When you place a stock trade, you have two great alternatives for doing so: a limit order and a market order. Both of these order types tell your broker exactly how to execute your trade, and by selecting the right order type you can save money or even get more money on your trade.

Here are the differences between Limit Orders and Market Orders, and when to use each.

Limit order vs market order

The distinction between a market order and a limit order is quite simple, but when using them can be less so.

• A market order instructs your broker to execute your trade in a security at the best price available at the time you send your order. If you buy, you will usually complete the transaction at the price the seller asks for. If you sell, you will trade at the buyer’s auction price. Supply and demand can differ significantly at times, and you have no control over the prices here.
• A limited order asks your broker to execute your trade only at the price you specify or better. If you sell, you will only trade if you can get your limit price or higher. If you buy, your trade will only complete if you can get your limit price or less. Often, you can set a limit order to be good for up to three months, although this varies by broker.

In addition to these two most common order types, brokers may offer a number of other options, such as stop-loss orders or stop-limit orders. The order types differ by broker, but they all have market and limit orders.

Market Orders: Pros and Cons

Each type of order can execute your trade, but one may work better in a given situation than the other. Here’s when you should consider using each type.

A market order works best when:

• You want to trade now, regardless of the price. It is important to note that on lightly traded stocks, this could cause the price to rise or fall significantly.
• You are trading in the shares of a large corporation. Large company stocks tend to be very liquid, with bid and ask prices typically only separated by a penny or two. You can get the last listed price or even better, depending on the market at that time.
• You trade relatively few stocks. If you buy or sell a relatively small number of stocks (think a few hundred or less), especially a larger stock, you are less likely to change the price than if you have to trade thousands of stocks.

However, market orders certainly have downsides:

• You could move the market significantly. If you use a market order and don’t check the bid and ask prices, you can get a price that is significantly different from the current market price. This is especially true for lightly traded stocks or smaller stocks.
• You can get a wild price. If you enter a market order outside of normal trading hours, it will be executed on the next trading day. If market development information is released in the meantime, you may get a significantly different price than you originally expected if you don’t cancel the order.

Limit orders: pros and cons

In many cases, a market order will be perfect for your needs, but you will also need to consider whether you should use a limit order, which offers other advantages.

A limit order works best when:

• You want a specific price. If you are looking to get a specific price for your stock, a limit order will ensure that the trade doesn’t happen unless you get that price or better.
• You can wait for your price. If your limit price is not the market price, you will probably have to wait until it is filled. If the stock eventually trades at that price, the trade can be executed.
• You are buying a lightly traded stock. Weakly traded stocks can bounce back from trade to trade, so setting a price may help to keep your costs down. In some cases, this could save you 1% (maybe even more) of your total investment. It’s a significant cost, and it’s money that could go into your pocket otherwise.
• You are selling a large number of stocks. If you are selling a large number of stocks, even a small change in price can mean real money.
• You don’t want to move the market (and reduce your profit). A limit order will not change the market the way a market order would.

The disadvantages of limit orders can be relatively modest:

• You may have to wait and wait for your price. Because you name your price, there is no guarantee that the transaction will ever complete. Even if the title hits your price, there may not be enough supply or demand to fill your order, although in this situation it is usually only a matter of time before there is none.
• Forgotten limit orders can be executed. Because you can place limit orders for the future – usually valid for up to three months – you can easily forget an order and wake up one day with a surprise trade. Yes, it will execute at the price of your order (or better), but you may not want to trade it anymore.

In practice, traders can place limit orders at the currently listed price just to ensure that their trade does not change the stock price. If the trade doesn’t complete immediately, they can adjust the price up or down to make it complete faster (or slower). While the net effect can be the same as a market order, it ensures that the trader does not execute at a wild price.

At the end of the line

Your choice of market order or limit order depends on the specific circumstances of the trade, but if you are worried that you might not get a specific price, you can always use a limit order. You will make sure that the trade does not go through unless you get your price, although it may take longer to complete.

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