Market Vs. Limit Orders – Which One To Use? 😲

Hello guys,

this article will be about Market Orders and Limit Orders. I will break down how retail traders use them (that’s us) and how BIG trading institutions use them.

One could think that such info is useful only for day traders and for people trading with Order Flow. This is, however very far from the truth! Understanding how Market and Limit Orders work and how to use them will help you to understand how the markets work overall. Not just on the faster time frames!

Market VS. Limit Orders - The Main Differences

MARKET ORDERS
Market orders are used by “aggressive market participants”. An aggressive market participant is anybody (you, me, an institution,…) who wants to enter their trade NOW.

A problem is that if you want to enter (or quit) your trade now, there may not be a counter party to your trading order (=when you Buy, somebody needs to Sell).


EXAMPLE: Imagine you want to Buy 10 Lots of EUR at 1.1900 but currently, there are not enough people willing to Sell for this price. Let’s say that for 1.1900 there are only 5 Lots available. Other 5 Lots are available, but only for a higher price – 1.1901.

If you enter with a Market Order, then you want to enter your whole trading position NOW. No matter what the price is! So, in this case, you Buy 5 Lots for 1.1900 and automatically 5 lots for 1.1901.

Pros & Cons Of Market Orders
The upside of Market Order: You enter your whole trade NOW.

The downside of Market Order: If there is not enough liquidity, then you will get a slippage = you will enter (or quit) your trade (or a part of it) for a worse price.

Btw. this is also why it is so important to have a good broker with good liquidity!

LIMIT ORDERS
Limit orders are used by “passive market participants”. Again, this can be everybody – you, me, Goldman Sachs,… Everybody who enters their trade with a Limit (pending) order.

A Limit Order is considered passive because you place it and you wait until the price reaches it. You are passive. You don’t need to enter your trade now. You wait until the price comes to you – to a trading level where you are willing to Buy/Sell.

This is the exact opposite of Market Orders, see?

EXAMPLE: You want to Buy 10 Lots of EUR. It is important for you that you buy it for 1.1900. You enter a Buy Limit Order for 10 Lots at 1.1900. Then you wait = you are passive.

When the price makes it to 1.1900 and there are enough people willing to sell for 1.1900, you will get filled and you buy 10 Lots of EUR for 1.1900 – that’s the good scenario.

What can happen with a Limit Order is that when the price makes it to 1.1900, the Sellers will only be willing to sell 5 Lots. In this case, you will buy 5 lots and that will be it. You will need to wait again for the price to go to 1.1900 in order to get matched with some more sellers who will sell you the remaining 5 Lots.

See the difference? With Limit Orders, you don’t chase the market. You are only willing to trade for 1.1900. The risk here is that you will get filled only partly. Don’t think this happens only with big trading positions. This can happen also with smaller ones (even below 1 lot).

Pros & Cons Of Limit Orders
The upside of Limit Order: You will get filled EXACTLY for the price you choose. No slippage.

The downside of Limit Order: There may not be enough liquidity (counter party to your trade) at your price level and your trade will get filled only partly.

Should I Use Market Or Limit Orders?
Is Market Order better than Limit Order? Or is this the other way around? Which one to use in your trading?

As usual, there is no a simple answer 🙂

If you need to enter your trade NOW, then you should use a Market Order. Those are also good if the trading instrument you trade is not too liquid.

I personally prefer Limit Orders. The reason is that I have a complete control over the exact price where my trade gets filled.

An important thing is that I have a good broker with deep liquidity pool. This means that I don’t have problems finding Sellers when I want to Buy and Buyers when I want to Sell. Not even when I use Limit Orders to trade some less popular trading instruments.

So, all in all, having a good broker helps because you can trade with Limit Orders without limits (pun intended:))

Do BIG Trading Institutions Use Market Or Limit Orders?
Hedge funds, banks, pension funds… All those BIG institutions don’t use Market and Limit Orders exactly like us. Yes, the rules are the same for them but because they have enormous amounts of capital to allocate, they play the game a bit differently.

To put this very simply – institutions do two things:

1. BIG Institutions Accumulate Their Trading Positions
Trade accumulation means that institutions are entering their huge trades slowly. They need time to enter their huge positions. It’s not a one-click situation for them (like it is for us). They need time because their capital and trading positions are too big.

They are entering their trades slowly in areas where the price goes sideways (a rotation). In areas, where the price doesn’t move too much. Why?

Because they need to enter their trades secretly. Goldman Sachs doesn’t want anybody to know that they are buying crazy amounts of EUR, right? This would start a trend and they wouldn’t be able to fully enter their trades before that. So they need to enter their trades unnoticed – in a rotation.

How do they do it? They have algorithms that are entering both Market Orders and Limit Orders automatically. Very often by just small 1-2 Lot amounts, but super fast (such orders are called the “Iceberg Orders”).

In a rotation it doesn’t really matter if they use Market or Limit Orders. The reason is that the price doesn’t move too much there. Why they use both type of orders then? To mask their intentions!

A Little Extra
***WARNING: Only read this last part if you are ready for a headache. Otherwise, you can skip it :)***

When they enter a Limit Buy, then it gets filled for the price on Bid. When they enter Market Buy, then it gets filled for the Ask price.

So, if they Buy 1 Lot with Limit Buy, and then 1 Lot with Market Buy, then 1 Lot will show on Bid, 1 Lot on Ask (you can see this for example with Order Flow software). The funny thing is that the institution has just bought 2 Lots.

Confusing? Good. It should be confusing! Because they do this to confuse and hide their intentions 🙂

2. Big Institutions Manipulate The Price
After they have entered their huge trading positions, the institutions need to move the price in order to make some money with those positions.

If they had been accumulating a huge Long position on EUR, then they need to push the EUR upwards – into an uptrend. This will make those positions profitable.

How do they start an uptrend? This is where Market Orders come into play! They will start placing a lot of Market Long Orders. This will start to move the price higher. You can imagine this as if they started to shout “We are Buying all there is, we want it now!” Something like this will definitely bring the attention of others.

Other market participants will see this – all those aggressive Long orders and they will start to join in the party – a snowball effect. This is how the manipulation works – through Market Orders.

A good time for this is during significant Macro news releases because during macro news this does not look like a market manipulation but only as a reaction to macro news.

I hope you guys liked this article. There is a bit more to this topic so let me know if you found this interesting and if you want me to do a 2nd part 🙂

Happy trading,

-Dale