This article provides tips for online stock trading, and examines the various types of buy and sell orders that can be placed. It also highlights the advantages of online trading.
Online trading has gathered momentum over the years. There are a number of online brokerage firms, but the choice of an appropriate brokerage firm would depend on factors like commissions, fees, minimum balance required to create an account, access to various markets, range of investment products, and investment tools provided to the online trader. In the U.S., stock trading is regulated by the Securities and Exchange Commission (SEC).
Tips for Online Stock Trading
Market Order Vs. Limit Order
An online trader has the option of placing either a market order or a limit order while buying and selling stocks. A market order enables an investor to buy the stock at the prevailing market price. In case of highly volatile stocks and IPOs, the price at which an investor places the order, and the price at which the order gets executed, may vary to a great extent. This is when a limit order assumes importance. A limit order is always placed away from the market.
There are two kinds of limit orders: buy limit orders and sell limit orders. A buy limit order specifies the maximum price at which the stock can be bought; while a sell limit order specifies the minimum price at which the stock can be sold. Also, a buy limit order is placed below the current market price; while the sell limit order is placed above the market price. The advantage is that we will never end up buying at exorbitant prices and selling at rock bottom prices. The disadvantage is that, our order may not get executed.
Stop Order Vs. Market Order
An online investor has the option to place a stop order. A stop order specifies the price at which a stock can be bought or sold. There are two kinds of stop orders: sell stop orders and a buy stop orders. A buy stop order protects our profits in case of short sales. A short sale involves borrowing and selling the stock. Let us examine the case when a trader short sells the stock for USD 100. If after selling the stock the price falls to USD 80, the trader has a golden opportunity to buy the stock.
In case the stock starts appreciating again, the trader can place a buy stop order at, say, USD 85. Similarly a sell stop order is used to protect our profits in case we feel that the prices may fall after rising in the near future. For instance, if a stock is bought at USD 80 and it appreciates to USD 95, we can place a sell stop order at USD 90 if we feel that the stock price may decline in future. Once the stop price is reached, the stop order gets transformed to a market order.
Placing Stop Limit Orders
A stop limit order combines the features of a stop order and a limit order. A trader generally buys a stock if he feels that the price of the stock will rise in the near future. A stop limit buy order may help a trader buy the stock just before it starts appreciating. Let us assume that the market price is around USD 90. If a trader places a stop order at USD 95 and a limit order at USD 97, the stock will be bought between USD 95 and USD 97 (both inclusive). This is an example of a stop limit buy order.
Margin trading is a facility that is provided to online traders. An investor who has a margin account can buy securities by borrowing a certain amount from the brokerage firm. The securities act as a collateral for the amount borrowed. The investor is expected to maintain a certain balance in his margin account. This is known as the maintenance margin. In case the price of the security drops below the maintenance margin, the investor is forced to bridge the gap. Sometimes the firm might sell the collateral without informing the investor. Hence, one should be cautious before indulging in margin trading.
Advantages of Online Trading
Online stock trading has numerous advantages. One of the advantages is the ease with which transactions get executed. The execution is generally instantaneous. The brokerage charged on the buy and sell orders is nominal. A system of linked accounts allows the investor to keep track of his assets. Portfolio management becomes an easy task. The investor is able to research online with the help of easy-to-use research tools.
Many online brokerage firms provide the customer direct access to experienced brokers who can help him invest in an appropriate manner. A trader has access to many markets and can invest in foreign companies by buying American Depository Receipts (ADRs). The best feature of online trading is the ability to earn money while staying at home.
Most of these features are available on creating an account with any online broker. Some of these services might require an additional charge. While deciding on an online stock broker, it is advisable to compare the services offered by the brokers and ensure that there are no hidden fees. In addition to this, an investor should understand the risks involved in online stock trading. A cautious investor is one who enjoys the advantages provided to him, without jeopardizing his financial independence.