Crypto Academy Season 4: Week 1 – The Bid-Ask Spread – by @awesononso

Question No. 1 - Properly explain the Bid-Ask Spread

Bid-Ask spread is one of the main features in a lot of crypto exchanges order book. Before delving into what Bid-Ask spread is, it is first important to talk about what the bid and ask is so as to get a better understanding of what the bid-ask spread is. In crypto exchanges order book, the Bid is simply the buy order that contains the highest buy prices that each buyer are willing to buy in the cryptocurrency pair. The Ask is simply the sell order that contains the lowest sell prices that each seller is willing to sell in the cryptocurrency pair.

The Bid-Ask Spread is simply the difference in price between the ask price and the bid price in the order book. Simply put, Ask price - Bid price gives the spread. For instance, if the lowest Ask price of a particular cryptocurrency is $2, and the highest bid price is $1.5, the Bid-Ask Spread is $2 - $1.5 = 0.5. Therefore, the Bid-Ask Spread is $0.5.

Question No. 2 - Why is the Bid-Ask Spread important in a market?

In trading any cryptocurrency asset pair, one of the main factors that traders pay attention to is the activities on the order book and the Bid-Ask Spread. This is very important because the Bid-Ask Spread help indicate the liquidity in the particular asset pair. In cryptocurrency trading, Liquidity simply means the number of buyers and sellers in the market and how easy it is for buyers and sellers to buy or sell any cryptocurrency in the market at a stable price when the Bid-Ask spread is small without any drastic change in the overall market price.

Also, the Bid-Ask Spread can also tell the popularity of a particular asset. A lot of new cryptocurrency asset might have large bid-ask spread because they not yet popular and don’t have enough buyers and sellers. This can be an opportunity for buyers to capitalize on inpatient sellers and buy assets with very good potential at a very low price and wait for the asset to gain popularity and have enough buyers and seller which causes the bid-ask spread to become very small.

Question No. 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

Calculating the Bid-Ask spread

Like I explained above, the Bid-Ask Spread is simply the Ask price minus the Bid price.

From the question,
The ask price = $5.20
The bid price = $5

The Bid-Ask Spread = ask price of $5.20 minus bid price of $5 = $0.2

Therefore, the Bid-Ask Spread is $0.2

Calculating the Bid-Ask spread in percentage

Percentage Spread = the Spread divided by the Ask Price multiplied by 100
Percentage Spread = (Spread/Ask Price) x 100

From the calculation of the spread above, the spread = $0.2

Using that in the formula,
Percentage Spread = spread of $0.20 divided by ask price of $5.20 = 0.0385 x 100
0.0385 x 100 = 3.85

Therefore, the percentage spread is 3.85

Question No. 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

Calculating the Bid-Ask spread

From the question,
The ask price = $8.80
The bid price = $8.40

The Bid-Ask Spread = ask price of $8.80 minus bid price of $8.40 = $0.4

Therefore, the Bid-Ask Spread is $0.4.

Calculating the Bid-Ask spread in percentage

Percentage Spread = the Spread divided by the Ask Price multiplied by 100
Percentage Spread = (Spread/Ask Price) x 100

From the calculation of the spread above, the spread = $0.4

Using that in the formula,
Percentage Spread = spread of $0.40 divided by ask price of $8.80 = 0.0455 x 100
0.0455 x 100 = 4.55

Therefore, the percentage spread is 4.55

Question No. 5 - In one statement, which of the assets above has the higher liquidity and why?

The results from the two calculations, it is clear that Crypto X which has a has higher liquidity because the spread is smaller than the spread of crypto Y which means that crypto X has more buyers and sellers in the market that caused the spread to be small.

Question No. 6 - Explain Slippage

Cryptocurrency can be very volatile that causes the prices to change rapidly. When it comes to cryptocurrency trading, slippage is a very important term to understand as it indicates volatility in the market. Slippage is simply the change in price of any cryptocurrency asset, the difference between the price that the buyer is expecting and the market price at the time the trade is executed. The effect of slippage is common in markets with large Bid-Ask spread and is mostly felt when using market order type to buy or sell any cryptocurrency.

For instance, if a trader uses the market order type to buy a particular cryptocurrency at a current price of $1 and the market price changes to $1.5, the trade will be executed at $1.5 which means that the buyer will have few coins than expected. Also if a seller uses the market order type to sell a particular cryptocurrency at a current price of $0.5 and the market price changes to $1, the trade will be executed at $1 which means that the seller would have sold at a higher price.

Question No. 7 - Explain Positive Slippage and Negative slippage with price illustrations for each.

Positive Slippage

From the name positive slippage it means that it is a favorable situation for the buyer or seller when executing a trade using the market order type. Positive slippage simply means that the change in price at the time the buyer or seller executes a trade is favorable to the buyer or seller.

For Buyer - For instance, if a buyer uses the market order type to buy a particular cryptocurrency at a current market price of $2, and the current market price changes to $1.5, the trade will be executed at $1.5 which means that the buyer will have more coins than expected which favors the buyer.

For Seller - For instance, if a seller uses the market order type to sell a particular cryptocurrency at a current market price of $2, and the current market price changes to $2.5, the trade will be executed at $2.5 which means that the seller would have sold the coins at a higher price than expected which favors the seller.

Negative Slippage

From the name negative slippage it means that it is an unfavorable situation for the buyer or seller when executing a trade using the market order type. Negative slippage simply means that the change in price at the time the buyer or seller executes a trade is not favorable to the buyer or seller.

For Buyer - For instance, if a buyer uses the market order type to buy a particular cryptocurrency at a current market price of $2, and the current market price changes to $2.5, the trade will be executed at $2.5 which means that the buyer will have less coins than expected which does not favor the buyer.

For Seller - For instance, if a seller uses the market order type to sell a particular cryptocurrency at a current market price of $2, and the current market price changes to $1.5, the trade will be executed at $1.5 which means that the seller would have sold the coins at a lower price than expected which does not favor the seller.