Spreads in Day Trading—Bid and Ask Spreads
How large spreads and small spreads affect trading
Day trading markets have two separate buying and selling prices known as the bid—which is buying—and the ask, which means selling. The distance between these two prices can vary and it can affect whether a particular market can be traded. If it can be traded, it determines how this is done.
A Small Spread
When the bid and the ask prices are close to each other, this is known as a small spread. For example, if the bid and ask prices on the YM, the Dow Jones futures market, were at 1.3000 and 1.3001 respectively, the spread would be 1 tick.
A small spread will exist when a market is being actively traded and when it has high volume—a significant number of contracts being traded. This is the case throughout the trading day for many popular trading markets, but it only happens at certain times of the day for other markets, such as the European open and the U.S. open.
A Large Spread
When the bid and ask prices are far apart, the spread is said to be a large spread. If the bid and ask prices on the EUR, the Euro to U.S. Dollar futures market, were at 1.3405 and 1.3410, the spread would be 5 ticks.
A large spread will exist when a market is not being actively traded and it has low volume—the number of contracts being traded is fewer. Many day trading markets that usually have small spreads will have large spreads during lunch hours or when traders are waiting for an economic news release.
Effects on Trading
Most day traders prefer small spreads because they allow their orders to be filled at the prices they want.
Many day traders will temporarily stop trading if their market develops a large spread.
A large spread causes orders—especially market orders—to be filled at unwanted prices. This then requires adverse adjustments to the trading system to compensate, such as increasing a stop loss.
Trading the Spread
Some day traders make trades that try to take advantage of the spread, and these traders prefer a large spread.
Trading systems that trade the spread are collectively known as "scalping" trading systems. The traders are known as scalpers because they only want a few ticks of profit with each trade. An example of trading the spread would be to place simultaneous limit—not market—orders to buy at the bid price and sell at the asking price, then wait for both orders to be filled.
Small Spread Markets
Some popular day trading markets that usually have small spreads include currency futures such as EUR, the Euro futures market, and stock index futures. Some stock index futures include:
- YM: The Dow Jones futures market
- ES: The S&P 500 futures market
- ER2: The Russell 2000 futures market
- DAX: The DAX futures market
- CAC40: The CAC40 futures market
ZG, the Gold 100 troy ounce futures market, is a commodity future that usually has small spreads. ZC, the corn futures market, and ZW, the wheat futures market, are examples of agricultural futures where you're likely to see small spreads.
Also known as: Bid / Ask Spread, Price Spread
Note: Always consult with a financial professional for the most up-to-date information and trends. This article is not investment advice and it is not intended as investment advice.