Market Orders: A Comprehensive Guide for Investors

Market order refers to a request made by an investor to purchase or sell a security at the best possible price. Market orders are usually executed by a broker or brokerage service on behalf of their clients who want to take advantage of the best price available on the current market.

Market orders are popular considering that they are a fast and reliable method of either entering or exiting a trade. The orders fill up almost instantaneously for stocks of companies with large market capitalizationMarket CapitalizationMarket Capitalization (Market Cap) is the most recent market value of a company’s outstanding shares. Market Cap is equal to the current share price multiplied by the number of shares outstanding. The investing community often uses the market capitalization value to rank companies. They are also well suited for securities with a high volume of trade.

Summary

• Market order refers to a request made by an investor to purchase or sell a security at the best possible price.
• They are executed as soon as possible at a given price of a security.
• Market orders are also well suited for securities with a high volume of trade.

How is a Market Order Placed?

The process of placing a market order is considered pretty basic. The orders are executed as soon as possible at a given price of a security. It is as simple as hitting a buy or sell button on a trading application to successfully execute the order. Due to the ease of execution, a very low commission is paid to the trader as compared to any other type of order.

Whenever a trade executed a market order, they are willing to buy a security at the ask price or sell the same security at the bid price. This means that any person executing a market order ends up giving up the price difference between them, i.e., bid-ask spread.

When is Market Order Used?

Usually, market orders are used for securities with a large volume of tradeVolume of TradeVolume of trade, also known as trading volume, refers to the quantity of shares or contracts that belong to a given security traded on a daily basis. They include large-capitalization stocks, futures, exchange-traded funds, etc.

Stocks that have very little average daily volumes are not in high demand for market orders. This is because they have wide bid-ask spreads, owing to the fact that they have small volumes of trade. Moreover, trades for thinly traded stocks can result in significant trading costs. This is because they are executed at unexpected prices.

Real-World Example of a Market Order

Consider a situation where the bid-ask prices for the shares of company X are $10 and $15, respectively. One hundred shares are made available at the ask. Thus, in case a market order to buy 300 shares is placed, only the first 100 of those will be executed at $15.

The next 200 orders will fill at the next best asking price for the sellers of the next 200 shares. The primary assumption is that the stock of company X is thinly traded, which means that it has a low trading volume. Thus, the next 200 orders will probably be executed at a price of $18 or more. Using limit orders would be well suited for this type of a security.

On the flip side, there can be unintended and significant costs. This is because traders do not exercise a significant level of control owing to the fact that market orders are filled at prices dictated by the stock marketStock MarketThe stock market refers to public markets that exist for issuing, buying and selling stocks that trade on a stock exchange or over-the-counter. Stocks, also known as equities, represent fractional ownership in a company. This is different from a limit order or a stop order.

Market Order vs. Limit Order

There are two basic execution options available to an investor who is placing an order to buy or sell a stock. When orders are placed at the market, they are called market orders. When orders are placed at the limit, they are called limit orders because they are subject to constraints set by the investor.

Limit orders allow a larger degree of control to investors and their brokers. Investors are able to set a maximum ceiling for acceptable sales price amounts (ask price) and minimum ceilings for the acceptable purchase price amounts (bid price).

Unlike market orders, limit orders are well suited for securities with medium or small market capitalization, low trading volumes, and wide bid-ask spreads.

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• Bid and AskBid and AskThe term bid and ask refers to the best potential price that buyers and sellers in the marketplace are willing to transact at.
• Futures ContractFutures ContractA futures contract is an agreement to buy or sell an underlying asset at a later date for a predetermined price. It’s also known as a derivative because future contracts derive their value from an underlying asset. Investors may purchase the right to buy or sell the underlying asset at a later date for a predetermined price.
• Exchange Traded Fund (ETF)Exchange Traded Fund (ETF)An Exchange Traded Fund (ETF) is a popular investment vehicle where portfolios can be more flexible and diversified across a broad range of all the available asset classes. Learn about various types of ETFs by reading this guide.
• Market BasketMarket BasketMarket basket refers to a bundle or group of products that can be indicators of the overall performance of a specific industry, sector, or market segment.