You are watching an option quote and think the price looks good. You place a limit order to buy. Then when you want to close the position, you realize the gap between the bid and ask is bigger than your floating profit.
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Poor liquidity affects you most directly by widening your round-trip spread. This spread is not an illusion. It is a real cost you have to pay.
Step 1: First Identify Where Liquidity Is Poor
Official exchange education materials mention a pattern: near-month contracts tend to have better liquidity than far-month contracts, and at-the-money and slightly out-of-the-money contracts tend to have better liquidity than deep in-the-money or deep out-of-the-money contracts. In other words, liquidity risk is not evenly distributed across different contracts.
Looking at the order book, illiquid contracts usually show these features:
Wide bid-ask spread: The gap between the best bid and best ask may be more than ten or even dozens of points, far wider than mainstream contracts.
Thin order book: The order size at each quote level is very small. A slightly larger order can push the price far.
Discontinuous quotes: Quotes at middle prices are sparse. If you want to get filled, you may need to find your own price inside the spread.
Step 2: How Much Does the Round-Trip Spread Eat?
Round-trip spread is the cost you lose to the spread when you buy and then sell, one full round trip.
For example, you are looking at an option. The bid price is $1.00 and the ask price is $1.20. Your limit order gets filled at $1.20 when you buy. If you want to close immediately, the highest bid in the market is $1.00, so you can only sell at $1.00.
In theory, just from this buy and sell, your account has already lost about 16.7% (0.20 ÷ 1.20) — even if the underlying asset price has not moved at all. Your floating profit must first cover this friction cost before you can start counting real profit.
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Step 3: How to Judge Whether the Spread Is Worth Paying
What you should look at is the spread as a percentage of the option premium, not just the absolute number.
A $0.20 spread on a $1.20 premium is close to 17%. That means the trade is already carrying a huge cost before it even begins. But if the premium is $12.00, the same $0.20 spread is only about 1.7%, which is within an acceptable range.
A practical trading habit: Before trading, check the order book depth of that contract and make sure the bid-ask spread as a percentage of the premium is within your acceptable range. If liquidity is really poor, consider switching to a nearby strike price or nearby expiration with better liquidity. There are many option contracts, and it is normal for some contracts to have insufficient liquidity. There is no need to force a trade in a contract with liquidity that has dried up.
How to check before placing a trade: Before opening a position, look at the contract's bid-ask spread as a percentage of the current premium. If this ratio is above 5%, the round-trip cost is already high. Prioritize other more active contracts instead of carrying that cost just to express a directional view.
