How Brokers Execute Trades: What Every Investor Should Know
When you place an order to buy or sell a security, it passes through several steps before it is filled. Understanding that path, and the order types available, helps you control costs and avoid surprises.
What happens after you click
Your brokerage firm receives the order and routes it to a place where it can be executed. That might be a stock exchange, an electronic trading network or a market maker who trades from its own inventory. Firms are required to seek the best reasonably available execution for customers, which looks at price, speed and likelihood of completion. Some brokers also receive payment for sending orders to particular venues, so ask your firm to explain its practices.
Common order types
- Market order: Buy or sell right away at the best available price. This is fast, but the price you get can differ from the last price you saw, especially in fast-moving or thinly traded markets.
- Limit order: Buy at or below, or sell at or above, a price you set. You control the price, but the order may not fill.
- Stop order: Becomes a market order once a trigger price is reached. It is often used to limit losses, but the fill price can be worse than the trigger in a sharp move.
- Stop-limit order: Becomes a limit order at the trigger, which protects the price but may not execute.
You can also choose how long an order stays active, such as for the day or until you cancel it.
Costs beyond commissions
- Bid-ask spread: the gap between the highest price buyers will pay and the lowest sellers will accept. It is a real cost, particularly for less active securities.
- Slippage: the difference between expected and actual execution price.
- Fees: some firms charge for certain order types or services.
Practical tips
- Use limit orders for thinly traded investments and for large orders.
- Be careful around the market open and close, and during major news, when prices swing.
- Check your confirmations to make sure the price, quantity and time match your order.
- Know that after-hours trading often has lower volume and wider spreads.
- Know that trades generally settle in a short, standard period after the trade date.
Tax records
Your confirmations and year-end statements establish the dates and prices that determine your gain or loss. Keep them, and verify the cost basis your broker reports. Different lots of the same security can be taxed differently depending on which you sell.
Investor education is available at investor.gov. For questions about how your trades will be taxed, contact our office.
This article is general information, not tax, legal or investment advice for your specific situation.