← IntermediateLesson 6 · 3:57
Can you trade this option at a fair price?
Summary
You can check whether you can trade an option close to a fair price. You can measure the bid-ask spread as a round-trip cost and as a share of the price, read volume and open interest to see how busy a market is, and use a limit order near the mid instead of paying the ask.
Key terms
- bid
- The most someone is offering to pay right now, which is the price you can sell at.
- ask
- The lowest price someone will sell at right now, which is the price you pay to buy right away.
- mid
- The halfway point between the bid and the ask.
- bid-ask spread
- The gap between the bid and the ask, which you pay when you trade in and out.
- volume
- How many contracts traded today; it starts again from zero each morning.
- open interest
- How many contracts have been opened and not yet closed.
- market order
- An order that trades straight away at whatever the current price is, the ask when buying.
- limit order
- An order that sets the most you will pay or the least you will accept, and may not fill.
Check yourself
Answer each question to see why the right answer is right.
1. An example XYZ $100 call is quoted $3.40 bid and $3.50 ask. The screen also shows $3.45. If you buy with a market order now, what do you pay?
2. ABC's $100 call is quoted $3.20 bid and $3.70 ask, the same $3.45 mid as XYZ. You buy one contract and sell it straight back with nothing moving. What does it cost?
3. The XYZ $100 call is worth $3.45 and the $110 call is worth about $0.61. Both have a ten cent spread. Which carries the bigger cost for you?
4. Day one: ten contracts are opened. Day two: four are closed and three new ones opened. Day three: nothing trades. What are volume and open interest on day three?
5. On ABC you place a limit order at the mid, $3.45, instead of a market order at the $3.70 ask. What can happen?
Finished the video and the quiz? .