Trading Passively vs Aggressively in the Stock Market

There are two ways in which you can buy or sell stock in the market: passively and aggressively. Before getting into the differences, here’s a little background:

Bids & Offers

A fair marketplace trades at the current prices in which buyers and sellers are willing to meet. Really, the right way to quote a stock or to tell someone where it’s trading is to state the current best bid by the current best offer.

“The National Best Bid and Offer (NBBO) is a quote that reports the highest bid price and lowest ask (offered) price in a security, sourced from among all available exchanges or trading venues. The NBBO, therefore, represents the tightest composite bid-ask spread in a security.”

– Investopedia

Basically, the bid price is the price at which the buyer wants to purchase the stock or security, and the offer or ask is the price at which the seller would like to sell the stock or security.

For example, we may say a stock is:

That would be an example of your bid/offer spread. In other words, the highest inside bid is at $20.02 and the highest inside offer is $20.04.

In every stock market transaction, there is a buyer and a seller. Additionally, there is always a passive or aggressive buyer and a passive or aggressive seller on each side of the trade – one matching the other.

Passive Trading

There are reasons and benefits for trading passively in the marketplace. To buy a stock passively, I would place a bid at or below the inside bid.

If the current bid price is $20.02, I could place a passive buy order with a bid at $19.95 – the price I want to buy.

Another option would be to put a bid in right away at $20.02 and go on the inside bid, hoping someone fills me. This is considered a passive bid because I have no guarantee of getting the stock.

The only way I could buy at $20.02 is if there’s a seller out there who is willing to aggressively cross the market and hit my bid. That’s how I would get long through passive trading.

Aggressive Trading

The other way to buy stock would be to aggressively purchase the shares. If I need stock right away, I could come in and aggressively buy the stock by just taking the inside offer.

I could use a Market Buy button, or I might take that bid and cross it over the offer. This means changing the bid price to a number equal to or higher than the offer price – making it more likely I am filled on my order, but sacrificing a better price by doing so.

Back to the prior example, if the inside bid is $20.02 and the inside offer (or ask) is $20.04, I could use a market buy to purchase shares, which should fill me at $20.04.

That immediately gets me long the stock at $20.04; in this example, I would be buying aggressively from a passive seller at $20.04.

As a seller, I can offer out at $20.04 or above to sell passively. If there’s someone who’s willing to buy right now at $20.02, that bid is posted to the inside market.

Why Trade Passively vs Aggressively?

Why would you ever put a bid into the market or use a passive order that might not get filled if I want to get stock? Well, there’s a couple of reasons.

First of all, if I am aggressive and place a market buy order to get long, I am paying the spread. The spread is the difference between the bid and the offer.

Back to our example: if the inside bid is $20.02 and the inside offer is $20.04, the spread equals $0.02.

So, if I am buying aggressively, I have to pay across the spread. This means I am guaranteed to get stock, but it could be at a worse price than the inside bid or even mid-market price.

We also have to think about the potential repercussions of transaction costs.

The way exchanges typically work is they are willing to pay you if you put passive orders into the marketplace, but you have to pay them if you are using aggressive orders.

For someone trading in a broker with Direct Market Access, if they place that bid at $20.02 and an aggressive seller sells to them, the exchange will actually pay them a rebate (money) for the order. Meaning, you can potentially get paid to trade.

Or the opposite: if you need the stock right now and buy aggressively, you may have to pay the exchange for the privilege of doing so.

So Which Way Should I Trade?

This all begs the question, well, what should I do?

Should I sit there and place a passive order and hope I get filled? This will save me some money on the spread as well as transaction costs. I will be getting paid (if your broker provides you Direct Market Access) to place the order after it’s filled.

Or is it better for me to be aggressive and take the offer? The answer to that question really depends on the type of trade you’re taking.

Momentum Trading

With momentum trading, you typically want to buy high to sell higher. Generally, if I’m doing this style of trading, it often requires me to be an aggressive buyer.

It could be a bad sign if you’re placing bids in a name and sellers are filling you. In this case, I’ll most likely market into the stock to take the offer and pay the spread. It’s not worth missing a $2.00 up move to try to save $0.05 on your entry price. Opportunity cost is always important to consider!

Buying the Dip

A trade where I could be a bit more passive in entering the position would be dip buying in front of support for a stock. This is a type of trade I could bid into the marketplace at prices I want.

For example, if a stock has a support level at $20, I might put a bid into the market – which would be a passive order – above $20, hoping that the market will come down and fill my order while holding the support level, and then proceed to bounce.

That’s the general difference between buying or selling passively and aggressively; there are different trade-offs to both ways of entering the market. I try to do whatever is right for the situation for each particular trade.

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– Derrick Oldensmith

Senior Trader and Managing Supervisor