If you have been trading in the markets for a while now, you may have had some trades that were executed almost instantly and others that took several minutes or even hours to be fulfilled. You may even have had unfulfilled orders where the purchase or sale price had to be modified to meet the prevailing market rates.
These scenarios are all examples of how the bid and ask prices in the market can affect the execution of your trades. In this article, we outline the meaning of ask and bid prices, understand how they work, and discuss how you can use these details to make more informed trading decisions.
What is ‘bid’ and ‘ask’ in the share market?
The bid or the bid price is the highest price a buyer is willing to pay for a stock or security in the market. On the other hand, the meaning of ‘ask’ is the lowest price at which a seller is willing to transfer a stock or security.
A successful trade occurs if a buyer is willing to purchase at the lowest available ask price or if a seller is willing to make a sale at the highest available bid price. You can find the details of the top current bids and asks prevailing in the market on the trading platform provided by your stockbroker.
Understanding bid and ask prices
Let’s discuss an example to understand the meaning of ask and bid prices. Say the current bid and ask prices of a stock in the market are as follows:
- Bid price: Rs. 50
- Ask price: Rs. 51
Now, if you want to purchase 100 shares in the company, you will have to pay Rs. 51 per share because that is the lowest sale price — or the ‘ask price’ — in the market. On the other hand, if you want to sell 100 shares in the company, you will have to sell them at Rs. 50 per share because that is the highest price buyers are willing to pay — or, in other words, the bid price.
The bid-ask spread: Meaning and calculation
The bid-ask spread is the difference between the bid and ask prices of any stock or security. To calculate this spread, you only need to know two things — the ask and bid in the share market. The formula for calculating the bid-ask spread is as follows:
Bid-ask spread = Ask price — Bid price |
In the example we discussed earlier, the bid-ask spread will be Rs. 1 (i.e. Rs. 51 minus Rs. 50). This narrow bid-ask spread makes it easy for buyers and sellers to compromise. However, if the bid-ask spread is too high (like Rs. 10 or so), the gap between the highest bid and the lowest ask is too wide for either party to compromise.
This will make it harder to buy or sell the stock or security in question. In other words, it affects the liquidity of the asset and makes it less liquid or altogether illiquid, depending on how wide the bid-ask spread is.
Tips to incorporate the bid and ask prices in your trading decisions
So, you now know what the bid price and the ask price are and how the difference between the two affects asset liquidity. Here are some tips to help you use these details to make smart trading decisions.
- Refrain from opening positions in securities with a high bid-ask spread.
- If you absolutely need to exit a position, consider buying at the prevailing ask price or at least increase your bid to reduce the spread.
- Use limit orders if you want more control over the price at which your order is executed.
- Evaluate the trading volume to understand the prevailing bid-ask spread better.
Conclusion
This sums up the meaning of the ask price and the bid price in the share market. Before placing a buy or sell order in the stock market, check the bid and ask prices for the stock or security you plan to trade in. It can give you valuable insights into the liquidity of the asset and the current demand and supply forces at play in the market.
