This article is brought to you by Standard Chartered Bank (UAE) Limited. All information provided is for informational purposes only.
The words ‘stock trading’ often call to mind images of rapidly moving price tickers, complicated graphs, and high-flying traders sitting in front of multiple computer screens. While that image is not wrong, it glosses over the simple fact that the act of buying and selling stocks, however infrequently, is still stock trading. This means most investors can do some form of stock trading.
Before you can progress into the various complexities of charting and trading strategies, you must first start with the basics.
Understanding Bid and Ask:
Bid – Represents the maximum price the market is willing to buy a stock. The bid is the price investors can sell a stock on the open market.
Ask – Also known as the “Offer”. Represents the maximum price the market is willing to sell a stock. The ask is the price investors can buy a stock on the open market.
Spread – The difference between the bid and ask is called the “spread”. Spreads are an indicator of market liquidity; the smaller the spread, the higher the liquidity, and vice versa.
When markets turn volatile and illiquid, spreads tend to widen. This is because low liquidity makes the process of matching buyers and sellers more difficult. E.g., investor A wants to buy 500 shares, but investor B only wants to sell 200 shares, hence the market makers must take on a higher risk and thus demand higher compensation.
What are Market Makers and Market Takers?
Market Makers – are the entities responsible for continuously quoting process in a certain market i.e., providing liquidity to the market, they profit from the bid-ask spreads. In stock trading, market makers are typically banks or brokerage companies.
Market Takers – Market takers are smaller individual participants who can only ‘take’ the prices the market makers offer. Market Takers buy at the ask price and sell at the bid price, but the market makers buy at bid price sell at the ask price.
Market Order – An order to buy or sell a certain quantity of a stock at the prevailing market price. Market orders can be filled almost immediately if there is enough volume to meet the order.
Limit Order – An order to buy or sell a certain quantity of a stock at a specific price (or better). Limit orders are filled only when there is enough volume at the specified price or better. E.g., an investor sets a limit order to buy Stock X at $10 – the system will only place the order if the price of the stock is $10 or less.
Stop Loss Order – An order to sell a certain quantity of stock if it dips to a specific price. It is a specific type of limit order used to minimize losses on a security by automatically selling it once it falls to a certain price. E.g. An investor bought a stock X at $10, setting a stop loss at $8 will limit maximum losses to $2 a share.