Market Maker
What is a market maker?
A market maker is a firm or individual that continuously posts buy (bid) and sell (ask) prices for a particular security, along with the size (volume) they are willing to trade. By standing ready to buy and sell, market makers provide liquidity and depth to financial markets and help ensure that investors can execute trades quickly and efficiently.
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How market makers operate
- They quote both sides of the market for specified securities and must maintain those quotes according to exchange rules.
- When an order arrives, a market maker can fill it from its own inventory (a principal trade) or match it with other orders.
- Quotes include price and volume and are often updated frequently; market makers are required to quote even in volatile conditions.
- Their activity reduces the time and cost for investors to transact and helps maintain orderly markets.
How they make money
- Bid-ask spread: The primary revenue source is the spread—the difference between the price at which they buy and the price at which they sell. Small spreads applied across high volumes generate significant revenue.
- Inventory risk: Market makers may earn (or lose) depending on price moves while holding securities between purchase and sale.
- Additional strategies: Some market makers also engage in proprietary trading, arbitrage, or provide execution services that generate fees.
Regulatory framework
- Market makers operate under exchange rules, which are overseen by national securities regulators (for example, the U.S. Securities and Exchange Commission).
- Rights and obligations vary by exchange and by instrument type (stocks, ETFs, options, etc.). Exchanges typically set quoting obligations and minimum liquidity requirements.
Market makers vs. designated market makers (DMMs)
- Competitive market makers: On many exchanges, multiple market makers compete to offer the best prices and attract order flow.
- Designated market makers (DMMs), historically called specialists, have exclusive responsibilities for specific securities (prominent on the NYSE). DMM duties include:
- Posting bids and offers publicly
- Ensuring trades are executed at fair prices
- Maintaining orderly trading and setting the opening price based on supply and demand
Why market makers matter
- They ensure continuous trading by supplying both buy and sell interest.
- They improve price discovery and reduce transaction costs and delays.
- Without sufficient market making, markets would face wider spreads, thinner liquidity, and more volatile price movement.
Major exchanges and example market makers
Market makers operate globally. Examples of firms active on major exchanges include:
- U.S. (NYSE, Nasdaq): Citadel Securities, GTS, Virtu
- Germany (Frankfurt / Xetra): Berenberg, JPMorgan, Optiver, UBS
- U.K. (London Stock Exchange): BNP Paribas, GMP Securities Europe, Standard Chartered
- Japan (Tokyo Exchange Group): Nomura, ABN AMRO Clearing, Societe Generale
- Canada (Toronto Stock Exchange): BMO Nesbitt Burns, Scotia Capital, TD Securities
(These are representative examples of firms that act as market makers or designated sponsors on their respective exchanges.)
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Simple example
A market maker quotes XYZ stock at $10.00 (bid) – $10.05 (ask) with sizes 100 x 500.
They will buy up to 100 shares at $10.00 (investors “hit the bid”).
They will sell up to 500 shares at $10.05 (investors “lift the offer”).
The market maker captures the $0.05 spread if it buys at $10.00 and sells at $10.05.
Key takeaways
- Market makers are essential liquidity providers who enable efficient trading by continuously quoting buy and sell prices.
- They earn chiefly from the bid-ask spread and by managing inventory risk.
- Exchanges and regulators define market-making obligations; some securities are assigned to designated market makers with additional responsibilities.
- Their presence narrows spreads, supports price discovery, and stabilizes markets—especially during periods of high volatility.