Every financial product in the marketplace has two prices associated with it: the bid price and the ask price. This essentially represents the compensation for the middleman (more commonly referred to as the “market maker”) that helps to facilitate the order by bringing buyers and sellers together. The market maker stands ready to act as the counterparty to all transactions. He buys on the bid price and sells on the ask (or offer) price. The ask price is almost always greater than the bid price, and thus the trader is always getting the ‘short end of the stick’ when using market orders.
A limit order allows a trader to act like the market maker, in that limit buy orders build depth on the bid side and limit sell orders build depth on the ask side. This seems counterintuitive and opposite from how market orders behave. An easy way to understand this relationship is to imagine that limit buy orders are waiting for market sell orders to be filled, and limit sell orders are waiting for market buy orders to be filled.
Most traders aim to get their orders filled near the midprice, or somewhere between the bid and the ask. This allows them to lower their purchase price below the ask and improve their sale price above the bid.
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