Bid/Offer Rate – Foreign Exchange Tutorials

What is Bid/Offer Rate?

The market maker is willing to buy the Primary currency at the first price i.e. 82.50, which is called the Bid rate. On the other hand, the market maker is willing to sell the Primary currency at the second price i.e. 82.54 which is known as the Offer rate.

The bid–ask spread, is the difference between the prices quoted for an immediate sale and an immediate purchase for stocks, futures contracts, options, or currency pairs. The size of the bid–ask spread in a security is one measure of the liquidity of the market and of the size of the transaction cost.

Therefore the Bid rate is always lower than the other rate, because the bank (market maker) always wants to make a profit.

The trader initiating the transaction is said to demand liquidity, and the other party (counterparty) to the transaction supplies liquidity. Liquidity demanders place market orders and liquidity suppliers place limit orders. For a round trip (a purchase and sale together) the liquidity demander pays the spread and the liquidity supplier earns the spread. All limit orders outstanding at a given time (i.e. limit orders that have not been executed) are together called the Limit Order Book. In some markets such as NASDAQ, dealers supply liquidity. However, on most exchanges, such as the Australian Securities Exchange, there are no designated liquidity suppliers, and liquidity is supplied by other traders. On these exchanges, and even on NASDAQ, institutions and individuals can supply liquidity by placing limit orders.

The bid–ask spread is an accepted measure of liquidity costs in exchange traded securities and commodities. On any standardized exchange, two elements comprise almost all of the transaction cost—brokerage fees and bid–ask spreads. Under competitive conditions, the bid–ask spread measures the cost of making transactions without delay. The difference in price paid by an urgent buyer and received by an urgent seller is the liquidity cost. Since brokerage commissions do not vary with the time taken to complete a transaction, differences in bid–ask spread indicate differences in the liquidity cost.

Practice Questions

1. What is a bid rate?
A) The rate at which a market maker is willing to sell a security
B) The rate at which a market maker is willing to buy a security
C) The rate at which a security was last traded

2. What is an offer rate?
A) The rate at which a market maker is willing to sell a security
B) The rate at which a market maker is willing to buy a security
C) The rate at which a security was last traded

3. What is the bid-offer spread?
A) The difference between the highest and lowest prices of a security over a certain period of time
B) The difference between the bid and offer rates of a security
C) The percentage of a company’s profits that is paid out to shareholders as dividends

Answers:

1. B

2. A

3. B