BID-ASK SPREADS IN OPTIONS: FILLS & COSTS EXPLAINED

In the options market, the bid-ask spread refers to the difference between the highest price that a buyer is willing to pay for an option contract (the bid) and the lowest price a seller is willing to accept (the ask). This spread plays a crucial role in determining the cost and efficiency of entering and exiting options trades. Traders commonly evaluate the spread to assess liquidity, market efficiency, and potential transaction costs.

For example, if an option contract has a bid price of £2.00 and an ask price of £2.10, the spread is £0.10. The tighter—or narrower—this spread is, the more liquid and efficient the market for that option is considered to be. Wide bid-ask spreads usually indicate lower liquidity or higher uncertainty regarding the option's fair value.

Option spreads are influenced by several key factors:

• Volume and Open Interest: High trading volume and open interest usually indicate greater interest in the option, narrowing the spread.
• Implied Volatility (IV): Higher IV can make spreads wider due to pricing uncertainty, while stable IV can tighten spreads.
• Time to Expiration: Options with more time until expiration usually have wider spreads than those nearing their expiry.
• Underlying Asset Liquidity: Options on highly liquid stocks or indices tend to have narrower bid-ask spreads.

Understanding the mechanics of bid-ask spreads is fundamental for all options traders, as these spreads directly impact execution prices and can erode returns if not properly managed.

Bid-ask spreads impact not only the cost of trading options but also whether and how quickly your trades are filled. The success of execution often hinges on where you place your order: at the bid, at the ask, or at what’s known as the mid-price, which is the midpoint between the current bid and ask.

Let’s consider how fills work relative to spreads:

• Market Orders: A market order is filled immediately at the best available price, usually at the ask price if buying or the bid price if selling. In wide spreads, this can lead to significant slippage, where you pay more or receive less than you hoped.
• Limit Orders: By specifying a price, traders can attempt to get filled near the mid-price or better. However, executing a limit order may take longer or may not fill at all if the market doesn’t reach your target price.

For instance, if you place a buy limit order at £2.05 when the bid is £2.00 and the ask is £2.10, your order sits at the mid-point. Depending on market activity and liquidity, it may be filled right away, partially filled, or not at all.

Tighter spreads improve the odds of quick, efficient fills at prices closer to the true market value, which can enhance profitability. Conversely, wider spreads may require you to either wait longer for a fill at your desired price or accept a less favourable fill, increasing overall trading costs.

For active traders such as market makers and institutional players, even a few pence lost to wider spreads across hundreds of contracts can materially affect performance. Hence, professionals often concentrate their activity in highly liquid options to limit spread-based costs.

Additionally, it’s important to consider how market makers set prices. They profit from the bid-ask spread and are more likely to fill orders that offer them some edge—meaning orders placed closer to the bid when buying or closer to the ask when selling are less likely to be filled without market movement.

Recognising these mechanics allows retail and professional traders alike to manage expectations around order fills and better optimise order placement strategies for cost efficiency.

While traders cannot directly change the bid-ask spread, being aware of it and employing strategic tactics can improve trade fills and reduce costs. Here are effective ways to trade smarter within the constraints of bid-ask spreads:

1. Trade Liquid Options

Focus on trading options with high daily volume and open interest. These contracts generally have narrower spreads and faster fills. Avoid illiquid strikes or expiry series unless you anticipate a specific advantage or event catalyst.

2. Use Limit Orders near the Mid-Point

Rather than buying at the ask or selling at the bid, set your order near the mid-point of the spread. This gives you the potential for price improvement while still maintaining a realistic shot of being filled. Be patient; the fill may not be instant, but you'll reduce cost over numerous trades.

3. Monitor Spread Behaviour During the Day

Bid-ask spreads tend to widen during periods of low liquidity, such as the market open or close, or during volatility spikes. To improve fills, aim to trade during regular trading hours when spreads usually tighten. Midday often presents a balanced trade-off between liquidity and execution quality.

4. Avoid “Chasing” Fills

Constantly adjusting your limit order closer to the ask (when buying) or the bid (when selling) in an effort to be filled quickly can lead to inefficient pricing. Instead, reassess market movement and determine whether conditions merit a revised order or if it’s better to wait for a better price.

5. Combine with Technical & Fundamental Signals

Only trade when you have favourable signals aligned—this can help justify accepting slightly wider spreads. For example, entering a directional play based on a confirmed breakout might warrant a quicker fill, even at the ask, since your expectancy justifies the cost.

Over time, good order execution hygiene adds up. For active traders, optimising around bid-ask spreads could mean the difference between long-term profitability or underperformance. Consider tracking average spread costs in your trade journal to better quantify their long-term impact on your strategy.

Finally, always remember that even when a strategy edges out theoretical profit, real-world execution costs like the spread can erode—or eliminate—gains. The smartest traders don’t just analyse their win rates but also their execution efficiency.

Thus, using a blend of liquidity analysis, order tactics and market timing can vastly improve your fill outcomes, enhancing both consistency and profitability in options trading.