Market Order: Explained
Different order execution types exist in the market. This is to compensate for different trading styles. Often the cheapest is a market order.
What Is A Market Order?
A market order tells a broker to execute an investment trade immediately at the best available current price in the market. Market orders have a high probability of being executed since they come with little restrictions. Conversely, limit orders only execute at predetermined prices. Market orders typically have low commissions due to the low amount of work done by the brokers to execute.
Risks to Market Orders
Furthermore, different orders have different advantages and disadvantages. For example, illiquid stocks usually have larger spreads. This means that the price between the best bid and best offer is wider and therefore more difficult to find a counterparty to trade with. If a trader sends a market sell order, he hits the bid price. Also, this means that the buyer of shares used a limit order. If the spread is $1, the seller potentially missed $1 of profit. Basically, market orders ensure a speedy exit from your position, but you risk losing out on the spread.
Additionally, slippage is a large risk to market orders. Slippage happens when insufficient volume exists at the current market to satisfy a market order. This scenario shows investors worse fill prices than expected. Slippage is common in thin stocks and costs investors significant money. For this reason, savvy investors study order types and decide which work best for their strategies.
For example, if a stock shows a bid/ask of $100/$102 with 100 shares bid and 100 shares offered, only 100 shares exist at that price, so a 200 share order fills half at the market and half at the next best price in the market.
Finally, market orders show immediate execution, which is efficient in liquid stocks. Typically, ample liquidity exists in the liquid stocks that market orders and limit orders show similar executions. However, thin market traders are aware of using market orders for execution, as it may cost a significant portion of the trade.