Stock traders have the option of choosing between multiple order types based on their price expectations and time frame. Market orders are the most commonly used order types and are also the most straightforward to grasp.
Market order definition
A market order refers to the buying or selling of a stock at the prevailing market price. It indicates that the trader is content with the current price and is willing to make a transaction at that very moment.
Market orders are the fastest way of making stock trades and carry a certain amount of risk during periods of high volatility.
Why is understanding how a market order works important for traders?
- Market orders allow traders to buy/sell the stock at the prevailing price
- Market orders can be risky when trading stocks with low liquidity and wide bid-ask spreads
- Orders for mid and large-cap stocks are executed almost instantly
- Market orders are the default transaction choice offered by most brokers
Thorough explanation of a market order
A market order is the most accessible order type available for stock traders. They give traders the opportunity to buy and sell instantly at the going price. This can be especially useful when the trader is in a time crunch, or when the stock briefly reaches a desired price.
Market orders are most often used when buying large-cap stocks and ETFs, as they have larger trading volumes and the orders are executed instantly without much hassle.
Problems can arise when the stock i inquisition is not characterized by high liquidity and, therefore, has a higher bid-ask spread. This can shift the price significantly if the trade is large enough, resulting in a not-so-favorable price for the trader.
To avoid such risks, traders also use limit orders, which give them the opportunity to state their desired price and only make a transaction at that exact price.
Example of a market order
Suppose a trader is interested in buying 100 shares of Tesla Inc. (NASDAQ:TSLA). If the stock is trading at $275 per share, the transaction would cost the trader $27,500, assuming there are no commission charges. Considering the high liquidity of TSLA, the order would be filled immediately and the trader would be able to see Tesla as part of their holdings on their brokers’ dashboard.
Market orders simply need the ticker of the stock inquisition and are not time-sensitive in any way.
If a stock is not very liquid, the market order might partially fill.
You may also like: Limit Orders, Margin Trading, Contract Size.
Market order FAQs
Is a market order safe?
A market order is a safe bet when trading large cap stocks, as they are highly liquid and orders are filled instantly. Stock with low liquidity may have some issues and large transactions can affect the price, making the entire trade in a bulk unfavorable.
How does a market order work?
A market order is an instruction made to the broker to buy/sell a certain amount of shares instantly, at the going price. The speed of order execution depends on the liquidity and trading volume of the stock .