Equity: Types of Orders

This video discusses various order instructions that are supplied along with an order. The video also explains market orders, limit orders, stop loss orders and other order instructions.

In the stock markets buyers and sellers interact with the brokers and the exchange in order to issue and fulfill their orders. At the minimum an order specifies which instrument to trade, how much and whether the trader wants to buy or sell it. Apart from that, there are additional instructions that are supplied along with the order that define the behavior of the order and its execution.

There are three types of instructions. The execution instructions indicate how the order is fulfilled. The validity instructions indicate when the order may be fulfilled. And the clearing instructions indicate how the trade is finally settled. There are specific order instructions for each of these instructions that the traders use to achieve their objectives.

The two most common execution instructions are market orders and limit orders. In a market order, the broker gets the best available price and executes the trade immediately. For a buy order the broker will accept the lowest price available and for the sell order the broker will accept the higher price available. The problem with market orders is that there is no guarantee of execution price. The price could rise or fall from the time the order is placed to the time it is executed.

The limit order is similar to a market order, and the broker is required to find the best available price. However, there is a limit set for the execution price. For a buy order, the broker cannot execute the trade at a price higher than the specified limit, and for a sell order the broker cannot execute the trade at a price lower than the specified limit. A problem with limit orders is that they may not get executed if the broker is not able to find the price within the limit specified.

Validity instructions specify when the order is executed. Most orders are day orders, i.e., they will expire if not executed by the end of the day. The good-till-cancelled orders remain live till they are cancelled by the trader. Immediate-or-cancel orders are cancelled if they cannot be executed immediately. A good-on-close order is fulfilled only at the end of the trading day, and a good-on-open order is fulfilled at the open of the trading day.

A stop loss order lies idle and turns into market order when a certain price is reached, i.e., the stop price. For example, “buy if price rises to $60” or “sell if price falls to $58”. They are also called stop loss orders, because an investor is able to prevent losses or to protect profits.

Similarly there are stop limit orders which turn into a limit order when the stop is reached. For example, a stop limit order may specify - “buy if price rises to $60, but execute only at $65 or less”

Clearing instructions specify how the order is cleared and settled. These are generally standing instructions and are not linked to the order. Retail orders are cleared by the trader’s broker. The institutional trades may be cleared by a custodian or another broker. An important clearing instruction is whether the sale order is a long sale or a short sale.