I. Defining the bid-ask spread

The term “bid-ask spread” is essential for securities market investors, but many people may not know what it means or how it relates to the market. The bid-ask spread can affect the price at which a purchase or sale is made, and thus an investor's overall portfolio return.

“Bid” refers to the price that an investor is willing to pay for the security, “ask” refers to the price that an investor is willing to sell the security and “spread” refers to the difference between the bid price and the ask price for a given security.

Example: A stock's bid price is $100 and the ask price is $101; the bid-ask spread is $1. This spread represents the transaction cost for investors and the potential profit for market makers.

II. Factors influencing the bid-ask spread

The magnitude of the spread is influenced by multiple factors. One key factor is market volatility, which refers to the fluctuations in the price of an asset, such as increases or decreases in the price of securities. According to investment theory, higher market volatility indicates greater risk but also the potential for higher returns.

Another important factor is market liquidity, which refers to the ease with which investments can be converted into cash when needed. The level of liquidity directly impacts the bid-ask spread, as more liquid markets tend to have narrower spreads.

The number of market participants also plays a role in determining the bid-ask spread. A higher number of participants typically results in more competition and tighter spreads.

Finally, the actions of market makers, such as banks and brokerage firms, are crucial in enhancing market liquidity and efficiency.

III. Trading strategies

Trading is not as complicated as most people think, but investors should understand some strategies to minimise investment risk and enhance their potential for profitability.

One effective approach is the news trading strategy, which involves making trades based on news and market expectations, both before and after news releases. Due to the rapid spread of information through digital media, traders must quickly assess the impact of new information and make prompt trading decisions. This requires a mindset and ability to react swiftly to changing circumstances.

Another strategy is end-of-day trading, where traders execute positions as the market nears its closing time. This approach becomes particularly relevant when it is clear that the price is going to “settle” or close. End-of-day trading involves studying price action in comparison to historical price patterns.

Swing trading is another strategy that seeks to capitalise on price movements within a financial market, whether they are upswings or downswings. Swing traders aim to buy when they expect prices to rise and sell when they anticipate a decline. This strategy primarily relies on technical analysis, using charts and historical price patterns to identify trends and opportunities.

Finally, the trend trading strategy allows traders to profit by identifying and trading in line with existing market trends. Traders maintain their positions as long as the trend continues, though this strategy carries the risk of market reversal. To mitigate this risk, traders often use the stop-loss order strategy, which involves setting a predetermined price at which a trade is automatically closed to limit potential losses.

***Disclaimer: This article has been compiled solely for informative and educational purposes. It is not intended to offer any recommendations or as investment advice. The Securities and Exchange Regulator of Cambodia (SERC) and Post Media Co Ltd are not liable for any losses or damages caused by using it in such a way.