The word spread is used in
different ways. First, a spread is a difference between two related prices
or other financial variables. Second, a
futures spread is a long-short
futures position designed to give
exposure to a spread (of the first sense). Third, an
options spread is a position comprising
two or more related options. The name was probably coined by analogy to futures
spreads, but options spreads are designed to offer other types of
exposures. This article discusses some important spreads of the first
(difference between two variables) type.
In any market in equilibrium, there will generally be a
difference between the best quoted ask price and the best quote bid price. That
difference is called the bid-ask spread
(or bid-offer spread). Depending
upon the market, quotes may be expressed as actual prices,
volatilities, etc. Bid-ask spreads are measured in similar units.
Bid-ask spreads are sometimes used as a measure of a market's
liquidity, with narrow bid-ask spreads
indicating greater liquidity. The average of the bid and ask prices is
called the mid-offer price.
In money markets and foreign exchange markets, certain spreads are
actively tracked. One is the TED spread,
which is a difference between T-bill and Eurodollar rates. Being a spread
between a "risk free"
Treasury rate and comparable commercial rate, it offers
an indication of market-wide credit concern. Spreads between
for different currencies are also important because these determine
forward exchange rates and can indicate relative strength or weakness in
In futures markets, the spread between a futures price and
spot price is known as the futures
basis. The term "basis" is used as a synonym for "spread" in other
contexts. For example, the spread between two floating interest rates—say
the bankers acceptance rate and Libor—is
called a basis.
In fixed income markets, the
yields or spot rates at which instruments trade are modeled as
comprising some benchmark yield or interest rate plus spreads attributed
to factors such as credit risk, liquidity, embedded
options or tax
advantages. See the related article
Components of Yields and Spot Rates.
A calendar spread is
a spread between the same variable at two points in time. A calendar
spread for the price of an agricultural product prior to and after a
harvest might be of interest, as might be the calendar spread between the
price of natural gas in Summer and Winter.
Spreads between prices for raw materials and finished
goods are important in many markets. A crack
spread is a spread between crude and refined oil prices. A
spark spread is a spread between an
electricity price and the price of the fuel required to generate that
electricity. Spreads for prices of the same commodity at two
geographically separate delivery points can reflect transportation costs
or indicate temporary shortages at one location. Spreads between different
qualities of goods are also tracked.
Physical commodities often trade at spreads to benchmark
futures. For example, in the coffee market, numerous growths of coffee are
traded, but these are generally quoted at spreads to a handful of futures
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