 9 p.m. on a Tuesday, after the stock market is closed, Jenny decides she wants to buy shares of Apple (AAPL). On her brokers’ website, she sees that the last traded price was $147.73. She decides to submit a market order for 10 shares. 

In the morning, when the market opens, the new “ask” price of AAPL is $148.80. Her broker submits the order, and Jenny ends up paying $1,488 for her 10 shares of Apple ($148.80*10), a bit more than what she was originally expecting. 

Now let’s take a look at an example of how a market order works when the markets are open. For a popular, high-volume stock like Apple (AAPL), Amazon (AMZN), or Tesla (TSLA), Jenny would be unlikely to see a major price swing during the trading day. Suppose on Friday at 3 p.m., Jenny decides she wants to sell her 10 shares of AAPL. When she logs on to her broker’s website, Jenny sees that AAPL is trading at $149.99.

She submits a market order to sell her 10 shares. Just a few minutes later, she gets a confirmation email from her brokerage letting her know that the order has been executed at an average price of $149.98. The price change was close to zero, because she submitted a market order for a high-volume stock while the markets were open.

Quick tip: If you’re buying a low-volume security, consider placing a limit order instead of a market order to avoid overpaying for the stock.

Pros and cons of a market order 

A market order is a good choice for some investors, but it’s not right in all situations. There are important pros and cons to market orders, especially for investors who own a very large number of shares, or investors who are trading in uncommon or low-volume securities. 

ProsCons

Market orders are the simplest way to buy or sell stocks.

Market orders make it easier for you to automate your investment strategy and make use of dollar-cost averaging.

Market orders ensure that your trade will be completed, meaning you won’t miss out on buying a stock you want to purchase, or that you won’t be stuck holding a security you wanted to sell.

With a market order, you have no guarantee about the price you’ll receive.Market orders are risky to submit after the end of the trading day, because the price upon market open could move significantly. If you own a significant proportion of a company, or the stock you are trading has a very low volume of daily trades, your transaction could itself move the market price of the stock up or down significantly. In that situation, you might be better off using a limit order than a market order, to prevent the risk of massive price swings. 

Market order vs. limit order 

If a market order doesn’t seem right for you, consider trading using a limit order. With a limit order, you specify to your broker your desired price, and your broker will execute the trade only if the market price is better than your stated price. 

Market orderLimit order

The price is determined by whatever the prevailing market price is at the time the trade is executed.

Your trade will be executed, regardless of what happens to the stock price. 

The price is guaranteed to be greater than or equal to the minimum price set for a limit sales order, or the price is guaranteed to be less than or equal to the maximum price set for a limit purchase order. Your trade will not be executed if the price swings in an unfavorable direction.

Even though limit orders give investors more control over the price than market orders, a market order is a better choice for many long-term investors, says Fred Fuld III, founder of the Investment Research Institute, and retired Certified Financial Planner. “There is nothing worse than trying to save twenty-five cents per share with a limit order only to see the share price continue to rise and missing out on owning the stock,” says Fuld.

Quick tip: You’re less likely to face unexpected swings in stock prices during the trading day, instead of after hours. The New York Stock Exchange and Nasdaq are open between 9:30 a.m. and 4:30 p.m.

The financial takeaway

A market order gives your broker instructions to trade the security immediately, regardless of the price. This is a great choice for investors who are sure they want to buy or sell their stock as soon as possible, because unlike other types of sales orders, a market order doesn’t depend on your stock hitting a certain price target. 

If you’re worried about price movements, because you’re submitting your trade after hours, or because the price of the stock is moving quickly, you may want to submit a limit order instead, which will instruct your broker only to execute the trade if the price is favorable.

Read the original article on Business Insider

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