Spread (Bid-Ask Spread)
#Definition
The spread or bid-ask spread is the difference between the highest price a buyer is willing to pay (bid) and the lowest price a seller is willing to accept (ask) for a contract. It represents the transaction cost and is a key indicator of market liquidity.
#Formula
Spread = Ask Price - Bid Price
Spread % = (Ask Price - Bid Price) / Mid Price × 100%
#Example
- Bid: $0.48
- Ask: $0.52
- Spread: $0.04 (or 4 cents)
- Mid Price: $0.50
- Spread %: 8%
#Interpretation
#Narrow Spread (< 2%)
- High liquidity
- Active trading
- Efficient market
- Low transaction costs
#Wide Spread (> 5%)
- Low liquidity
- Limited trading
- Higher transaction costs
- Potential for manipulation
#Who Earns the Spread?
Market Makers capture the spread as compensation for:
- Providing liquidity
- Taking on inventory risk
- Adverse selection risk