Maximizing Your Options Trading Potential: How to Avoid Getting Ripped Off by Bid/Ask Spreads

Dear valued readers,

We have received numerous inquiries regarding wide spreads in the options market and how to avoid getting ripped off when trading. As a result, we would like to address this topic and provide some tips to help you navigate the bid/ask spread.

The bid/ask spread is the difference between the price at which dealers sell and buy securities. It is an essential part of every security trade, and paying attention to it can save you thousands of dollars, depending on the size of the trade. Unfortunately, many people overlook spreads, giving dealers and more-sophisticated investors an opportunity to take advantage of them.

The most actively traded options typically have penny-wide spreads, meaning the bid and ask prices are very close. However, beyond the top 100 or so most popular options and stocks, spreads widen. For example, a call or put could trade at $1 to $1.10, or even worse. This can be a substantial tax on option investors, as the value of the option is much less than that of the underlying stock.

To avoid paying the bid or ask on securities that are more than a penny wide, focus on trading at prices that are as close to the middle of the bid/ask spread as possible. Always try to get the best price, and use limit orders to specify the prices at which you want to buy or sell. Avoid market orders, which give dealers control of those prices.

It's also essential to have a plan to contend with spreads. Try to figure out where the real market is and start with fair value. If you don't get filled, go up and down. Start with one contract and go up a penny if you're trying to buy.

In summary, understanding bid/ask spreads and using limit orders can help you avoid getting ripped off when trading options. Don't overlook this critical aspect of the market, and always try to get the best price possible.

Happy trading!