Question

5. Explain what is bid ask spread and the components. Provide examples of stocks that have large spread.

Answer 1

Bid - Ask Spread is an important parameter for intraday traders as well as normal traders which can affect their profitability. Bid-Ask spread is dependend on the liquidity of as stock( how easily a stock can be traded) and the supply-demand of a stock in the market.

Bid-Ask spread can be defined as the difference between the maximum bid price( the price at which the buyer is ready to buy the stock) and the ask price( the price at which the seller or owner of the stock willing to sell the stock).

The spread is the difference between the bid price and ask price prices for a particular security.

For eg: Goldman Sachs wants to buy100 shares of X company stock at $1, and BNY wants to sell 100 shares of X company at $1.2. The spread is the difference between the ask price of $1.2 and the bid price of $1 which is .2$. It is to be noted that the size of spread and price and directly affected by supply and demand.

A large spread means the volume of stocks traded are low and are traded fewer than other stocks. Whereas a small spread mean the volume of stocks are high, its highly liquida and are traded more than other stocks.

eg: Stocks like Berkshire Hathaway Inc. Cl A etc used to have large bid-ask spread just because the owners of the stock were not willing to sell the stocks in the range what buyers want to.