Crypto centralized exchanges (CEXs) and decentralized exchanges (DEXs) are widely used to trade or invest in cryptocurrencies. While most DEXs employ an automated market maker (AMM) model, CEXs typically use an order book model to match orders. This allows you to buy and sell your crypto tokens, or even use leverage to open positions. These transactions are triggered by buy or sell orders, which specifies how much you want to transact, and how the order is executed.
In this article, CoinMarketCap Academy takes a look at these orders, to help you understand how limit, market and stop orders work when trading crypto.
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What Is an Order Book?
An order book is a database that records buy and sell orders for an asset. It is divided into sections for buyers and sellers, with bids and asks representing buy and sell orders respectively. Bids and asks have different colors indicating buy and sell prices. The book's visualization methods display the interaction between buyers and sellers. The bid-ask spread represents the supply and demand strength.
Traders can always see the order book, which can give them insights into the available liquidity and demand.
The orderbook shows price, the size in BTC, and the value of those orders in USDT.
This orderbook constantly updates as orders (and liquidations) are executed, and new orders are added to the book every second.
The simplest one of the bunch, market orders are when you purchase a specified amount of a crypto asset instantly, at whatever best price is available in the orderbook. For example, John wants to buy 1 Bitcoin right now, and is fine with paying the market price to get his Bitcoin as soon as possible.
Advantages of Market Orders
The advantage of these orders lies in the speed of execution. Market orders are often executed at a near instant, using the best available order in the orderbook. This is useful for traders that require near-instant execution.
Disadvantages of Market Orders
A drawback of market orders is that these orders are considered taker orders (as you are taking away liquidity from the orderbook), for which exchanges charge higher fees.
Additionally, if the orderbook is relatively empty, a big market order might only get filled at prices that are significantly higher than the current market prices. This phenomenon is called slippage; and can cost you dearly. Seasoned traders therefore often prefer to use limit orders.
What Is a Limit Order?
To prevent unnecessary slippage, limit orders can be used. While market orders only allow traders to specify how much of a cryptocurrency they want to purchase, limit orders let you set a price below the current price when you wish to buy, or a price above when you wish to sell. For example, BTC is currently trading at $27,500. However, if Jane wants to sell 1 Bitcoin at $28,000, she can set a limit order at $28,000 for 1 BTC.
For limit buy orders, traders typically want to purchase the crypto asset lower than the current price to get a better entry. Therefore, they will set a limit order below the price that the asset is currently trading at, which will be triggered only if price reaches that level.
For limit sell orders, traders typically want to sell the crypto asset higher than the current price. Therefore, they will set a limit order above the price that the asset is currently trading at, which will be triggered only if price reaches that level.
Advantages of Limit Orders
A limit order allows traders to set a limit to the price they are willing to pay, or how much they are willing to accept for their asset. The ability to set these limits gives traders additional control over the price they pay for the asset. It allows traders to prevent unnecessary slippage, or even set orders far away from price, to prepare for a potential pump or dump.
Disadvantages of Limit Orders
On the other hand, a downside is that limit orders are never guaranteed to execute if price never touches the level during the duration of the order.
Limit orders stay in the book until the exchange finds an order (market, limit or liquidation) to match it.
Stop orders are a kind of order that does not enter the orderbook until a certain price level – the stop – is reached. Traders can pre-set this stop level, and when the market price reaches this stop level, their order is sent into the orderbook. Usually, these orders are stop market orders, that buy or sell X amount of a cryptocurrency at the best available price, as soon as the stop is triggered.
For example, Jean wants to protect himself from losses; if the price of Bitcoin falls below $22,000, he wants his Bitcoin to be sold. For this, he uses a stop market order, with his stop at $22,000.
Another kind of stop order is the stop-limit, which sends a limit order into the order book as soon as the stop is triggered. Traders again can pre-set their stop level, but they can also set the price at which they want their limit order to be sent into the books.
Advantages of Stop Orders
Stop orders allow traders to protect themselves from losses and limit their risks. By setting a stop price, traders can automatically trigger an order to sell their assets if the crypto asset price falls to a certain level. This can help traders avoid significant losses in case of a sudden downturn. Stop orders can also be used to lock in profits by setting a stop price that is higher than the purchase price. Additionally, stop orders can be used to enter a trade automatically, allowing traders to take advantage of price movements without having to monitor the market constantly.
Disadvantages of Stop Orders
While giving the trader the control over the price at which the order is filled, stop-limits can be left unfilled if the market moves through the stop level rapidly. For example, when a stop-limit. (Stop $20,000; Limit $19,995) is triggered while price rapidly corrects, there might not be anyone interested in buying Bitcoin at $19,995. This will leave the limit order open, and the trader will be left with his coins, even though he hoped his stop-limit order would prevent losses.
Other Types of Orders
Good-Til-Canceled Order (GTC): This order is placed in the order book, and stays there until it is executed, or canceled manually.
Immediate or Cancel Order (IOC): This order is placed in the order book, but if it is not immediately filled, it is canceled. This order might also be referred to as a Fill or Kill order. In some situations, an IOC order can also allow a partial fill.
One Cancels the Other Order (OCO): This type of order is a combination of two instructions, where the execution of one of these instructions automatically cancels the other one. For example, when Amy places a limit sell order at $35,000 and a stop loss at $21,000, she wants the stop order to be canceled if price reaches her limit sell order, and the other way around.
Knowing what types of orders you are dealing with is a key part of trading. Depending on your trading style, you might find that one of these works well, and another order type doesn’t suit your approach.
Keep in mind exchanges may have their own definitions of order types, and it is important to consult the official documentation provided by the exchange before trading there. Make sure you understand the order types an exchange offers, before entering trades with them.
Writer’s Disclaimer: This article is based on my limited knowledge and experience. It has been written for educational purposes. It should not be construed as advice in any shape or form. Please do your own research.
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