Understand Market Orders and How They Work

One of the most fundamental aspects you need to know before trading in the stock market is the type of order that you need to place to achieve your goals. In this context, market orders, which are among the most common order types, are important. 

Read this article to find out what a market order means, how it works and when to use this type of trading order. 

What is a Market Order?

A market order is a type of trading order that is executed at the best possible price prevailing in the market. Typically, this price may be very close to the market price prevailing when you place the order. However, in a highly liquid market, where the bid and ask prices change rapidly, the price at which a market order is executed may differ a bit from the last seen price. 

So, as the definition of market orders suggests, these orders are carried out at the market price. This differs from a limit order, which is executed only at the price limit specified at the time of placing the order (or at a more favorable price).

How do Market Orders Work?

When you decide to place an order on a trading platform or app, you need to choose the stock symbol, the number of shares and the type of order — whether buy or sell. Without any other specific additions or limits regarding the price, trading orders are typically placed as market orders. 

This means that you do not have a specific price at which you want to buy or sell the stock or security. Instead, you agree to trade at the current market price, i.e. the price prevailing when the market order is executed. 

Your buy (or sell) order is then matched with a corresponding sell (or buy) order. The price may be the current market price (or a slightly more or less favorable price, depending on the liquidity and slippage). 

Market Orders: An Example

Let us consider an example of how a market order works. Say you want to purchase 100 shares of a company that is currently trading at Rs. 200. Ideally, when you place a market order for this purchase, you expect the trade to be executed at the prevailing market price i.e. Rs. 200. So, you expect to pay Rs. 20,000. 

However, say the price of the stock rises by Rs. 10 to Rs. 210 by the time the order is executed. In that case, you will have to pay Rs. 21,000 instead. The cost of your trade is up by Rs. 1,000 more than what you expected it to be. 

Now, say you want to buy 1,000 shares instead. If the price at the time of order execution rises from Rs. 200 to Rs. 210, you will have to pay Rs. 2,10,000 instead of the expected Rs. 2,00,000. This essentially means that you have to be willing to pay an extra Rs. 10,000 for your trade. 

That said, the market price may sometimes not change much (or not change at all), especially in stabler or less liquid markets. Still, you should be prepared for any slippage, which is the phenomenon where the price at which the trade happens is different from the price you expected. 

When to Use Market Orders?

A market order may be better suited to some market conditions than others. Here are some ideal scenarios for using this type of trading order.

• Highly Liquid Stocks:

If you are trading in highly liquid stocks with narrow bid-ask spreads, a market order can help you get a price that is close to the last traded price (LTP) without any significant slippage. 

• Time-Sensitive Trades:

When you need to buy or sell a stock immediately, perhaps to capitalize on a sudden market news or event, a market order can ensure the trade is executed quickly. A limit order, on the other hand, may not be ideal for quick trades. 

• Small Orders:

If you are planning to place a small order that is unlikely to impact the market price, using a market order can be an efficient way to execute your trade swiftly. The risk of slippage is also lower in such cases when compared to larger orders. 

• Quick Entry or Exit:

If your trading strategy requires you to enter or exit a position immediately, especially in fast-moving markets with volatile prices, a market order can improve the chances of your trade going through without any delay. 

The Advantages of Using a Market Order

Knowing how a market order works, you may be able to better appreciate the advantages of this type of order, which include the following:

• Immediate execution of the order
• Higher probability of executing a trade
• Easier for beginners to understand
• Generally little to no slippage
• Order execution is guaranteed 
• Offers higher flexibility to traders

The Limitations of Using a Market Order

On the flip side, market orders also have some downsides, as listed below.

• No control over the order price
• May lead to unexpected slippage
• Not suitable for large orders

Conclusion

This sums up all you need to know about the definition of market orders, their pros and cons, how market orders work and when to use them. Before placing this type of order, however, you need to track the prices of stocks in real markets and perform technical analysis to determine the ideal entry price. You also need to rely on technical indicators to decide when to exit an ongoing trade. 

To make these decisions using reliable live market data, check out the technical indicators available for every listed stock on the Research 360 platform, powered by Motilal Oswal. Research 360 offers a comprehensive suite of features, including real-time price tracking, trading volume analysis and in-depth technical analysis tools like moving averages, RSI and MACD. These indicators can help you gauge market sentiment and identify trends, making it easier to time your market orders effectively.