What is Price Tension?
Price tension refers to the presence of a large bid-ask spread.
How Does Price Tension Work?
Let's assume you are watching Company XYZ stock. If the bid price is $50 and the ask price is $51.50, then the bid-ask spread (and the degree of price tension) is $0.50.
The higher the price tension, the bigger the spread. In turn, the bigger the spread, the less liquid the stock and the lower the volume traded, which means more liquidity and price risk.
note that the number of shares wanted (the bid size) and the number of shares offered for sale (the ask size) may be different. This means that an investor may only be able to purchase 5,000 of a desired 10,000 Company XYZ shares at $51.50 if there are only 5,000 shares for sale at that price.
Why Does Price Tension Matter?
It is important to remember one key aspect of bid and ask prices: purchasers pay the ask price and sellers receive the bid price. This is how securities dealers make a profit: Their job is to buy stocks at the ask price and sell at the bid price. Thus, the amount of price tension is proportional to the size of the dealer's profit (although other fees are part of the bid-ask spread too).
Many traders and analysts scrutinize price tension to understand what prices trigger demand for both sellers and buyers. Other traders and analysts feel that price tension itself has little predictive value.
