What Is the Bid-Ask Spread?
The bid-ask spread is the difference between the highest price a buyer is willing to pay for a security (the bid) and the lowest price a seller is willing to accept (the ask). It exists in every traded market - stocks, bonds, options, forex, crypto - and it represents the most fundamental cost of trading.
If a stock has a bid of £99.98 and an ask of £100.00, the bid-ask spread is £0.02, or two pence. That gap might look trivial, but it's the mechanism through which market makers earn revenue and liquidity providers get compensated for the risk of standing ready to trade. For anyone buying or selling a financial instrument, the spread is a real cost that's deducted from your returns on every single trade.
Understanding the bid-ask spread matters because it's a hidden cost that doesn't appear on your transaction confirmation. Your broker shows you commissions clearly, but the spread you pay - the difference between the price you wanted and the price you got - is baked into the execution price itself. For active traders and institutions moving large volumes, spread costs often dwarf commission costs. In 2026, with zero-commission trading now standard across most retail platforms, the spread is frequently the only meaningful transaction cost left.
Bid vs Ask vs Last Price
Three prices show up on every quote screen, and confusing them is a common mistake.
The bid is the highest price that any buyer currently has an open order to pay. It's the best price you can get right now if you want to sell. Think of it as the market saying "I'll buy from you at this price."
The ask (also called the offer) is the lowest price that any seller currently has an open order to accept. It's the best price available if you want to buy right now. The market is saying "I'll sell to you at this price."
The last price is simply the price at which the most recent trade executed. It's historical - it tells you what happened, not what's available now. The last price could be at the bid, at the ask, or somewhere in between depending on how the last trade was filled.
Here's a concrete example. Suppose AstraZeneca shares are quoted on the LSE:
| Price Type | Value |
|---|---|
| Bid | £104.50 |
| Ask | £104.54 |
| Last Price | £104.52 |
| Spread | £0.04 |
If you place a market buy order, you'll pay £104.54 (the ask). If you place a market sell order, you'll receive £104.50 (the bid). The last price of £104.52 is irrelevant to your execution - it just tells you what someone else paid a moment ago. The midpoint of the bid and ask (£104.52 in this case) is often used as a proxy for the "fair" price, but you can't actually trade at the midpoint unless you submit a limit order and wait for someone to cross to your price.
This distinction matters more than it seems. Retail investors who look at the "price" of a stock on their app are usually seeing the last trade or the midpoint, not the price they'd actually receive. The spread is the gap between perception and reality.
What Determines the Spread Size?
The size of the bid-ask spread isn't random. It's driven by a handful of economic forces that interact with each other, and understanding them tells you a lot about the health and structure of a market.
Liquidity
The single biggest factor. Liquidity - the ease with which you can buy or sell without moving the price - directly determines how tight the spread can be. A stock traded by thousands of participants with deep order books on both sides will have a narrow spread because competition among buyers and sellers compresses the gap. An illiquid micro-cap stock traded a few hundred times per day will have a wide spread because there are fewer participants willing to quote.
Volatility
When prices are moving fast, the risk of quoting a firm bid or ask increases. A market maker who posts a bid at £100.00 faces more danger if the stock is swinging 2% per hour than if it's drifting 0.1% per day. Higher volatility means wider spreads because liquidity providers demand more compensation for the added risk. You can observe this in real time during earnings announcements - spreads widen in the seconds before and after the release, then narrow once the uncertainty resolves.
Market Maker Competition
More market makers quoting the same instrument means tighter spreads. If five firms are competing to offer the best bid and the best ask, each has an incentive to tighten their quotes to attract order flow. In markets with a single designated market maker and limited competition, spreads tend to be wider. This is one reason why the most liquid US equities - where dozens of firms compete - have spreads of a single penny, while some European small-caps with only one or two liquidity providers have spreads of several pence.
Information Asymmetry
If market makers suspect that the people trading against them have superior information - perhaps they've analysed the company more thoroughly, or they're acting ahead of an announcement - the spread widens. This is called adverse selection. The market maker knows that some fraction of incoming orders come from informed traders who will, on average, cost the market maker money. Wider spreads compensate for this expected loss. Securities with high information asymmetry (small-caps with limited analyst coverage, stocks ahead of earnings) tend to have wider spreads than transparent, well-covered large-caps.
Tick Size
The minimum price increment - the tick size - sets a floor on the spread. On US equities, the tick size is $0.01, so the minimum possible spread is one cent. On the LSE, tick sizes vary by price level and security. If the tick size is larger than the "natural" spread would be (the spread that would prevail without the constraint), then the tick size itself becomes the binding constraint. Conversely, if the natural spread is much wider than the tick, the tick size is irrelevant.
Trading Volume
Higher daily trading volume generally correlates with tighter spreads. Volume attracts market makers (more opportunities to earn spread revenue), increases competition, and means that any individual position can be unwound more quickly. Low-volume securities trap market makers in positions for longer, increasing their inventory risk and therefore the spread they demand.
Tight vs Wide Spreads
The range of spreads across different instruments is enormous, and it tells you a lot about trading costs in each market.
| Instrument | Typical Spread | Spread as % of Price | Liquidity |
|---|---|---|---|
| Apple (AAPL) | ~$0.01 | 0.004% | Extremely high |
| FTSE 100 stock (e.g. Shell) | £0.01 - £0.05 | 0.01 - 0.05% | High |
| Mid-cap UK equity | £0.05 - £0.20 | 0.05 - 0.20% | Moderate |
| Small-cap AIM stock | £0.50 - £2.00 | 0.5 - 2.0% | Low |
| Investment-grade corporate bond | 5 - 20 basis points | 0.05 - 0.20% | Moderate |
| High-yield corporate bond | 50 - 200 basis points | 0.50 - 2.0% | Low |
| EUR/USD forex | ~0.1 pips | 0.001% | Extremely high |
| Bitcoin (BTC/USD) on major exchange | 5 | 0.005 - 0.01% | High |
| Small-cap altcoin | 1 - 5% | 1 - 5% | Very low |
A tight spread - one penny on Apple, a fraction of a pip on major forex pairs - means you can enter and exit positions cheaply. The instrument is liquid, well-covered, and heavily traded. A wide spread - several percent on an illiquid altcoin or an AIM-listed micro-cap - means every round trip costs you real money before the position even moves in your favour.
For context, a fund trading £10 million notional in a FTSE 100 stock with a 0.01% spread pays roughly £1,000 in spread costs per round trip. The same fund trading £10 million in an illiquid AIM stock with a 1% spread pays £100,000. That's the difference between a minor friction and a strategy-killing drag.
How the Spread Affects Your Trading Costs
The bid-ask spread is a hidden transaction cost that hits you on every trade, in both directions.
When you buy, you pay the ask price. When you sell, you receive the bid price. The spread between them is money that transfers from you to the liquidity provider. If you buy at £100.02 and immediately sell, you'd receive £100.00 - you've lost £0.02 per share without the underlying price moving at all. That £0.02 is the cost of the round trip.
This matters most for:
Frequent traders. If you make 500 trades per year and each trade costs you £0.02 per share in spread, those costs compound into a substantial drag on returns. Day traders and scalpers live and die by the spread.
Large orders. A market order to buy 100,000 shares won't fill entirely at the best ask. It'll consume the available liquidity at the best ask, then the next price level, then the next - each level worse than the last. This is market impact, and it means the effective spread you pay is wider than the quoted spread for large orders.
Illiquid instruments. If you're trading small-cap stocks, exotic options, or off-the-run bonds, the spread can be the dominant cost of your strategy. A fund running a small-cap value strategy in illiquid names might spend 1-2% per year on spread costs alone.
Short holding periods. If you're holding a position for months, a few basis points of spread cost is negligible relative to your expected return. If you're holding for minutes or hours, the spread is a large fraction of the profit you're targeting. This is why high-frequency trading strategies are so sensitive to spread costs and why they only operate in the most liquid instruments.
Calculating the Effective Spread
The quoted spread (ask minus bid) is what you see on the screen, but it doesn't always reflect what you actually pay. The effective spread is a more accurate measure of trading costs, calculated from the price you actually transacted at relative to the midpoint.
The formula is straightforward:
Effective Spread = 2 × |Trade Price - Midpoint|
The midpoint is (Bid + Ask) / 2. The factor of 2 converts the one-sided cost into a round-trip measure, making it comparable to the quoted spread.
Suppose the bid is £50.00, the ask is £50.04, and the midpoint is £50.02. If your buy order fills at £50.03 (inside the ask), your effective spread is:
2 × |£50.03 - £50.02| = £0.02
That's less than the quoted spread of £0.04. You got price improvement - your order filled at a better price than the posted ask, probably because a hidden order or a matching engine's price improvement mechanism gave you a better fill.
Conversely, if market impact pushes your fill to £50.05 (above the ask), your effective spread is:
2 × |£50.05 - £50.02| = £0.06
Now you've paid more than the quoted spread because your order consumed liquidity beyond the top of the book.
Effective spread analysis is a core part of transaction cost analysis (TCA), which institutional traders use to evaluate execution quality. In 2026, every serious trading desk runs TCA on their fills to understand whether their execution algorithms are minimising spread costs or leaking money.
The Spread Across Different Markets
Spread behaviour varies significantly across asset classes. Each market has its own structure, conventions, and typical costs.
Equities. Spreads are quoted in currency units (pence, cents) and are tightest for large-cap, heavily traded names. US large-caps frequently trade with a one-cent spread - the minimum possible given the $0.01 tick size. UK large-caps on the LSE typically trade with spreads of 1-5 pence. The quoted spread is visible in the order book, and effective spreads are usually close to or tighter than quoted spreads for retail-sized orders.
Options. Option spreads are generally wider than the underlying stock's spread, reflecting lower liquidity and higher complexity. A single stock option might have a £0.05 spread when the underlying stock has a £0.01 spread. Deep out-of-the-money options and long-dated options tend to have the widest spreads. Options market makers must hedge their delta continuously, adding costs that get passed into the spread.
Forex. The foreign exchange market is the most liquid in the world, and major pairs like EUR/USD, GBP/USD, and USD/JPY trade with spreads under one pip (0.0001 in the quote). During peak London or New York hours, EUR/USD spreads can drop below 0.1 pips on institutional platforms. Exotic pairs (USD/TRY, GBP/ZAR) have much wider spreads, sometimes 10-50 pips.
Bonds. Fixed income spreads are quoted in basis points (hundredths of a percent of notional value). On-the-run government bonds (the most recently issued benchmark) trade with spreads of 0.5-2 basis points. Off-the-run government bonds are wider. Investment-grade corporate bonds typically trade at 5-20 basis points, while high-yield bonds can be 50-200 basis points. Bond markets are still largely dealer-based rather than exchange-traded, so spreads are less transparent and can vary significantly between dealers.
Cryptocurrency. Crypto spreads vary enormously by venue and instrument. Bitcoin and Ethereum on major centralised exchanges (Binance, Coinbase) trade with tight spreads comparable to liquid equities. On decentralised exchanges, spreads depend on pool depth and can be significantly wider. Small-cap tokens often have spreads of 1-5%, making frequent trading extremely costly.
| Market | Typical Spread (Liquid) | Typical Spread (Illiquid) | Quote Convention |
|---|---|---|---|
| UK equities | 1 - 5 pence | 50p - £2+ | Currency units |
| US equities | 1 cent | 5 - 50 cents | Currency units |
| Major FX pairs | 0.1 - 1 pip | 10 - 50 pips | Pips |
| Government bonds | 0.5 - 2 bps | 5 - 15 bps | Basis points |
| Corporate bonds | 5 - 20 bps | 50 - 200 bps | Basis points |
| Options | £0.02 - £0.10 | £0.50 - £5+ | Currency units |
| Crypto (BTC, ETH) | 0.005 - 0.02% | 1 - 5%+ | Percentage |
Who Profits from the Spread?
Market makers profit from the spread. They're the firms (and historically individuals) that continuously quote both a bid and an ask, standing ready to buy from anyone who wants to sell and sell to anyone who wants to buy. The spread is their compensation for three things: the risk of holding inventory that might lose value, the cost of being adversely selected by informed traders, and the operational cost of running a quoting operation.
In 2026, electronic market making is dominated by a handful of firms - Citadel Securities, Virtu Financial, Jane Street, Optiver, and Flow Traders among them. These firms run sophisticated algorithms that quote on thousands of instruments simultaneously, adjusting their bid and ask prices multiple times per second. Their revenue comes from earning the spread on millions of small trades per day while keeping their net inventory exposure close to zero.
The economics are simple in principle: buy at the bid, sell at the ask, pocket the difference. In practice, it's a fiercely competitive, technology-intensive business. Market makers must invest heavily in low-latency infrastructure, quantitative research, and risk management systems. Their margins on any single trade are tiny - often a fraction of a penny per share - but the aggregate volume makes the business highly profitable when done well.
It's worth understanding that the spread isn't pure profit for market makers. They face adverse selection - some of the orders they fill come from traders with better information, and those trades systematically lose money. The spread must be wide enough to cover these losses while still being competitive enough to attract order flow. This balancing act is the core challenge of the market making business, and it's why understanding market microstructure is essential for anyone studying how prices form.
How to Minimise Spread Costs
You can't avoid the spread entirely, but you can reduce how much of it you pay. These strategies apply whether you're a retail investor or a professional trader.
Use limit orders instead of market orders. A market order says "fill me now at whatever price is available" - you'll pay the full ask (or receive the full bid). A limit order lets you specify your price and sit in the order book, potentially getting filled at the midpoint or better. The trade-off is that limit orders might not fill at all, but for non-urgent trades, they almost always result in better execution.
Trade liquid instruments. If you have a choice between two similar ETFs tracking the same index, pick the one with higher volume and tighter spreads. The same logic applies to selecting options strikes and expiries - at-the-money, near-term options are far more liquid than deep out-of-the-money, long-dated contracts.
Avoid illiquid times. Spreads widen when fewer participants are active. For UK equities, spreads are tightest during the core London session (9:00 - 16:30) and widest during the opening and closing auctions or outside market hours. For US equities, avoid trading in pre-market or after-hours sessions when liquidity is thin.
Use algorithmic execution for large orders. If you're trading size that's meaningful relative to the stock's daily volume, a simple market order will blow through the order book and cost you multiples of the quoted spread. Algorithms like TWAP (Time-Weighted Average Price) and VWAP (Volume-Weighted Average Price) break the order into smaller slices executed over time, reducing market impact. This is standard practice for institutional traders and is increasingly available to advanced retail traders through brokers offering algorithmic execution tools.
Monitor spreads before trading. Before executing, check the current spread. If it's wider than normal - perhaps due to news, low volume, or a technical issue - consider waiting. Spreads revert to their typical level once conditions normalise. A five-minute wait can save meaningful money on a large trade.
Consider the total cost, not just the commission. Zero-commission brokers aren't free if they route your order to venues with worse execution and wider effective spreads. In the UK and US, brokers are required to seek best execution, but the definition of "best" involves trade-offs between speed, price, and certainty of fill. Understanding how your broker routes orders - and whether they sell order flow - gives you a clearer picture of your true trading costs.
Historical Spread Compression
Bid-ask spreads have tightened dramatically over the past three decades, and the forces behind that compression tell the story of modern market structure.
Before 1997, US equities were quoted in fractions - eighths and sixteenths of a dollar. The minimum spread was 1/8 of a dollar (0.25) or more. Trading costs for retail investors were punishing.
Decimalization changed everything. The SEC mandated that US exchanges switch from fractional to decimal pricing in 2001, reducing the minimum tick size to $0.01. Spreads collapsed almost overnight. The average quoted spread on NYSE-listed stocks fell by roughly 50% within months of the switch. The UK and European markets had already moved to decimal pricing, but similar tick-size reforms progressively tightened spreads across the continent.
Electronic trading amplified the effect. As human specialists and floor traders gave way to electronic order books and automated market makers, the cost of providing liquidity dropped sharply. Algorithms could quote tighter spreads, update faster, and manage inventory more efficiently than any human. The rise of high-frequency trading firms in the mid-2000s brought a new wave of competition that pushed spreads even tighter.
Venue fragmentation and competition added further pressure. In the US, Regulation NMS (2005) and in Europe, MiFID (2007) and MiFID II (2018) opened markets to competition among trading venues. Instead of a single exchange with a monopoly, stocks could trade on multiple venues simultaneously - the LSE, CBOE Europe, Turquoise, Aquis, and dark pools. Venues competed for order flow by offering faster execution, lower fees, and better pricing. Market makers responded by tightening spreads to win flow.
The result, by 2026, is striking. Spreads on major equities are at historic lows. A FTSE 100 stock might trade with a spread of a single tick - literally the smallest possible increment. Major forex pairs trade with sub-pip spreads. The total trading cost for a retail investor buying a liquid ETF today is a tiny fraction of what it was in the 1990s.
But there are limits to how far spreads can compress. The tick size sets a hard floor. Market makers still need to be compensated for adverse selection and inventory risk. And during periods of stress - flash crashes, pandemics, geopolitical shocks - spreads widen sharply as liquidity providers step back. The spread may be thinner than ever in normal conditions, but its behaviour during crises reminds us that liquidity is never guaranteed.
Frequently Asked Questions
What is a good bid-ask spread?
A "good" spread depends entirely on the instrument. For large-cap equities, a one-penny or one-cent spread is standard and as tight as possible given the tick size. For options, a spread of a few pence is reasonable for liquid near-term contracts. For forex, sub-pip spreads on major pairs are the norm. As a rule of thumb, if the spread is less than 0.1% of the instrument's price, it's tight. Above 0.5% and you're paying a meaningful cost on each trade. Above 1% and you should question whether the instrument is suitable for active trading.
Why does the bid-ask spread widen during volatile markets?
Spreads widen during volatility because the risk of providing liquidity increases. A market maker who posts a firm bid faces the possibility that the price drops sharply before they can adjust, leaving them with a losing position. To compensate for this elevated risk, market makers quote wider spreads. Some may reduce the size they're willing to trade or pull their quotes entirely, which further widens the spread as fewer participants remain. This is why spreads spike during events like flash crashes, earnings surprises, or major economic announcements - and why they narrow again once conditions stabilise.
How do market makers decide the spread?
Market makers set spreads based on several factors: the volatility of the instrument, the level of competition from other market makers, their current inventory position, and the degree of information asymmetry they perceive in the order flow. Quantitative market making models - such as the Avellaneda-Stoikov framework - formalise this as an optimisation problem: set the spread wide enough to cover expected losses from adverse selection and inventory risk, but tight enough to attract order flow and earn volume. In practice, market making algorithms recalculate optimal spreads continuously, sometimes updating thousands of times per second.
Is the bid-ask spread the same as the commission?
No. The spread and the commission are separate costs, though both reduce your trading returns. The commission is an explicit fee charged by your broker for executing the trade. The spread is an implicit cost - the difference between the price you trade at and the midpoint of the market. In 2026, many retail brokers offer zero-commission trading, but you still pay the spread. In fact, some zero-commission brokers monetise your order flow by routing it to market makers who fill at slightly worse prices, meaning the effective spread you pay may be wider than what you'd get on an exchange with a traditional commission model. Total cost of trading = commission + spread + market impact.
Can you trade at the midpoint of the bid-ask spread?
Yes, but not with a standard market order. To trade at or near the midpoint, you can use a limit order priced between the bid and ask and wait for a counterparty to cross to your price. Some venues also offer midpoint pegging orders that automatically track the midpoint. Dark pools frequently match orders at the midpoint, which is one reason institutional traders use them - they avoid paying the full quoted spread. The catch is that midpoint execution is never guaranteed. You might wait and never get filled if the market moves away from your price.
Does the bid-ask spread apply to long-term investors?
Yes, though its impact is smaller for long-term investors than for frequent traders. If you buy a stock and hold it for ten years, the one-off spread cost on entry and exit is negligible relative to the total return. But if you're dollar-cost averaging monthly into a less liquid instrument, or if you're investing through funds that trade frequently, spread costs compound over time. Long-term investors should still prefer liquid instruments with tight spreads - not because any single trade matters much, but because paying less in friction means more of your capital goes to work in the market.
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