Clearing Price
Categories: Trading, Accounting, Banking
Just about everything having to do with pricing goods and services must answer to the laws of supply and demand. The same holds true in the buying and selling of securities.
Obviously, the seller wants to get the highest possible price and the buyer wants to pay the lowest possible price, just like the practice of negotiating shmata at a flea market. Using a “bid” and “ask” process, a clearing price is agreed to that is usually the highest price the buyer was willing to pay and the lowest price the seller was willing to accept.
The term comes from the market being “cleared” so the transaction can take place.
Bob offers $23.50 each for 10 intentionally hand-ripped jeans; the seller wants $25 for them. Bob comes up in price to $24.20. The seller asks $24.40. They settle at $24.30, which is the clearing price for the jeans.
When there are lots of buyers and sellers in the marketplace, reaching a clearing price can happen quickly. For debt that is considered “distressed,” as with stock in a company filing for bankruptcy, there will be fewer buyers and it will take longer to reach a clearing price.
Harken back to when flat screen TVs first came to market. They were very expensive and had only a few “early adopter” type buyers. As the prices came down over time, demand increased. An adjustment took place to find the right clearing price—not too high so that no one is interested in buying or not too low so the manufacturer can’t make a profit or won’t be able to keep up with production to fill the demand.
Related or Semi-related Video
Finance: What is Spread?48 Views
finance a la shmoop. what is spread? before we start just no. get your mind
out of the gutter. spread refers to the money value between [100 dollar bill]
a bid and ask price under a market maker structure of trading securities. no more
wire hangers, a plastic hanger company is publicly traded on an exchange like
Nasdaq where buyers bid for a price to purchase and sellers ask for a price to [Nasdaq wall shown]
trade. no more wire hangers is bid this moment at 37:23 a share by buyers
willing to buy right now at that price and is being asked at this moment at a
price of 37.31. note the eight cents a shared difference in the share prices.
that dif is the spread between the two prices, and it's worth noting that in [bread is buttered]
extremely volatile stocks, the spread widens. and in boring highly liquid
stocks which don't move much, the spread tightens or is narrower. that is on a
volatile equivalent of no more wire hangers the spread might grow to 20 or
30 cents a share whereas a boring name that pays a big dividend and the stock
never moves much we're thinking AT&T here, [man snores at a desk]
well that spread might be just three or four cents. so why grow? well because a
market maker in a volatile stock doesn't want to be caught losing money on her
inventory. if no more wire hangers suddenly gapped down to 37.10 a share [equation shown]
well it would be likely less than the average of what the market maker paid
for her quote "inventory" unquote in that stock from which he was making a market
in it. each time the shares trade the market makers dip into that spread to [woman dips cracker in butter]
pay their bills and allow them to keep doing business. so that's spread. and it's
not the type that Prince used to sing about. [man on stage]