From the course: Understanding Capital Markets (2019)

The bid-ask spread

From the course: Understanding Capital Markets (2019)

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The bid-ask spread

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- [Instructor] One of the things you'll need to know in order to be an effective investor is a pair of numbers on a stock called the bid and the ask, and why these numbers matter. Let me show you what I'm referring to. I'm here at Nasdaq.com, and Nasdaq, in addition to being an exchange of course, provides information about stocks that trade on the exchange all day long. One of those companies is Tesla. So we are here looking at a detailed quote about Tesla. As we can see at the top, Tesla's currently trading for $204 and 35, 36 cents, in that area. It's up seven dollars, and 76, 77 cents. About four percent today. Now you might think that that price represents the single number that is Tesla's value. You'd be wrong. Just like when you buy or sell a house, when you buy or sell a stock, there is a range of prices. There's the price that the seller is looking for on the house when they're selling it, and there is the price that the buyer is willing to pay. We have the same thing in Tesla stock, in the form of the ask and the bid. The bid represents how much a buyer is willing to pay for Tesla stock. Buyers looking to buy Tesla stock are willing to pay $204.30. Sellers looking to sell Tesla stock are looking for $204.42. The difference between these numbers, $204.30 versus $204.42, is the bid-ask spread. The wider the bid-ask spread is, the tougher it is to come up with a stock price. The stock price is a happy medium between what buyers are looking to pay and what sellers are asking for. In our particular case, for Tesla, the stock is trading at $204.36, about halfway between the bid and the ask. That bid and ask is crucial for you to understand as an investor, because it represents how much you're going to get paid. You've got to have realistic expectations about how much others are willing to pay for the stock that you're trying to sell or how much you'll have to pay in order to buy it. Now there are two types of orders that get placed. When we talk about buying a stock, people think you just buy the stock and that's the end of it. But there's actually two ways to buy the stock. Or two major ways. The first way is what's called a market order. A market order simply says I'm going to place an order, and I will pay to buy Tesla stock whatever it is that somebody's asking for for it. I will pay the market price, so I get the best price possible based on the bids and asks that are out there right now. A limit order is more like haggling. You say well, I don't want to pay $204.36 for Tesla stock, but I will pay 200. So I put in a limit order at $200 per share, and if Tesla stock falls from 204 to 200, well then my order gets executed and I own the stock. If it doesn't fall to that level, and nobody is willing to sell it to me at 200, well then my order won't go through, and it'll just stay there until the end of the day, when it gets canceled in general. That's the difference between market and limit orders. Now you should have a good handle on bids and asks and the major types of orders, market orders and limit orders, and you're ready to start thinking about how you use these in your own investing.

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