Stock Market orders,or limit orders?
How do you enter the market in the morning: market or limit orders?
We like the concept of using a limit order for any stock purchase where we are not physically sitting in front of our computers and watching the action. So first what exactly is a limit order? A limit order allows you to state the exact price (within a couple cents) that you are willing to buy a stock at or under. For instance, let's say you want XYZ and it seems to be moving fast. It was 50.50 a few minutes ago and now its quoted to you at 51.75 Well, we know that a market order allows too many games to be played by the market makers, so to short cut them, we would use a limit order. Here we would say to ourselves XYZ is moving well, but I don't want to get stuck by the market. It's at 51.75 and I would be willing to buy it up to 52 and no more. So we would tell our broker (or use the correct buttons to do it on line) that we want to place a limit order of 52 on XYZ. What we have done is this, we have said that XYZ may still be moving while we are on the phone and as long as it doesn't get above 52 we are still willing to buy it. If it moves over 52 we think it has gone too far to make it still attractive. So your order will go in an electronic book and will execute as long as XYZ stays under 52. If XYZ gets away or in other words runs past 52 while you are on the phone or at your computer, your order will not fire off. Next time we will discuss the 2 basic types of limit orders you will run into.
There are two basic types of limit orders that you will encounter. First the brokerage will ask "is this a day order or a good till cancel"? Now what is all that about? Well, when you tell the broker you are willing to buy a stock at 52 or less, he needs to know if you mean for today only, or until you call him back and say "never mind", which can be up to 60 days later. The brokerage will leave your buy order on the books for about 60 days and if XYZ dips down below 52, your order will fire off and you will get executed. We personally don't use GTC's (good till canceled) orders much because we are too involved to not know when it's pulling under 52, we generally specify a "day order" only.
The best reason to use limit orders is that you are in control of what you are going to spend on a stock instead of the market maker filling' you where he wants. But there are problems with limit orders too. If a stock is really moving fast, it means a ton of people are piling in and even though you gave yourself a 1/2 a point of leeway, the stock may outrun you or in other words, go past your limit before your order gets executed. Often, especially early in the trading day, we see stocks gaining a couple points in a matter of just a minute or so. Here, your limit order is probably not going to do you any good because the stock is moving so fast you would have to put a limit in that is 3 or 4 points higher than you really want to pay, just for a chance to get in. That is why we often say, let the first few minutes of craziness play out before you try and get involved with buying anything.
One last note about limit orders. As you know a stock has a range that it will wiggle in during the course of the day. XYZ may open at 50, go to 51, pull back to 49.75 squirt ahead to 51.50 and end the day at 50.75. So one way of playing XYZ is to watch its daily range and place a limit order at or just below its bottom range. For instance if we see that XYZ generally has a full point of wiggle to it during the day, and at 10 am it's trading at 50.50, up 3/4 on the day, why not place a limit order at say 50. That way if during one of its wiggles it falls to 50 before picking up again, you will get it. (Note of course that you would only do this if you are in no big hurry to own XYZ, it may not wiggle down to 50 and you'd never get it.)
The bottom line is that limit orders will keep the market makers a bit more honest as far as your fills go, and you won't run the risk of getting a stock filled at some ridiculous price that you would never have paid. We urge you to use them, and with a bit of experience, you will have a pretty good idea of how much headroom you should give a stock. The last thing we want to say is this, if you place a limit order for XYZ for 52 and it never gets to 52, the market rules say you have to be filled in order (first come first serve). So don't be mistaken to think that your limit is your price. Remember a limit is the utmost price you are willing to pay, but if XYZ is at 50.50 and your limit is for 51, you will get XYZ at 50 1/2 when your turn comes up. Limits simply keep you from placing an order for a hot stock that is running and you think you are going to get it at say 90, and when you check later you find you bought it at 98! Thats what can (and does) happen with market orders!