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How Bid and Ask Price Work in Trading

By Laurel Tincher · November 14, 2021 · 4 minute read

We’re here to help! First and foremost, SoFi Learn strives to be a beneficial resource to you as you navigate your financial journey. Read more We develop content that covers a variety of financial topics. Sometimes, that content may include information about products, features, or services that SoFi does not provide. We aim to break down complicated concepts, loop you in on the latest trends, and keep you up-to-date on the stuff you can use to help get your money right. Read less

How Bid and Ask Price Work in Trading

Bid and ask are commonly used terms when trading stocks and other securities. They are two-way price quotes that refer to the best potential price at which a security on the market could be bought or sold for at any given time. In other words, the best price that buyers and sellers would potentially be willing to buy or sell the asset.

There is a lot of trading terminology to know, but it’s important for traders to understand the bid and ask price of a security, especially as compared to the current market price.

The market price is a historical price: the price of the last trade that occurred with the security. The bid and ask prices, on the other hand, show what buyers and sellers would be willing to trade the security for in the future.

What is Bid and Ask?

Bid and ask prices show the current market supply and demand for the security.

Bid Price

The bid price is the best potential price that retail investors would be willing to pay to buy a security. If a trader wants to sell a security, they would want to know how much they’d be able to sell it for. They can find out the best price they could get for the security by looking at the current bid price in the market, which would show the highest potential amount they could get for it.

Ask Price

Conversely, ask price is the lowest price investors are willing to sell a security for at any given time. If a trader wants to buy a security, they want to get the lowest possible price, so they look at the ask price to find out what that is.

What’s the Difference Between Bid and Ask Price?

Bid price is set when traders place limit orders to buy a stock, and ask price is set by traders placing limit orders to sell a stock. So before placing an order, traders can look at the current bid and ask price to see how much their trade will actually cost and get a sense of the supply and demand for the asset.

How Are Bid and Ask Prices Determined?

Investors and market-makers can place buy or sell orders at a price they set. These orders will be fulfilled if someone is willing to sell or buy the security at that bid or ask price. Those order placements determine the bid and ask price.

What Does it Mean When Bid and Ask Are Close?

When the bid and ask price are close, this means traders will be able to buy and sell the security closer to the market price. This generally means there is a high trading volume for the security, with a lot of people willing to buy and sell because of high demand. If demand increases for the security, the bid and ask prices will move higher, and vice versa.

Bid and Ask Price Example

As an example, say a retail investor wants to buy stock from Company XYZ. The current market price for the stock is $83. However, the current ask price for the stock is $83.10. So although the stock was last traded for $83, the lowest price anyone is willing to pay for it now is 10 cents higher.

The trader purchases a market order for 10 shares of stock XYZ for $830. However, the total cost of the trade comes out to $831, because the trade executes at the current ask price.

The Bid-Ask Spread

The difference between the bid and ask prices is known as the bid-ask spread, the bid-offer spread, or the bid and ask spread. Generally, the bid price is higher than the current market price, and the ask price is lower.

Bid-ask spreads can be anywhere from a few cents to more than $1, depending on the security and market conditions. For instance, large blue-chip stocks in the Dow Jones market can have a small spread of just a few cents, while small companies with low trading volume might have a spread of more than 50 cents per share.

In the scenario above, the bid-ask spread is 10 cents because the buy and sell limit orders that traders have placed are 10 cents apart. So if the trader purchased 10 shares and immediately turned around and sold them, they would lose 10 cents per share, or $1.

The spread is largely determined by supply and demand. Spreads are lower for highly liquid securities, and this is known as a “narrow” bid-ask spread. Narrow spreads allow a trader to buy or sell securities closer to the current market price.

If a security is not traded very often it is considered illiquid, and the spread will be larger. “Wide” spread stocks can be much harder and more expensive to trade since there is so much difference between the buy and sell price and there may not be large enough trade orders placed to fulfill an entire buy or sell order at one particular price.

If this is the case, an order may become even more expensive if it’s fulfilled at different prices. If there are many trades of a stock then buyers and sellers know they will be able to buy and sell at a competitive price if they want to, and if they demand a price much higher or lower than the market price their trade won’t go through.

The Takeaway

Bid and ask prices help traders know exactly how much they may buy and sell securities for. The bid price is the highest price a buyer is willing to pay for an option. The ask price is the lowest price a seller is willing to accept for an option.

If you’re looking to build a portfolio of investments, one great tool is SoFi Invest®. The no commission online trading app lets you research, track, buy and sell stocks, ETFs, cryptocurrencies, and more right from your phone. You can easily see all your financial information in one simple dashboard, and set up one time or recurring trades.

Find out how to get started with SoFi Invest.

Photo credit: iStock/eclipse_images

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