Buy – An order to buy a security.
Sell – An order to sell a security.
Market Order – An order to buy or sell a security at the current market price. Because the market price includes a Bid price (the price someone is willing to pay for a security) and an Ask price (the price at which someone is willing to sell), a market order to buy will pay the ask price, and an order to sell will sell at the bid price. The difference between the Bid and the Ask is called the Spread.
Limit Order – An order in which a price is set as a threshold for the sale. For example, a buy order with a limit of $50 would execute when the Ask price of the stock was at $50 or lower.
Stop– An order to buy or sell a stock if it passes through a specific price.
All or None – An order which is executed only if all the shares can be bought or sold in one lump.
Good ‘Til Canceled (GTC) – An order that will stay open for a month after it is entered. Normal orders are only open for the trading day and must be reentered if not executed on that day.
The above can be combined. For example, one would say “Buy 100 XYZ at the market” to buy 100 shares of XYZ corporation at the market price. One could say “Buy 100 XYZ, limit of $50 or better, GTC” to put out an order that would stay open for a month in which 100 shares of XYZ corporation would be bought if the Ask price dropped to $50 or lower.
Now that you know the different types of orders, here’s how I would put them to use:
With the strategy I’m proposing with this blog we’re looking to invest for the long-term and make a lot of money with each successful trade. We’d like the stock to go up 1000% or more over the time period that we hold it. Because of the long time period involved, we are not that concerned with getting a few extra pennies per share on a trade. For this reason, I generally use a market order when buying. This will cause the order to be filled within the next few trades (we may need to wait a few trades if there are people ahead of us with market orders). On a stock that trades a lot, said to be “liquid,” market orders are generally fine. Also, when I’m looking to get out because I’ve made a good profit and I’m worried it may evaporate, I find that it is best to use a market order and get out. I’ve had the experience before when a gain turned into a loss because I set a limit and it didn’t fill before the bottom dropped out.
If I’m in the process of accumulating shares and I feel that the stock has good long-term prospects but there is probably nothing to cause it to shoot up in the near-term, I may set a limit order and wait. I may also enter with a market order to get some shares, and then place a limit order a little lower to buy more shares if the price then dips. (Note with a limit order I also tend to use Good-Til-Canceled since it may take a few days to execute.) When setting a limit, I pick an odd amount (for example, $20.16 per share or better) because there will generally be other people with limit orders in and people tend to like round numbers. With a limit order, the first in line at the price gets the shares. If the stock is thinly traded, or illiquid, I will never place anything but a limit order. This is because if there are only a few buyers or sellers, the price may easily change by 10% or more between trades. Looking at the typical spread for the stock (difference between the bid and the ask price) and the volume is a good way to tell if the stock is illiquid. I also always use a limit order when selling stocks short or covering a short position, generally setting the limit slightly above the ask price in the latter case to make sure it executes rapidly, but giving me protection from radical price movements.
Stop orders, often called “stop loss” orders, are sometimes recommended as a way to limit losses. For example, you buy 100 shares of xyz, and then set a stop loss order at $36 so that if the stock drops by 10% you’ll get out automatically. I generally don’t recommend stop loss orders for two reasons. The first is that the market will set all kinds of prices based on rumors, news, and just fluctuations driven by trading (the stock goes down a little so more people jump out, causing it to continue down). These fluctuations really mean nothing about the underlying business, and we don’t want to get out of a good company just because it becomes temporarily unpopular. The second reason is that various traders use stop loss orders to make profits and get shares at lower prices. A stock may move down temporarily, hit your stop causing you to sell your shares, and then shoot back up, leaving you behind.
One case where I may use a stop order is when a stock has gone up a lot and I’m looking to take some of the money off of the table and move it somewhere else (the stock has gone up enough that I don’t want to risk the loss). In that case I may set a stop loss a few dollars below the current price, and then move the stop up if the stock rises until it eventually hits. This is nice psychologically since you don’t feel like you’re selling a stock that is a winner and will climb higher, but in general I’ve found I end up just losing a couple of dollars when my stop gets hit and I should have just put in a market order and sold the shares.
On another note, there is what is called a stop market and a stop limit. A stop market will sell the shares at the market price if the stop price is reached. The stop limit will put in a limit order at the stop price if the stop is reached. Never use a stop limit because if the stock falls below your limit price, the order will not be executed and you will still own the shares.
Finally, I may use an all-or-none order for a thinly traded stock to avoid getting a few shares and having to pay minimum commissions on more than one trade.
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Disclaimer: This blog is not meant to give financial planning or tax advice. It gives general information on investment strategy, picking stocks, and generally managing money to build wealth. It is not a solicitation to buy or sell stocks or any security. Financial planning advice should be sought from a certified financial planner, which the author is not. Tax advice should be sought from a CPA. All investments involve risk and the reader as urged to consider risks carefully and seek the advice of experts if needed before investing.