Lesson 8 of 25 · 7 min

Depth, spread and immediacy: three measures that disagree

The screen prices one share. What governs a liquidation is the size standing behind the quote, and that is not displayed.

Liquidity is usually quoted as a single number, the gap between the best bid and the best offer. It is the most visible of the three measures that matter and the least informative.

Three measures, all called liquidity, that can move in opposite directions on the same morning:

The quoted gap — the cost of a round trip in the smallest tradeable size. Visible to everyone and almost always the first thing cited.
Depth — how many shares can be transacted within a given distance of that quote. Visible only to someone looking at the order book, and the number that governs any real sale.
Immediacy, sometimes called resiliency — how quickly the book refills after it is hit. Not visible anywhere, and the reason a large order cannot simply be broken into small ones.

A holding can be two cents wide and thin. Take an illustrative book in which the best bid is 900 shares at $41.32 and the sizes below it are 1,400 at $41.30, 2,600 at $41.27, 3,800 at $41.21, 5,200 at $41.08 and 9,100 at $40.79. Selling 400 shares costs nothing beyond the quote. Selling 18,400 shares exhausts the first five levels and takes 4,500 from the sixth, producing $756,079 against the $760,288 the top-of-book price implied. That is $4,209 of slippage, or 0.554 percent, on a name whose quoted gap never widened by a cent.

This is why an advance rate is a depth statement rather than a spread statement. The lender is not asking what it costs to trade one share; it is asking what it costs to trade the entire pledged position within a liquidation window. Two holdings quoting identically can carry advance rates twenty points apart on that basis alone, and a row can be revised in a week when the quoted gap never moved, because the thing that moved was the size behind it.

Key terms

Depth: The quantity that can be traded within a stated distance of the current quote. The measure that decides what a large sale actually realises.
Resiliency: How quickly an order book refills after a large trade. Low resiliency means breaking an order into pieces does not avoid the cost.
Slippage: The gap between what the quoted price implied and what a sale actually produced. It grows with size and is invisible before the trade.

Worked example

Walking an order book down

Illustrative bids: 900 at $41.32, 1,400 at $41.30, 2,600 at $41.27, 3,800 at $41.21, 5,200 at $41.08, 9,100 at $40.79. A holder sells 18,400 shares at once.

Shares available at or above $41.08: 13,900
Shares taken from the $40.79 level: 4,500
Total proceeds: $756,079
Average price realised: $41.0913
Value implied by the top-of-book price: $760,288
Slippage: $4,209, or 0.554%

The screen said two cents. The sale cost fifty-five basis points, and the entire difference is a quantity that was never displayed.

Check yourself

Using the same book, a holder sells 6,200 shares instead of 18,400. The average realised price is $41.2715 against a $41.32 quote, or 0.117 percent of slippage. Why is the cost per share nearly five times higher on the larger order when the quoted gap is identical?

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Educational only. Nothing in this lesson is investment, legal or tax advice, or a recommendation to enter into any transaction. Figures are illustrative and computed from the inputs stated in the lesson.