Updated on September 20th, 2019
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When it comes to buying and selling securities like stocks, the most basic type of order is a market order. This type of order guarantees to buy or sell a stock immediately but with no control over what price this order is executed at. When you buy or sell shares using a market order, you receive the market’s best available price. This price can be very different than the price of the stock when you placed the order, especially when a stock’s price is moving fast in either direction.
As an example, let’s say you submitted a market order to purchase 10 shares of a stock whose current price is $10 a share. If the lowest price a seller is willing to sell their shares, also known as the ask, is $11 a share, your market order tells your broker to immediately buy the shares for $11. This mean you are instantly losing $1 per share if other investors are not also buying at $11.
If you are buying or selling multiple shares in a single market order, you could even receive different prices for some of the shares. This is because a market order executes immediately by finding any investor willing to trade now, no matter the price and quantity of shares they are willing to trade.
To explain using the previous example, if your market order to purchase 10 shares of the $10 stock is still active and the ask price is still $11 with an ask size of 5 shares, your broker will immediately buy the 5 shares for $11 each. But since you wanted 10 shares, your broker will continue to look to buy the remaining 5 shares from another investor at the next best available price. This price will typically be even higher than $11! Let’s say the next best available price is $13 a share. After your broker buys the last 5 shares of your order at $13 each, you will have paid an average of $12.50 for 10 shares of a stock that was priced at $10 when you placed your order. This is called “slippage” and can happen very frequently with market orders. Slippage will quickly wipe out your stock account if you don’t minimize it!
In summary, you are most likely not getting the best price when using a market orders to buy or sell stocks! This is why market orders should only be used by a trader that wants to execute the trade instantly and does not care what price the trade is executed at.