Identification

• In basic terms, the bid price is the amount you will receive if you sell a stock--or option, bond or ETF--while the ask price is what you pay to buy the security. The bid price will be lower than the ask price. The bid or ask is the price at which your order will be filled if you place a market order to sell or buy a security. The difference between the bid and ask prices is called the bid/ask spread.
  
  

Significance

• The availability of bid and ask prices in the securities market allows for the rapid completion of trade orders. The published bid and ask prices are the prices market makers are willing to pay or accept for an immediate completion of the trade. There is no negotiation necessary to purchase a security at the ask price or sell a security for the bid price. When an investor buys a security at the ask price, the bid price must increase to the level of the purchase price before the investment is at break-even.
  
  

Effects

• The size of the bid/ask spread is proportionate to the trading activity in the security. Stock shares of large, popular companies such as Apple, Walmart and Coca Cola may have a spread of just a penny. Thinly traded, exchange-listed stocks may see the spread widen to a nickel or dime. Over-the-counter stocks, where only a few hundred shares trade in a day or week, could see spreads of a dollar or more. Stock options will also see narrow or wide spreads based on the trading volume of the specific contracts.
  
  

Considerations

• Traders must consider the effect of the spread as well as commissions when calculating where a security must be in value to generate a profit. For individual traders, the bid/ask spread is an additional cost. Traders with a short time frame for trading, such as day trading or swing trading, should concentrate on securities with narrow bid/ask spreads. A narrow spread is an indication that an order will be filled quickly at the price shown on a brokerage account trading screen.
  
  

Potential

• The use of limit orders can help reduce the effects of the bid/ask spread. A limit order sets the price at which the investor wants to buy or sell the security. For example, if a thinly traded stock or option has a spread of 10 cents, a limit order placed halfway between the two prices will often be filled quickly. When attempting to split the price spread, an investor must monitor the order to see if it is filled, and to check the actual share price, to avoid an order fill because the share value has started moving in the wrong direction.