Trading & Order Types

On the exam the tell is a quote with two prices and a “size” (e.g., 20.00 (10) – 20.05 (5)), where the parenthetical numbers are round lots of 100 — so 10 means 1,000 shares bid, 5 means 500 offered. The question usually forces you to pick which side the customer hits: a customer selling hits the bid, a customer buying lifts the offer (ask) — and the spread is the dealer’s compensation for committing capital, not a commission, so it isn’t itemized as a separate confirmation charge. Watch the trap that a wide spread means a “bad” stock; it signals low liquidity (thin volume, few market makers), often a small-cap or thinly traded name.

Don’t confuse the spread with a markup/markdown (the principal-capacity charge): the spread is embedded in the dealer’s two-sided quote, while a markup is what’s added over the prevailing market price. Distinguish the inside market — the highest bid and lowest offer across all market makers, i.e., the NBBO — from any single dealer’s quote; best-execution duty (FINRA 5310) is measured against that NBBO. A market order crosses the spread for an instant fill; a limit order can rest inside it. Mnemonic: customers Buy at the Ask and Sell at the Bid — you always take the worse price.

Expect a scenario that hands you a quote and a limit price and asks whether the order fills, and at what price. The “or better” rule is the tell: a limit executes at the limit price or more favorably — a buy limit at 30 fills at 30 or lower, a sell limit at 40 at 40 or higher — so an answer claiming a customer paid more than a buy limit is wrong. Watch too for the marketable (or “executable”) limit order, priced at or through the current quote so it fills right away like a market order, and for partial fills.

Don’t confuse limits with stop orders: a buy stop rests above the market and a sell stop below — the mirror image of limits (mnemonic: BLiSS = buy limits/sell stops below, SLoBS = sell limits/buy stops above). Also separate the order type from best execution (FINRA Rule 5310), the firm’s duty to use reasonable diligence for the best market on every order, regardless of type. Memory hook: “limit = your price or better, but maybe never.”

The classic item gives you a starting price, a stop, and either a falling or rising tape, then asks what happens when the stock touches the stop. The tell: in a gap or fast move the order can fill far from the stop — the wrong answer assumes it fills at the stop. With a stop-limit the trap flips, because the exam wants you to see it can trigger and never fill when price blows past the limit. Watch for “sell stop limit” in a crash and “buy stop limit” in a spike.

Don’t confuse a stop with a plain limit order: a buy limit sits below the market while a buy stop sits above it — opposite sides, the most-missed contrast. The buy stop is the standard hedge for the unlimited-loss short sale, where a runaway price can climb without bound. Memory hook: a stop triggers, then a limit caps — trigger first, fill second.

The SIE loves to test short selling through Regulation SHO: the order ticket must be marked “short” (not “long”) under the order-marking rule, and before execution the firm must reasonably believe it can borrow the shares — the pre-trade “locate” requirement. The classic trap is confusing this locate with the now-defunct uptick rule; the old plus-tick test was eliminated in 2010 and replaced by the alternative uptick rule (Rule 201) circuit breaker, which restricts short sales only after a stock falls 10% or more intraday from the prior close, lasting that day and the next (some older question banks still drill the original uptick rule). Expect a maintenance-margin question too: short positions require 30% of market value, versus 25% for longs.

Watch the order-type pairing: a short seller’s protective order is a buy stop above the market, mirrored against a long’s sell stop below — flipping them is the most-missed Stop Orders point. Shorting also depends on the optional loan-consent agreement, the one margin form a customer need not sign, which lets the firm lend out the customer’s shares to other short sellers.

The exam loves a scenario-to-label question: it describes the trade mechanics and asks for the capacity and the compensation. The tell is the source of the security — if the firm reaches into its own inventory, it’s acting as principal/dealer and earns a markup (on buys) or markdown (on sells); if it shops the order to a third party, it’s an agent/broker earning a commission. A firm fills any given trade in one capacity, never both, and the confirmation must spell out which (SEC Rule 10b-10).

Don’t confuse the spread (a dealer’s principal compensation built into bid/ask) with a commission, an agency add-on disclosed separately. Best execution is a classic trap: under FINRA Rule 5310 it’s owed on every order regardless of capacity — principal status never lowers the duty. And the 5% policy is a guideline, not a hard cap (Rule 2121; some older banks still treat 5% as a ceiling) — fairness turns on type of security, price, and execution effort. Hook: Agent = Add-on commission; Principal = Price baked in.

On the exam the tell is a scenario where the firm gets something — a rebate, payment for order flow, or routing to an affiliated venue — while the customer gets a worse fill; the answer is always that the firm still owed best execution and violated FINRA Rule 5310. Watch the trap that price is the only factor: the review also weighs the size and type of order and the markets actually checked, and Rule 5310 demands a “regular and rigorous” review (at least quarterly, security- and order-type-by-order-type) of where the firm routes. A firm cannot simply route everywhere it always has.

Don’t confuse best execution with the bid-ask spread — that’s the quote the customer trades against, not the firm’s diligence duty. A handy hook: best execution is about the route to the trade, not the price tag on the trade. Note that limit orders can go unfilled without breaching the duty — non-execution because the market never reached the limit isn’t a best-execution failure, since a limit order guarantees price, not a fill.

Expect a question that hands you a percentage drop and asks for the outcome, or one that probes the reference point and once-per-day rule. The tell: market-wide breakers measure off the S&P 500’s prior-day close (not the Dow), and Levels 1 and 2 can each halt trading only once per trading day — a second 7% slide after a Level 1 reset does nothing unless it deepens to the 13% Level 2. LULD single-stock pauses run five minutes and key off a rolling five-minute average reference price, distinct from the index-wide mechanism.

The classic trap is conflating a halt with an order type: stop and limit orders don’t pause the market — they’re your instructions. A stop order won’t trigger while a stock is frozen (no prints), but it rests through the halt and can fire on a violent reopen that gaps past your stop. Don’t assume a halt shields your short either; a regulatory news halt can reopen sharply against you, which is why short-sellers lean on buy stops above the market, not the circuit breaker.