Option Liquidity

[Greg Harrington]

What is your opinion regarding using bid-ask spread percentage when evaluating a specific option contract’s liquidity?

Obviously using the option open interest and volume are necessary to choose the best strike price in the chain. Do you have any general rule for minimum open interest or volume? For example, open interest must be greater than x?

Once the optimal option contract is identified, I calculate the bid-ask spread percentage using this formula: (Ask – Bid) / Bid)) * 100. If the bid-ask spread percentage is 10% or more, I will not enter that option position.

The bid-ask spread percentage may change during the day, so I check it periodically. The rationale for this rule is if the spread is too large, the liquidity is too low.

[DeanJenkins]

Liquidity and Bid/Ask spread are different measures.

You can have great liquidity and still have large spread due to high volatility.

I like to see at least a few hundred contracts open interest on the expiration date I'm considering, across all strikes.

If all other measures meet my criteria but the spread is large, I sometimes use a limit order around the mid-point and see if I can get filled.  If not, walk away.