In the financial markets, we often hear the term Market Makers, but who are the Market Makers and what do they do????????????

Market Makers are the people who insure that your orders get filled, they keep the market liquid. If you want to move 3,000,000 shares of xyz and there is no buyer waiting for those shares; the Market Makers will buy those shares from you even if though there is no buyer on the other end of the transaction.

Won't the Market Maker go broke doing this???????????

No the Market Makers are Banks and very large financial institution that make their money off of the the difference between the
Bid/Ask price which is referred to as the spread. The spread acts to offset the risk of their buying your xyz with no seller lined up in case something goes wrong. Though the spread is often very little, millions of transactions a day creates a very lucrative profit for the Market Maker.

The Market Maker makes money by buying your xzy at 25.5 and reselling it at 25.8. The Market Marker buys low and sells high or sell high and buy low. The Market Maker takes advantages of both the buy/sell, making money in both directions as the market goes up and as the market comes down.

Can a Maker Maker lose money??????????

Sure, if the Market Maker misjudges the market sentiment thinking that the market is going to go up when it comes down. If he bought your xyz at 25.5 and it falls to 13.3, the Market Maker is in trouble if unable to get rid of those shares before price plummets .

Market Makers also get rebates from ECN's (electronic communication networks) for each share that is sold to you at the bid price. On the other hand, the trader who buys the bid of an ECN (your trading platform) is charged a fee. The Market Maker will profit regardless of what kind of order you place whether buy/sell.

In short the market maker makes it possible for you to buy/sell whether there is an existing counterpart to your trade or not for a small fee as long as there is a bid/ask price available.

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1 comment:

  1. Great post TF, I think few people realize the power of the market makers in our trading. They own you in penny stocks. That's why shorting penny stocks is so much more profitable then trying to invest in them. Every time they run up the MM's will sell them off for their own benefit. Almost every time. That has been Tim Sykes real success is shorting pennies on the OTC.
    Check him out at > http://bit.ly/bBcY84