Tight spread does not mean deep liquidity

[Shadow Trader]

A 0.1 pip spread looks like the sign of a healthy market. It's actually just the gap between the best bid and the best offer, and says nothing about how much can be traded at those prices.

Picture two markets. One has 50 million available at the best bid and offer. The other has 1 million. Both show the same spread. The first absorbs a 10 million order with barely a flicker. The second jumps several pips.

Retail platforms can't show this difference clearly, because the quote only reveals the top of the book. That is why a pair can look calm and tight, and then slide 5 pips on a modest order.

Some clues exist. Quote updates that arrive very frequently with tiny changes suggest many providers competing. Quotes that update in rare, big steps suggest a shallow book.

The reverse is just as true: a wider spread with plenty of depth can be a better place to trade than a thin, tight one.

One way to build intuition is to compare quote update frequency across pairs at the same time of day. EURUSD at 10am New York might update twenty times a second. USDCHF might update six times. AUDNZD might update twice. All three can have similar spreads on a quiet afternoon, but the underlying activity differs enormously, and so does the ability to absorb a sizeable order without a jump.

When the quote rate suddenly slows on a pair that was lively a few minutes ago, depth is probably falling even if the displayed spread hasn't changed yet. That's often the earliest sign that a wide spread is on its way.

How can depth be judged when the only data on screen is the best bid and ask?