Crypto Academy / Season 4 / Week 1 - Homework Post for [@awesononso] …The Bid-Ask Spread
Today's lesson covers a very important topic "The Bid-Ask Spread". Thank you Professor @awesononso for letting us know about The Bid-Ask Spread through this lesson. I learned many unknown things. I hope the lesson will be helpful for everyone.
1- Properly explain the Bid-Ask Spread.
To understand the term of Bid-Ask Spread we must know about two things bid price and ask price. The bid price is the highest price of an asset that a buyer is willing to pay for that asset. The ask price is the lowest price of an asset at which a seller is willing to sell that asset. The difference between these two prices is termed as the Bid-Ask Spread. The Bid-Ask Spread is also known as The Spread in shortly.
So, the calculation formula for the Bid-Ask Spread is,
Here is the screenshot of the Bid-Ask Spread from Steemit wallet. This will make the point clear-
2- Why is the Bid-Ask Spread important in a market?
The Bid-Ask Spread is used to determine the liquidity in the market that's why it is important. Liquidity is how easily assets can be traded in a market. The buying and selling of an asset in the market depend on the demand and supply. The supply of an asset is the amount available in the market, Demand is how many people are available to buy the asset. When there is a balance between the two, there is more buy and sell, that is, the market is liquid.
The liquid market has enough buyers and sellers and the bid price and the asking price are very close. The price difference is less because the bid price and ask price are closer since the difference between the two is less than the bid-ask spread. The Bid-Ask Spread is low, so buy and sell in the liquid market is very easy to execute. If the Bid-Ask Spread is high then the buy and sells in the market is not very easy to execute.
3- If Crypto X has a bid price of $5 and an ask price of $5.20,
a.) Calculate the Bid-Ask spread.
b.) Calculate the Bid-Ask spread in percentage.
Calculation of the Bid-Ask spread if the Crypto X has a bid price of $5 and an ask price of $5.20,
We know,
Bid-Ask Spread = Ask price - Bid price
Bid-Ask Spread = $5.20 - $5
∴ Bid-Ask Spread = $0.2
Calculation of the Bid-Ask spread in percentage of Crypto X
%Spread = (Spread/Ask Price) x 100
%Spread = ($0.2/$5.20) x 100
∴ %Spread = 3.85%
4- If Crypto Y has a bid price of $8.40 and an ask price of $8.80,
a.) Calculate the Bid-Ask spread.
b.) Calculate the Bid-Ask spread in percentage.
Calculation of the Bid-Ask spread if Crypto Y has a bid price of $8.40 and an ask price of $8.80,
We know,
Bid-Ask Spread = Ask price - Bid price
Bid-Ask Spread = $8.80 - $8.40
∴ Bid-Ask Spread = $0.4
Calculation of the Bid-Ask spread in percentage of Crypto Y
%Spread = (Spread/Ask Price) x 100
%Spread = ($0.4/$8.80) x 100
∴ %Spread = 4.54%
5- In one statement, which of the assets above has the higher liquidity and why?
From the calculation of question no. 3 & 4, we got the Spread of Crypto X = $0.2 and the Spread of Crypto X = $0.4. So, the Spread of Crypto X is smaller than Crypto Y. We know a small Spread indicates higher liquidity in the market because in small Spread buying and selling prices are close to each other and easily traded. So, the Crypto X has higher liquidity.
6- Explain Slippage.
The price of cryptocurrency is highly volatile. Due to this high volatility, if you order the market price and execute it, slippage occurs. Slippage occurs when an order is executed at a different price from what was intended. Slippage happens more when the Spread is higher in the market. Because of the high spread in the market, there is low liquidity in the market.
7- Explain Positive Slippage and Negative slippage with price illustrations for each.
There are two types of Slippage, Positive Slippage, and Negative slippage. I will try to explain both of them now,
Positive Slippage
Positive slippage occurs when a trader makes a profit due to market price fluctuations.
In Positive Slippage, the buy order is executed at a lower price than the buy order intended and the sell order at a higher price than the sell order intended. For example: If a trader wants to buy coin A to be bought at $20 but due to slippage he was able to buy the coin at $19.8. Here the order is executed at a lower price than his buy order and he made a profit.
In this case, the Positive Slippage would be $20 - $19.8 = $0.2.
If a trader wants to sell the coin B to be sold at $12 but due to slippage he was able to sell the coin at $12.08. Here the order is executed at a higher price than his sell order and he made a profit.
In this case, the Positive Slippage would be $12.08 - $12 = $0.08.
Negative Slippage
Negative slippage occurs when a trader loses due to market price fluctuations.
In Negative Slippage, the buy order is executed at a higher price than the buy order intended and the sell order at a lower price than the sell order intended. For example: If a trader wants to sell Coin C at $15 but due to slippage he was able to sell the coin at $14.9, then the order is executed at a lower price than his sell order and he ends up with a loss.
In this case, the Negative Slippage would be $15 - $14.9 = $0.1.
If a trader wants to buy Coin D at $10 but due to slippage he was able to sell the coin at $10.1, then the order is executed at a higher price than his buy order and he ends up with a loss.
In this case, the Negative Slippage would be $10.1 - $10 = $0.1.
Conclusion
The Bid-Ask Spread is the difference between the bid price and the ask price. Simply, The Bid-Ask Spread is termed as the Spread. The lower the Spread higher liquidity in the market. In a higher liquid market buy and sell price differences are close to each other. So there are enough buyers and sellers in the market. That's why to know about the market condition it is important to understand the Bid-Ask Spread.