Lesson 2 of 7
How a trade happens
Follow one order from click to settlement, and see where the spread and the order type quietly cost you money.
By Javier Sanz
Founder of ValueScreener. Built Ninety Nine, a securities services provider, and sold it to a tier-one global bank; ran operations and internationalization at Alpaca, the brokerage API.
Who writes thisEditorial processLinkedIn (opens in a new tab)X (opens in a new tab)
In one minute
- An order moves from your broker to an exchange or market maker, then through clearing to a settled trade.
- Settlement takes one business day after the trade (T+1), a rule in force since May 2024.
- The bid-ask spread is a cost on every round trip, paid before any commission.
Clicking buy does not hand you a share on the spot. The order travels through several hands before it is settled, and two of those steps quietly set what you actually pay.
One order, from click to settled trade
- 1Youplace an order with your broker
- 2Brokerroutes the order onward
- 3Exchange or market makermatches your order, or takes the other side itself
- 4Clearingmatches and confirms both sides
- 5Settledownership changes hands, one business day later
Market order or limit order
A market order tells your broker to fill the trade right now, at whatever price the market currently offers. A limit order sets the most you will pay, or the least you will accept, instead.
Market order
- Fills almost at once.
- You do not choose the price.
Limit order
- Sets the most you pay, or the least you accept.
- May never fill.
Each trades certainty of execution against certainty of price.
Investor.gov, the SEC's own investor education site, lists a third kind, the stop order, which turns into a market order once a price is touched.
The spread is a hidden cost
Every quoted stock carries two prices at once: the bid, what a buyer is currently offering, and the ask, what a seller wants. A market order to buy fills at the ask; a market order to sell fills at the bid. Small orders are sometimes filled a little inside the spread; a large one can fill beyond the quote. The gap between the bid and the ask, the spread, is a cost that never appears on a statement. Buy at the ask and sell straight back at the bid, and the spread is what you lose on the round trip, before any commission and before the price has moved at all.
Settlement takes a day
The day you place the trade is not the day the trade finishes. Ownership and cash change hands on a separate settlement date, and an SEC rule effective 28 May 2024 shortened the standard cycle from two business days after the trade to one, called T+1. Until then the trade is binding, but the cash and the shares have not yet moved.
Not every hour trades the same
The spread above assumes a stock trading during the regular session, 9:30 a.m. to 4 p.m. Eastern time. Trade before the open or after the close instead, and the spread is typically wider and the number of buyers and sellers thinner, because fewer people are watching the quote at all. The mechanism, broker to exchange to clearing to settlement, is the same in extended hours; the price offered for taking either side of the trade is usually worse.
Check yourself
A stock's bid is $19.95 and its ask is $20.05. What is the spread as a percentage of the $20.00 midpoint?
- 0.1 percent
- 0.5 percent
- 5 percent
Show the answer
Answer: B.
The spread is $0.10. Divided by the $20.00 midpoint, that is 0.5 percent, a cost before any commission.You want to guarantee your buy price and can wait to get it. Which order do you place?
- A market order
- A limit order
- A stop order
Show the answer
Answer: B.
A limit order sets the most you will pay and may simply not fill. A market order guarantees the fill, not the price.Under the rule in force since May 2024, how long after a trade does settlement take?
- The same day
- One business day (T+1)
- Two business days (T+2)
Show the answer
Answer: B.
The SEC's rule effective 28 May 2024 shortened standard settlement from two business days to one.Sources
- SEC, Investor.gov, on market orders, limit orders and stop orders.
- SEC rule shortening standard settlement to one business day (T+1), effective 28 May 2024.
What this leaves out
- The bid, ask and spread here are illustrative. A real quote moves continuously during trading hours.
- Order types and routing vary by broker. This lesson describes the general mechanism, not any one broker's interface.
- Nothing here is advice about any security or about how to place an order.