Bid-ask spread and order matching system

April 3, 2019


There are growing numbers of stock market classes. Students/Traders are confused to choose any course because of unfair marketing. Few Institutes are left, which provides your course from scratch with valid information.

Everyone is running behind the strategy and short term gain which causes to loss of students in the market. Very few stock market classes teach you this basic information of bid ask spread order matching system.

What is bid-ask spread?

Bid-ask spread is fundamental of stock pricing. When we talk about spread it indicates the difference. Here the difference is between the buy price and sells price.

Take a simple example. You want to trade HDFC stock. See the screenshot below for the same. You can see the bid and offer (Ask) price difference in the first row is 70 paisa. What does it convey?

If you buy one share of HDFC and sell immediately, you will book a loss of 70 paise. Why this difference arises. The simple answer to this question is demand and supply mechanism.

The buyer will always want to buy at a low price and the seller sells at a high price.

The bid price is nothing but the price at which a buyer wants to buy and offer or ask price, at which sellers are selling. By default, the offer price will be higher than the bid price.

A trader should be careful in executing those trades which are having a high bid-ask spread. Higher bid asks difference will lead to liquidity risk or spread risk.

bid-ask spread and order matching system

Every Trader should know Order matching system

Why you should know this theory? Where this information is practically used? How this system has come in the market?

A Case study on order matching system

I remember an instant which I feel the right case study to explain this system. It was a few years ago when one of the stock crashed. It was a misunderstanding of dealer and client.

One of client sent mail to his dedicated dealer to sell a basket of 10 lakh ( 1 million)but here the client meant to sell a basket of worth 10 lakh Indian rupees. What did the dealer think?

But, Dealer thought it was  sell basket of securities of 10 lakh quantity of stocks. Early morning around 10 o clocks, Dealer put a market order of 10 lakh quantity to short .

Impact of the misunderstood event

The stock which was going up started going down and crashed. You can think of many retail trades who lost their money that day.

You might think about why any new rules are made? A simple answer is because, it can cause hazardous to the public. Who is like the public in the stock market? It’s us, retail traders.

This incident created a lot of controversy around the market, however the client thought it was the dealer’s mistake.

So, Dealer thought it was client’s mistake. The broker had a meeting with NSE executives and the new changes are made to stop this discrepancy.

SEBI acts like a supreme court in the stock market. Which makes the new rules and exchange follow these rules. It should be mandatory to teach SEBI rules and regulations in stock market classes.

What is the order matching system?

Framework matches orders as indicated by the make time and cost (price). First long and then short belong to the purchasing side(For example if you long a stock at 100 and book profit by shorting at 110). While first shorting then closing it with long belong to the selling side.

On the purchasing(buying) side, the request which was set the soonest and has the most astounding cost will be the first to be coordinated.

In the above screenshot the best price for buyer and seller will be in the first row of order book.

Here is best bid for 35 quantities are 1765 rs. A seller will get this price for 35 quantities at market order and vice- versa.

On the offering side, the request which was set the most punctual and has the least cost will be the first to be coordinated.

At the point when the cost of first purchasing request is bigger than or equivalent to the main offering (selling) request, the two or more requests will be coordinated.

For example if you are a buyer, your order will be executed on offer price. The first row indicates the best offer price which is 1765.70 for 82 quantities. Suppose your order quantity is bigger than 82 quantities then remaining quantity will get the next row offer price for available offer quantity .

What about limit order?

When somebody is trying to take a limit order with a large quantity, it is next to impossible for the shares to get that specific price.

So, it is possible to get the order matched through market orders. But, there is the uncertainty of price for shares. You order will get through different prices for different no of shares.

See the same screenshot of market depth from my broker and understand how matching system works.

You must request faculty to follow the example of trades through this market depth if you are willing to join any Stock market classes in Delhi.

Let’s discuss an example of buying. You want to buy 100 quantities at 1765.70.

Your price is specific so, you will take a limit order. Do you think you order will hit at 1765.70 instantly, the answer is no.

Because you are taking a limit order (you want the exact price per share).At the price of 1765.70, only 82 quantities are available.

The solution of getting 100 quantities instantly is taking market order. At market order whatever the best price going is per share price.

So, your 82 quantities will get 1765.70 rupees per share and the remaining 18 quantities will be getting the next best price which is 1765.75.

Note: I have seen Students in our stock market classes Delhi misunderstands this fact of buying order. Please keep in mind when you are buying your order will hit according to offer quantity, offer price and vice-versa.

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