In the fast-paced world of financial markets, traders are constantly seeking strategies to improve execution quality, reduce costs, and enhance profitability. One such advanced technique is the use of split the spread orders, which involve placing limit orders within the bid-ask spread.
These orders can provide significant price improvement when executed and may even qualify for exchange rebates by adding liquidity to the market.
Understanding Split Spread Orders
A split spread order is a limit order priced between the current bid (the highest price a buyer is willing to pay) and the ask (the lowest price a seller is willing to accept). Unlike traditional limit orders placed at the best bid or ask, split spread orders attempt to secure a better price by narrowing the spread.
For example:
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Stock XYZ has a bid of 50.00 and an ask of 50.10.
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Instead of placing a buy order at 50.00 (the bid) or a sell order at 50.10 (the ask), a trader could:
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Place a buy order at $50.03 (above the bid but below the ask).
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Place a sell order at $50.07 (below the ask but above the bid).
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If these orders execute, the trader benefits from price improvement—buying at a lower price or selling at a higher price than the prevailing market.
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Benefits of Split Spread Orders
1. Price Improvement
By placing orders inside the spread, traders can achieve better execution prices than simply taking liquidity at the best bid or ask. This is particularly valuable in highly liquid markets where small price advantages add up over multiple trades.
2. Potential Exchange Rebates
Many exchanges offer liquidity rebates to traders who provide liquidity (post resting orders) rather than take it (execute market orders). Since split spread orders are limit orders that sit on the order book, they may qualify for these rebates, further reducing trading costs.
3. Reduced Market Impact
Aggressive orders that take liquidity (e.g., market orders) can move prices unfavorably, especially in large quantities. Split spread orders, by contrast, passively wait for execution, minimizing market impact and slippage.
When to Use Split Spread Orders
Split spread orders work best in:
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Liquid markets with tight bid-ask spreads.
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High-frequency trading (HFT) and algorithmic strategies where small price advantages matter.
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Low-volatility conditions, where spreads are stable and orders are more likely to fill.
However, in fast-moving or illiquid markets, split spread orders may not fill quickly, requiring traders to adjust their pricing dynamically.
Risks and Considerations
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Execution Risk: These orders may not fill if the market moves away.
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Opportunity Cost: Waiting for a better price could mean missing the trade entirely.
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Order Type Restrictions: Some brokers or exchanges may have rules on how close to the spread an order can be placed.
Conclusion
Split spread orders are a powerful tool for traders looking to optimize execution quality and reduce costs. By strategically placing orders within the bid-ask spread, traders can achieve price improvement, earn liquidity rebates, and minimize market impact. However, success depends on market conditions, order placement strategy, and risk management.
For active traders, incorporating split spread orders into their execution toolkit can lead to measurable performance enhancements over time.
