The bid-ask spread is the difference between the highest price a buyer is willing to pay for a security and the lowest price a seller is willing to accept.
In investing, the bid-ask spread is a trading cost and liquidity indicator. A narrow spread usually means a security is highly liquid and actively traded, while a wide spread may indicate lower liquidity, higher volatility, or greater transaction costs.
Why the Bid-Ask Spread Matters
The bid-ask spread matters because investors may lose money to the spread every time they buy or sell a security.
When buying, investors typically pay near the ask price.
When selling, investors typically receive near the bid price.
The difference between those two prices represents part of the cost of trading.
Fundamental investors use the bid-ask spread to answer:
“How much could market liquidity and trading friction affect the price I actually pay or receive?”
For long-term investors, the spread may seem small, but it can still matter when trading:
- Small-cap stocks
- Thinly traded securities
- Bonds
- Options
- Micro-cap stocks
- Less liquid ETFs
- Securities during volatile markets
Bid-Ask Spread Formula
The basic formula is:
Bid-Ask Spread = Ask Price - Bid PriceFor example:
Bid Price: $49.90
Ask Price: $50.10
Bid-Ask Spread = $50.10 - $49.90
Bid-Ask Spread = $0.20The spread is $0.20 per share.
Investors can also express the spread as a percentage:
Bid-Ask Spread % =
(Ask Price - Bid Price) ÷ Midpoint Price × 100Where:
Midpoint Price = (Bid Price + Ask Price) ÷ 2Example of Bid-Ask Spread
Suppose a stock is quoted at:
Bid: $25.00
Ask: $25.20The spread is:
Bid-Ask Spread = $25.20 - $25.00
Bid-Ask Spread = $0.20If an investor buys immediately at the ask price and then immediately sells at the bid price, the investor could lose approximately:
$25.20 - $25.00 = $0.20 per shareOn 1,000 shares:
Estimated Spread Cost =
1,000 × $0.20
Estimated Spread Cost = $200This illustrates why spreads matter, especially in large or frequent trades.
What Is the Bid Price?
The bid price is the highest price a buyer is currently willing to pay for a security.
If a stock shows:
Bid Price = $40.00that means buyers are currently offering up to $40 per share.
An investor who sells immediately using a market order may receive a price near the current bid, depending on available liquidity and order size.
What Is the Ask Price?
The ask price, also called the offer price, is the lowest price a seller is currently willing to accept.
If a stock shows:
Ask Price = $40.10that means sellers are offering shares at $40.10.
An investor who buys immediately using a market order may pay a price near the ask.
Bid Price vs. Ask Price
The bid and ask represent opposite sides of the market.
| Quote | Meaning |
|---|---|
| Bid Price | Highest price buyers are willing to pay |
| Ask Price | Lowest price sellers are willing to accept |
| Bid-Ask Spread | Difference between the ask and bid |
For example:
Bid: $99.80
Ask: $100.00
Spread: $0.20The buyer wants to pay less. The seller wants to receive more. The spread represents the gap between them.
Bid-Ask Spread in Fundamental Investing
Fundamental investors usually focus on intrinsic value, business quality, earnings power, and long-term return rather than short-term market movements.
However, execution still matters.
A value investor may identify an undervalued stock but lose part of the margin of safety by paying an unnecessarily high execution price in an illiquid market.
Bid-ask spread analysis is especially useful when:
- Building positions in smaller companies
- Selling illiquid stocks
- Trading around earnings announcements
- Investing in thinly traded ETFs
- Buying individual bonds
- Placing large orders
A great investment thesis can still be hurt by poor execution.
Bid-Ask Spread and Liquidity
Liquidity describes how easily a security can be bought or sold without significantly affecting its price.
The bid-ask spread is one indicator of liquidity.
Narrow Spread = Usually Higher Liquidity
Wide Spread = Usually Lower LiquidityHighly traded large-cap stocks often have relatively narrow spreads.
Thinly traded securities may have wider spreads because fewer buyers and sellers are available.
Bid-Ask Spread and Trading Volume
Trading volume often influences the bid-ask spread.
A security with high trading volume usually has more market participants competing to buy and sell.
This can help narrow the spread.
A low-volume security may have:
- Fewer buyers
- Fewer sellers
- Larger price gaps
- Lower liquidity
- Greater price impact from trades
However, volume alone does not determine spread. Volatility, market structure, order size, and market conditions also matter.
Bid-Ask Spread and Market Orders
A market order tells a broker to execute immediately at the best available price.
Market orders prioritize execution speed over price control.
If an investor buys using a market order, the trade may execute at or near the ask price.
If an investor sells using a market order, the trade may execute at or near the bid.
This means market orders can expose investors directly to the bid-ask spread.
Bid-Ask Spread and Limit Orders
A limit order allows an investor to specify the maximum purchase price or minimum sale price.
For example:
Bid: $50.00
Ask: $50.30Instead of buying immediately at $50.30, an investor might place:
Buy Limit Order: $50.10The order will only execute at $50.10 or lower.
A limit order can improve price control, but execution is not guaranteed.
For illiquid securities, limit orders can help investors avoid paying unusually wide spreads.
Bid-Ask Spread and Market Makers
Market makers help provide liquidity by quoting prices at which they are willing to buy and sell securities.
A simplified market maker quote might be:
Bid: $75.00
Ask: $75.10The market maker may buy at the bid and sell at the ask.
The difference between the two prices can compensate the market maker for providing liquidity and taking inventory risk.
Spreads may widen when market makers perceive greater risk.
Bid-Ask Spread and Volatility
Bid-ask spreads often widen during periods of high volatility.
When prices are moving quickly, market participants face more uncertainty about the value at which they can resell a security.
Potential effects include:
- Wider spreads
- Lower displayed liquidity
- Greater slippage
- Faster price changes
- Higher trading costs
Investors should be especially cautious with market orders during volatile periods.
Bid-Ask Spread and Small-Cap Stocks
Small-cap and micro-cap stocks often have wider bid-ask spreads than heavily traded large-cap stocks.
Reasons may include:
- Lower trading volume
- Fewer market participants
- Less analyst coverage
- Lower institutional ownership
- Smaller public float
- Greater volatility
For a long-term fundamental investor, a wide spread can materially affect the entry or exit price.
This makes disciplined limit orders more important.
Bid-Ask Spread and ETFs
ETFs also have bid-ask spreads.
ETF investors should evaluate both:
- Expense ratio
- Bid-ask spread
The expense ratio represents ongoing ownership cost.
The bid-ask spread represents a potential trading cost.
ETF Cost =
Ongoing Fund Expenses
+ Trading FrictionA low expense ratio does not automatically make an ETF inexpensive to trade if it has a wide spread.
Bid-Ask Spread vs. Expense Ratio
The bid-ask spread is a transaction-related cost.
The expense ratio is an ongoing fund cost.
Bid-Ask Spread = Trading cost
Expense Ratio = Ongoing ownership cost| Cost | When It Matters |
|---|---|
| Bid-Ask Spread | When buying or selling |
| Expense Ratio | While holding a fund |
Long-term ETF investors should consider both.
Bid-Ask Spread vs. Commission
A commission is a fee a broker may charge for executing a transaction.
The bid-ask spread is the price difference between buyers and sellers.
Commission = Broker-related transaction fee
Bid-Ask Spread = Market-related transaction costEven when a broker offers commission-free trades, investors may still incur costs through the spread.
Commission-free does not mean friction-free.
Bid-Ask Spread vs. Slippage
Slippage occurs when the actual execution price differs from the expected price.
Bid-ask spread is the visible difference between the quoted bid and ask.
A large market order may move through multiple price levels, creating slippage beyond the displayed spread.
Bid-Ask Spread = Quoted price gap
Slippage = Difference between expected and actual execution priceBoth matter when trading less liquid securities.
Bid-Ask Spread and Position Size
Position size can influence execution quality.
A small order may be filled at the best available bid or ask.
A large order may exceed the number of shares available at the best quoted price.
For example:
Ask:
500 shares at $20.00
1,000 shares at $20.10
2,000 shares at $20.20An investor trying to buy 2,000 shares with a market order may receive several different execution prices.
This increases effective trading cost.
Bid-Ask Spread and Intrinsic Value
The bid-ask spread does not determine intrinsic value.
Intrinsic value estimates what a business is worth based on fundamentals.
The bid-ask spread affects the price at which the investor can transact.
Intrinsic Value = Estimated Business Value
Bid-Ask Spread = Trading Friction Around Market PriceFor fundamental investors, the ideal goal is to buy below intrinsic value while also controlling transaction costs.
A wide spread reduces the effective margin of safety if the investor pays too much to enter the position.
What Is a Good Bid-Ask Spread?
There is no universal good bid-ask spread.
A reasonable spread depends on:
- Security type
- Trading volume
- Market capitalization
- Volatility
- Order size
- Time of day
- Market conditions
- Exchange structure
For highly liquid securities, investors generally prefer very narrow spreads.
For less liquid securities, wider spreads may be normal.
The better question is:
“Is the spread reasonable relative to the security’s liquidity and the size of my trade?”
Advantages of Understanding the Bid-Ask Spread
Understanding bid-ask spreads can help investors:
- Reduce trading costs.
- Improve entry prices.
- Improve exit prices.
- Evaluate liquidity.
- Avoid poor market order execution.
- Compare ETF trading efficiency.
- Understand market maker activity.
- Manage large orders.
- Protect margin of safety.
- Identify illiquid securities.
The spread is one of the simplest ways to see market friction in real time.
Limitations of Bid-Ask Spread Analysis
Bid-ask spread has limitations.
Common limitations include:
- Quotes can change rapidly.
- Displayed liquidity may be limited.
- A narrow spread does not guarantee deep liquidity.
- Large trades can create additional slippage.
- Spreads can widen suddenly during volatility.
- Different markets have different normal spread levels.
- The displayed spread does not include every transaction cost.
- It does not measure intrinsic value or business quality.
Bid-ask spread should be used as an execution and liquidity metric, not an investment thesis.
Common Bid-Ask Spread Mistakes
Common mistakes include:
- Ignoring the spread
- Using market orders in illiquid securities
- Assuming commission-free trades have no cost
- Trading large positions without checking market depth
- Ignoring spread changes during volatile markets
- Comparing spreads without considering stock price
- Ignoring liquidity in small-cap stocks
- Focusing only on ETF expense ratios
- Confusing spread with broker commission
- Assuming the quoted price guarantees execution
Good execution protects capital that the investment thesis has already worked hard to earn.
Related Terms
- Bid Price
- Ask Price
- Market Order
- Limit Order
- Stock Market
- Stock Exchange
- Market Maker
- Broker
- Broker-Dealer
- Brokerage Account
- Liquidity
- Trading Volume
- Slippage
- Commission
- Expense Ratio
- ETF (Exchange-Traded Fund)
- Market Capitalization
- Small-Cap Stock
- Portfolio Management
- Intrinsic Value
- Margin of Safety
- Fundamental Analysis
- Value Investing