These days, the brokerage fee for trading, especially for the online broker, is trending cheaper and cheaper. In U.S market, for stock it’s not unusual to trade under $10 flat fee, for option even in order of $1 a contract or less… And with fierce competition the price is heading down. But is it really as investor or trader we will significantly reduce our trading cost ? Probably, yes.. but you still need to consider the hidden cost in your trading that is experience by anybody without exemption: the spread!

The Spread

The spread is simply the difference between “Ask” price and “Bid” price. Or in other word, the difference between selling price and buying price.

For example: your brokerage fee is flat $10. And you want to buy 1,000 stock XYZ which is trading at $25 at the moment. And opening your trading platform, you will see that the “Ask” price is probably at $24,9 and the “Bid” price is at $25.10. Meaning you will have to buy at $25.10 instead of $25. Then, since you buy 1,000 pieces of stock, this innocent $0.10 difference is add up to $100!  So, now your actual brokerage is not $10, but $110.

To give you more vivid illustration, let’s imagine that you buy these 1,000 stock then immediately sell it again at the same price. Your expectation probably you will lose $20 (which is the brokerage of “buy” plus brokerage for “sell”). Let’s see the table below:

Wow! Do you see that ? Buy a stock and sell it at the same price with brokerage $10 each will not cost you just $20, but “thanks” to spread, the cost goes up to $220 (or 4110 each transaction). This is the real / actual cost that you need to pay.

The spread itself depends on the stock. If the stocks is quite liquid and popular (means the volume of transaction is high), then usually the spread is smaller compare to other stock of smaller company with less liquidity.

Other way to see this

If you don’t want to be upset, of course you can see this hidden cost with different view… instead of see the price in the example above as $25, you can see it as $25.1… So, you’re buying at $25.1 (not $25.0) and selling at $24.9 (not $25.0). With this perspective, yes, the brokerage is now $20 only and the other $200 is a result of lost trade.

Which one you prefer is up to you, just beware that if you set a target say $30.0 to sell a stock, then the actual price still need to go beyond $30 to overcome this spread.

What will happen

Because the spread is not really obvious (that’s why I call it “hidden cost”) and cannot really be compared from broker to broker unless you have multiple trading platform at the same time, it will not be a surprise that in the near future, the brokerage company will advertise “Free brokerage” when actually they make money more on the spread. (This actually already happening in forex transaction where the brokerage firm just “charge” the spread)

Denis Kristanda