5 Order Types for Beginners
Should you use a limit order or market order? How should you set stops effectively to protect your trading account?
Limit, market, trailing, OCO, OCD… You are probably wondering what the heck all these trading orders are on your broker platform, and if you can actually use them for your trading strategies.
Getting to know these order types is actually extremely important especially if we are day trading short term market volatility, regardless of whether they are the low float runners or large cap breakouts.
That's why today we will discuss the types of trading orders that exist in the stock market. We’re going to break down the details of the major trading order types that you should all be able to find on your various desktop and mobile brokers.
These order types will not only get you the best entries and take profit possible, they will also help you limit the losses. By the end of this article, you will know how to use them to your advantage.
Market Orders
Now to the fun part. To get the hang of trade orders you need to understand the most elementary of trade orders which is our first order type here. Why is it the most basic one? It’s the most basic because it is the order type that can be executed instantly, whether it's buy or sell and regardless of what the current prices are.
Yeah, it’s that quick. Market orders are best suited for trading high-volume securities like futures and large-cap stocks typically during market hours. It’s not for low volume trading premarket or afterhours.
There is little or no hassle when using market order; all you need is to just push a button to execute the order to buy or sell. This is a very common order type brokers like Robin Hood and Thinkorwsim execute your orders at.
The biggest pro of market orders is, of course, the speed of execution like we mentioned, but there is a huge downside to using market order. When you are dealing with low float stocks, the market orders may get filled at unexpected prices. For example, it could be too high of an entry when you were buying breakouts or it could sell too low when you’re trying to take profit. That could actually cost you a lot of trading profits and sometimes even lead to bigger losses as well.
Let’s put things in perspective here and assume that the bid-ask prices for shares of Zoom video, ZM and are $493.26 and $494.36, respectively, with 100 shares available at the ask. Let’s say you’re a baller and decide to buy with a market order 500 shares of ZM.
Since you’re using market order, it’ll get filled on the ask, which is the best available price someone is selling, and you’ll get filled instantly. Since the seller at the top only has 100 to sell, you’ll get filled first.
The next 400 shares will fill at the best asking price for sellers of the next 400 shares. In this case, the buy order will fill some at $494.50 or $494.94. You can see that market orders are not suitable for thinly traded stocks like ZM.
Market orders are best for people buying long term investments, long term swings positions, people using free commission brokers, bank investing platforms, etc. They are not for active day trading entries/exits, unless it's stopping out, which we’ll talk about later on.
If you use market orders for entries and take profits when trading, you are essentially at the mercy of the market makers, who of course will try to rip you off as much as possible by giving you the worst fills. Sometimes, they’ll be 10 or 20 cents off if the spreads between bid-ask are quite wide.
Here's some friendly advice; always take a very close look at the bid-ask spread and the volume before you place a market order.
Limit Orders
If you have issues with the lack of control that comes with trading with market orders then definitely use Limit orders. It is indeed the most commonly used order type, at least by me. Almost all the order types I use are limit orders. I use them for buying, selling, shorting and covering. I pretty much only use market orders when I'm setting stops.
Why is a Limit order different from a market order? It literally limits the exact price your buy or sell orders can be filled at. This way, traders are sure to get their desired and best prices for their stock positions.
For instance, when you use a buy limit order, the order gets executed at the limit price or a lower one. If you are using a sell limit order, you can be sure that the order gets executed at the specific price or a higher one.
Let's say you choose to buy stock of a low float runner like UONE in this example. You see the stock is too high right now afterhours. You want to buy at a whole dollar mark pull back instead.
To do that, you can place a limit buy order. This way if this stock does pull back you’ll get filled at that limit or cheaper, which is in your favor. It's like you’re bidding to buy a lamborghini on ebay for half a million but you ended up getting it for $499,000. What a steal.
It's the same way when you’re selling your stock with a limit order too. If you want to sell and take profit, your order won't get filled until the stock hits that exact number to the cent or higher.
You can see why it's more advantageous for day traders to use limit orders with entries and taking profits. That's not all. Limit orders come in handy when the market is volatile and stocks are rising or falling at heart-wrenching rates. They help when you want to avoid getting bad fills or getting screwed over by market makers who will most definitely fill your buy orders at the very top and your sells at the bottom and especially when you are trading these volatile low float small cap runners.
Likewise, limit orders are great for part time traders, swing traders and longer term investors who just want to buy when a stock actually gets to their desired support levels on the daily chart. All you do is to set the limit buy price and wait for the stock to hit your price.
While these options are great, it would be nice for you to note that limit orders can be frustrating too. How? They may never get filled.
Sadly, you can only control so much in the market and some of the things you can't control are how and when a limit order gets filled. The order might just sit there forever and be forgotten without getting filled until you cancel it. This could lead to missed opportunities and even potential losses.
If UONE never pulled back to the cent, your buy order would never get executed.
You might be partially filled only too, with maybe only 100 shares getting hit at the limit and the rest of the 900 shares buy limit order pending if the stock bounced off.
Stop Orders
Like its name suggests, stop orders are designed to buy or sell an asset when its price moves past a particular point to the cent.
The worst case would be, if you are stopping out of your positions with limit order. If the stocks are like the low float runners we talked about or the stock has high spreads, then you may never get filled on that stop if the stock crashes through your price too quickly. That's why, when using stops, I recommend using stop market order.
These orders are meant to stop your position, whether you are long or short. This way you get to limit your losses according to your risk and protect your account capital.
With a stop market order, once the specific price crosses a predefined point, the stop order converts into a market order which is then executed at the best price available. Your order to stop out of all your shares will fill.
For example, let's say you are long 1,000 shares of SPI at $25. You want to stop playing SPI if it breaks below $22. Since it's a very low float volatile stock, the stop market order could fill some of your shares (maybe 200) with slippage at $22 and the rest at $21.8 or $21.5. However, all your shares would be stopped out for sure below 22 .
At first glance, you might be thinking, “wait humbled trader, that means I'll lose a lot more than I had wanted. It sounds like I should have used stop limit orders at $22 instead.”
I understand that, but trust me, most times you’ll be thankful you got out of all your long shares instead of having the stop limit order not trigger at all if the stock moves too fast or your broker is too slow.
Imagine being stuck holding the bag with the other 800 shares long on SPI at $22, and the stock goes down to $15, all because you wanted to save $0.50. It's not worth it my friends.
If you find yourself in a situation where you are unable to monitor your stocks for an extended period, I recommend using stop market orders on your day trading positions. For most large cap stocks with a closer spread, you shouldn't have too many slippage problems when stopping out.
Bracket order
This trade order is a conditional order that helps investors to have a profit target as well as a stop order automatically activated when they enter a new position long or short.
This is an extremely useful order for part time traders who cannot stay glued to the screen and watch their positions all day.
If we’re looking to enter a long position, once the main buy order is executed, your broker platform will automatically place two more orders for you. One is a sell order for you to lock in profits, and the other is a stop loss order in case your trade goes against you. Once one of them gets executed, the other order automatically gets canceled.
So, there are two layers of orders, one at top and bottom like the bread, and the stock position in the middle like a ham and cheese sandwich. That's how I like to think about bracket orders and because I'm kind of hungry right now.
Let's say our friend, Mike Bagholder, wants to buy 100 shares of TSLA at $399. If he uses a bracket order, the top piece of bread allows him to lock in profits on his long position when the bid price reaches $406.
However, he has to make sure he stops out if the trade works against him too, which is where the bottom piece of the sandwich bread comes in, his stop-loss exit to trigger a market sell order if the price reaches $397.
So, by using a bracket sandwich order, Mike Bagholder can make sure he is risking 1 to potentially make 3 or more, and so he doesn't get stuck bag holding anymore.
Remember that the two brackets, the sandwich breads, are also called OCO order pairs. OCO stands for one cancels the other. Therefore, once our Mike Bagholder takes profit or stops out, the other pending order is canceled.
The downside to a bracket order is that they can only be used for intraday trades as all brackets are automatically canceled when the market closes.
Trailing stop
A trailing stop is essentially a stop order on steroids. It’s an order type that traders often use to let their winners ride, as long as the trend continues to the upside if they’re long or to the downside if they are short.
Trailing stop will stop out the position, if the stock reverses to a predetermined amount from the highest point. This order type would be very useful for large cap stocks that tend to trend for the day in a directional market, such as earnings breakouts or stocks that are dropping all day due to short seller reports like NKLA.
For these large cap examples, you can set a trailing of 70 cents to a dollar. If and when the stock breaks out and pulls back some in a normal condition, you still stay in that trade. Remember, it's normal and healthy for stocks to pull back.
However, if there is a major reversal in the trend, your trailing stop will ensure that you get to keep most of the profits. Whether you are using trailing stop for long or short positions, you can rest assured that your profits are protected as the trade stays open for as long as the price is in your favor.
Conclusion
These are some of the most common order types we use in trading. To summarize, for active day trading entries whether it's buy or sell, it's best to use limit orders. For stop orders that are meant to protect your position if the stock goes against your direction, it's best to use stop market orders. For part time traders or traders who need to step away, they can use bracket orders and trailing orders to take care of their exit and stops.
And for people who just want to gtfo out of a position asap and don't care about market markers filling them at the very bottom, market orders are your best bet.
