What is a Limit Order Book?

The limit order book is a term used in stock market trading to refer to the list of pending limit orders that is compiled by the specialist. Usually, a limit order book is used by stock brokers to keep track of orders to buy or sell stock within a specific price threshold, called limit orders. Limit orders differ from market orders because they require that the stock is only purchased at a certain price, while market orders are agreements to purchase the stock at the current market price.

Limit orders can benefit buyers by placing a limit on how much they pay for a stock. Stocks can often rise quickly, developing to several times their original prices by the time a standard market order is executed by a brokerage. Placing a limit order can help protect a buyer from paying the market price if a stock skyrockets, which can keep the buyer from experiencing losses if the stock immediately falls.

An order book is most often used in day trading. Also called "Level 2 Market Data," the order book contains information about bids and bidder information included in stock orders from brokerages. Data in an order book can include high and low bid prices, available shares and the current lowest asking prices from sellers. A limit order book contains the same information, except the limit order book only has market data for limit orders.

One drawback to limit order stocks is the possibility that the stock purchase will never be made. In a way, limit orders are predictions that the stock will eventually rise or fall to a set price. If a stock never falls to the buying threshold on a limit order, the purchase will never be made. Likewise, if a stock never rises to the sell threshold indicated by the stockholder, the stock will never be sold. Another problem with limit stocks is the increased expense, because stock brokerage firms tend to charge more money for limit order services than ordinary market orders.

A market specialist is the person at the stock exchange responsible for negotiating sales between buyers and sellers. To maintain market stability, the specialist is expected to execute the limit orders as they meet their price thresholds, but prioritized by which is the best bid for the stock using the information in the limit order book. The specialist is also responsible for keeping updated information on prices and bids of buyers and sellers in the stock exchange.