When you put in a request to purchase or sell an asset, that order goes into a handling framework that puts in a few orders before others. Securities exchanges today are totally automated, kept running by PCs that do their work, depending on an arrangement of standards for handling orders.
However, you have the freedom to choose the way in which your order is processed, based on the price you choose to trade at. You can execute your trade at market prices via market execution or give instructions to trade at a specific future price via a pending order.
Market execution is the most basic type of trade execution and is used to buy or sell securities at the current market price. Trades are executed at the current ask and bid prices. The advantage of using market order is that it guarantees that the trade will be executed. If a trader wants to get into or out of a position, a market order provides the most reliable method to accomplish just that. But it can lead to the execution of an order at a less favourable price. A market with high liquidity provides viable opportunities for market orders, otherwise crucial slippage can occur in trades. Stop loss and take profit cannot be used in market orders.
This is an order to buy or sell securities at a desired price. In a pending order, a trader instructs their brokerage to buy or sell an asset at a pre-determined price. Pending orders are used to execute a trade at a position that will be achieved by the market in the future.
There are 4 types of pending orders that can be placed for execution.
This involves the buying of a security at a specific future ask price, if that price matches the predetermined price. Generally, the current price of the asset is higher than the value of the pre-determined price. These orders are placed because the trader expects the price of the security to drop down to a certain level and then witness a bullish trend.
This also involves buying of a security at an ask price in the future, if and when the price matches the predetermined ask price. Here, the current price of the asset is usually lower than the pre-determined price. These orders are places when the trader predicts that the price of the security will reach a certain level and will keep rising.
It involves selling of a security at a bid price in the future, if the price matches the predetermined bid price. Generally, the current price of the asset is lower than the pre-determined price. These orders are placed when the trader anticipates that the price of the security will increase to a certain level and then will witness a bearish trend.
This involves selling of a security at a specific bid price in the future, if the price matches the predetermined ask price. Generally, the current price of the asset is higher than the pre-determined price. These orders are places when the trader expects the price of the security to reach a certain level and then continue falling.
While placing pending orders, it is important to ensure adequate risk management through the use of Stop Loss and Take Profit orders.
This is used to reduce losses if the price of a security starts to move in an unfavourable direction. If the price of the security touches the stop loss level, the position will be closed automatically. It is usually attached to a pending order or an open position. This order is always placed below the present bid price in a long position and above the current ask price in short positions.
This is used to limit the levels of profit if the price of a security rises to a specific level, to avoid losses if the market suddenly changes its direction. Take profit orders lead to the closing of a position and are always attached to a pending order or an open position. This order is generally set above the current bid price in long positions and below the current ask price in short positions.
When does the use of market order make most sense? If you are stuck in a position where the market movement is against you, a market order will help you get out of that position quickly. Generally, investors are worried about prices when entering or exiting positions, but there are times when buying or selling is more important than the price itself. You might wish to acquire or get rid of an asset quickly and this could prove risky. Therefore, it is important to make careful, informed decisions for market orders.
There are some things that traders should keep in mind while using pending orders, such as:
Both market execution and pending orders are important to make the most of all types of market conditions. However, traders need to be careful to not allow emotions to colour the decision to implement one of the two types of orders. Instead, they should work on technical and fundamental analysis, charting tools and other tools at their disposal to make informed decisions.