In today’s post we will discuss the importance of BID and ASK price configuration and how this can affect your trade. You may have noticed that even when you trade directly on an exchange, you have a choice of setting orders using either current market price or place a conditional order when certain price points are met. When trading on 3Commas, and using the Smart-Trade algorithm, you have even more flexibility and risk management features but the choice between Bid and Ask remains a very critical option that you need to select so you can optimize your trade.
In the above example you can see the choices that you need to make in order to properly set up a Smart Trade order. New users often ask what the difference is and why to choose one vs. the other. In this post we will provide answers to this very critical question.
We will cover the basics and those who are already familiar with the concept can skip to the next section that shows how Take Profit (TP) and Stop Loss (SL) work in the context of BID and ASK prices.
The key difference between BID and ASK
What is 'Bid and Ask'
The term BID and ASK refers to a two-way price quotation that indicates the best price at which a token can be sold and bought at a given point in time. The BID price represents the maximum price that a buyer is willing to pay for a token. The ASK price represents the minimum price that a seller is willing to receive. The difference between bid and ask prices, or the spread, is a key indicator of the liquidity of the token. In general, the smaller the spread, the better the liquidity.
Let’s imagine a physical crypto-currency market where buyers wander around between counters with bags full of cash while sellers stack their counters with various tokens. Nobody stops by the counters where Bitcoin is listed at $20,000 but long queues form in front of the counters where Bitcoin is listed at $10,000.
It’s all great until the supply of $10,000 Bitcoin is exhausted. Buyers have no choice but to move on to sellers who list Bitcoin for increasingly higher prices. This market dynamic is illustrated on all exchanges in the form of Buy/Sell walls.
Here is an example of a Buy/Sell wall chart for Bitcoin on the Bittrex exchange.
Green area - buyers, red - sellers. The height of the graph indicates the volumes of buy/sell offers at various price points. On the horizontal axis, we see at what prices they are placed. In the middle of the graph there is a point where these two walls meet representing the current price at that particular moment.
Where does the graph data come from? The data represents market buy/sell orders that are captured in the exchange Order Book. You can place a Buy order for a token at a chosen price.The moment a Buy order price and volume matches a Sell order, the trade is executed. If the Buy and Sell orders are far apart (large spread) no trades are executed until either buyers or sellers change their price parameters.
Buy orders for Bitcoin on the Bittrex exchange (bids - the price of purchase, demand).
Sell orders Requests for sale (asks - sale price, offers).
Order Book in the form of a Buy/Sell walls on the Bitfinex exchange.
How Take Profit and Stop Loss work in the context of BID and ASK
With the Market order
BID - the first price value at which the market is willing to buy. Our algorithm monitors the price action on the exchange and executes the trade when the price set is matched with an available sell order.
How Take Profit works with BID
Let’s look at the following example:
Bought 1 ETH for $ 100 and set Take Profit + 5%, at $ 105 in anticipation that the value will rise.
How Stop Loss works in BID
Bought 1 ETH for $ 100 and set a Stop Loss -5%, at $ 95 in anticipation that the price might go down.
This is what you’ll see as the price falls.
ASK - the first price at which the market is ready to sell
How Take Profit works with ASK
Bought 1 ETH for $ 100, set Take Profit + 5% - at $ 105.
As the price rises this is what you will see:
How Stop Loss works with ASK
Bought 1 ETH for $ 100 and set Stop Loss -5%, at $ 95.
As the price falls, this what you’ll see
Why Take Profit shouldn’t always use BID and Stop Loss shouldn’t always use ASK
In certain market conditions, the default choice between BID and ASK does not work.
BUY or SELL walls are often broken so let’s look at the following example:
John set a Stop Loss on the Ask price. As the price is slowly approaching the level of the Stop Loss, one of two events can occur. Bids are sharply lowered, and the Asks remain in place. The price on Asks remains above the Stop Loss levels, and on Bids goes much lower. If the price reverses and starts moving up John is lucky that he initially chose Ask so his Stop Loss did not trigger right before the price reversal.
Imagine that in the future John always sets Stop Loss -10% on Ask. At one point the same price action occurs but the token value falls even more instead of reversing. After the first sale, the Bid price is already lower than the Stop Loss at -12%. The ASK price is at -8% and the deal is not yet closed. There is a second large sale. This time, the Ask price drops to -13%, and on the Bid to -19%. Stop Loss works and the transaction closes on the market. As a result, John has a loss of 19% instead of 12%, if the method was determined by the Bid definition.
ASK or BID: Our final recommendation:
Understanding the market conditions and trends is critical so for effective Stop Losses select BID or BID plus SL Timeout.
SL. It is important to react when price drop fast so in setting the Stop Loss use BID but ensure that you’re not taken out of the market if the price recovers shortly after by adding the Timeout feature.
As you remember, when tracking by BID, the transaction is more price sensitive. This helps to avoid big losses.
If there is a sharp drop , the trade will close at the very bottom but the price could recover soon after. This also helps to avoid SL timeout. But remember, as with tracking on ASK, the deal will close a little later, which will could lead to a a slightly larger loss if the price keeps falling.
For Take Profit we only recommend choosing BID
The price at which the transaction closes will be closer to the target, since BID warrants are important for the sale on the market.
At the price increases, there may be a significant difference between the prices in the BID and ASK walls so the trade might not be executed.With ASK, the transaction will respond more quickly to price movements. On a sharp breakdown or a large purchase, the ASK price is significantly higher than the BID price. In such a situation, a possible false closing of the deal is possible: significantly lower than planned.
Limit orders for Take Profit will behave the same regardless of which tracking method - BID or ASK - you choose. The difference is that the algorithm will place an order the exchange Order Book, in advance at a set price, not a market price. This order may not get executed if there is not enough volume at that particular price point.
The limit order for Stop Loss will also be placed in the exchange's order book at a set price when the trigger condition for the BID or ASK is reached.
What have we learned today:
For TP it is better to use BID
For SL - BID, plus filter out rapid price swings with SL timeout.
ASK for TP can be used for a quicker reaction to price movement - respectively, only on heavily liquid coins. And those where the spread does not exceed 1%, even on rapid price movements.
We hope that you found this information useful. Practice makes perfect so apply what you just learned on 3Commas.io