If you’re just getting started with trading, you’ve most likely encountered just one type of order: the spot market order. Fortunately, most brokers and modern trading platforms allow you to choose from a range of order types that best fit your trading strategy.
In the following article, we’ll cover the most popular broker order types and explain how to use each of them. Before we do that, it is important to understand that an order is simply an instruction to your broker to initiate a trade when some predefined level or combination of events. If you want to have a refresh of what an order is you can have a look at our free course:
Different Types of Orders
There are many different order types in trading. Each type has a specific purpose and aids certain trading strategies, such as breakout and pullback strategies. As you can see, the type of order you’ll most frequently use depends pretty much on the needs of your trading strategy.
Do you want to immediately open an order at the current market price? Then the spot market order is the way to go. Or, does a pullback to a certain price level increase the chance of success for a trade setup? In this case, limit orders would be a smart choice.
Spot orders are the simplest type of market order, this opens a position at the current market price, at whatever price your broker can fill it for you.
Bear in mind that the actual price at which a spot order got filled can significantly differ from the price you saw on your screen. This is especially true during times of high market volatility or very low liquidity, such as when important market reports are released or during pre-market hours.
The difference in price between the price you saw on the screen and the price at which your order got actually executed is called slippage. While slippage can go both ways – the order can be filled at a better price than the one you thought you were getting – it does add a degree of risk to your trading, and some strategies still rely on the spot market orders to execute their trades.
Unlike spot orders where your trade gets executed at or near the current market price, pending orders wait for certain conditions to be met before opening a trade. Most often, a pending order waits for the price to reach a pre-specified price level before executing a spot market order.
Depending on how the price has to approach the pre-specified price level, pending orders can be grouped into stop and limit orders.
A stop order is a popular pending order type where the price has to reach a pre-specified price before opening a market order in the direction of the previous move.
This might sound complicated at first, so let’s make it crystal clear with an example. Let’s say you have identified a triangle pattern in the EUR/USD pair and want to enter into a buy or sell position as soon as the price breaks above or below the triangle pattern. Instead of waiting in front of your trading platform for hours, you can simply place a stop order to catch the breakout.
You could place a buy stop order just above the upper triangle resistance, and a sell stop order just below the lower triangle support. Once the price breaks either above or below the pattern, your stop order will get triggered and you’ll enter into a trade in the direction of the breakout. Smart, isn’t it?
In other words, if you believe the market will continue to go up after a certain price-level has been reached, you will use buy stop orders. Conversely, if you believe the market will continue to fall after a certain price-level has been reached, you will use sell stop orders.
The following graphic shows how stop orders work.
Since a trader believes that the market will continue in the direction of its underlying trend, stop orders are very popular order types among breakout traders. In essence, markets continue in the direction of the breakout or breakdown, which makes stop orders a great addition to any day trading breakout strategy.
Just like stop orders, limit orders are pending orders that transform into a market order once certain conditions are met. However, unlike stop orders, limit orders are used when your analysis shows that the price will reverse after it hits the limit price.
There are two types of limit orders: buy limit orders, and sell limit orders.
Buy limit orders are used when you believe that the price will fall to a specific price-level (the buy limit price) and immediately reverse. Sell limit orders are used when your analysis shows that the price could rise to a specific price level, followed by a reversal to the downside.
As you can see, limit orders work perfectly with pullback trading strategies. For example, a trader could place a buy limit order at the 61.8% Fib level during an uptrend. When the price completes a pullback to the 61.8% Fib level, the buy limit order will automatically become a buy market order, and the trader will have an active buying position.
Similar to buy limit orders, sell limit orders can be used to enter into pullbacks during downtrends. For example, when the price breaks below a major support area, signalling a continuation to the downside, a trader could place a sell limit order at the breakdown price-level. When the price completes a pullback to the breakdown level, the sell limit order will turn into a sell market order.
Buy limit orders are used by long term value investors waiting for an assets price to fall to price considered good value. Sell limits are more aggressive and are used by hedge funds to short an asset when its price becomes poor value.
Stop Limit Orders
As their name suggests, a stop-limit order combines the benefits of stop orders and limit orders. A stop-limit order triggers a limit order, once the price reaches the pre-specified stop price.
In this regard, a stop-limit order consists of two prices: the stop price and the limit price. Once the price reaches the stop price, the trading platform executes a limit order which becomes a market order after the price reaches the limit price.
You can decide how long your stop-limit order remains active on the market. If you design your stop-limit orders as day orders, they will remain active until the end of the trading day. However, if you design your stop-limit order as a GTC (Good-till-canceled), your order will carry over to future trading sessions until you cancel it manually. This applies not only to buy limit orders but also to other types of pending orders mentioned in this article.
Stop limit orders are a great tool to manage your risks and the maximum price you want to pay on the markets. When you place a buy stop limit order, you tell your broker that you want to buy the underlying financial instrument once the price reaches the stop price, but only up to the limit price, which is the highest price you want to pay.
A One-Cancels-the-Other (OCO) order is a pair of conditional orders stipulating that if one order gets executed, the other order gets cancelled. Traders often use OCO orders to combine stop and limit orders. For example, they could place a buy stop order and buy limit order and set an OCO condition, so that one order gets cancelled after one of the orders gets triggered. This way, traders can trade both breakouts and pullbacks, depending on what first happens in the markets.
Last but not least, a Fill-or-Kill order is an order to buy or sell a financial instrument that has to be executed in its entirety without any partial execution. If the market maker isn’t able to immediately execute the order in its entirety, the entire order will be cancelled.
Fill-or-Kill orders are often used by large institutional traders to buy or sell stocks or other assets at the desired price.
What is the Best Type of Order?
Now that we have covered the most popular broker order types, let’s see what’s the best type of order for your trading. As you may think, the order type you should use depends pretty much on your trading strategy.
If you’re a scalper or very short-term momentum trader, you’ll need to enter into trades in a split second. As soon as you spot a possible scalping opportunity, you’ll hit the buy or sell button and enter the market. This means that spot market orders are the way to go.
Day traders who follow a breakout strategy will be best suited with stop (pending) orders. Simply place a buy stop order above the breakout point, or a sell stop order below the breakdown point, and you’re good to go. Stop orders become market orders after the price reaches the pre-specified stop price.
If you’re a pullback trader, then consider using limit orders. Place a buy limit order when you want to trade a pullback in an uptrend, and a sell limit order when you want to trade a pullback in a downtrend. Unlike stop orders, limit orders are used when traders expect a reversal once the limit price is reached.
The main broker order types can be grouped into spot and pending orders. Spot orders are market orders that get executed at the best available current price while pending orders are conditional orders that depend on whether the price has reached the stop or limit price.
Besides stop and limit orders, some traders also use stop limit orders (a combination of stops and limits), as well as OCO or Fill-or-Kill orders.
The type of orders you’re going to use depends on your trading strategy. Choosing the right order type can significantly improve your trading performance, as you won’t miss out on breakouts or pullbacks.
Credit: My Trading Skills