Market Making

Market making is aimed at infusing liquidity and it is mostly a market neutral trading strategy used for securities traded on Exchanges. The two most important features of market making are the bid-ask spread and trading volumes. A market maker is an individual, professional trading firm or a brokerage firm that is prepared to buy or sell securities on a continuous basis at a publicly quoted price to provide liquidity to the market. Market makers quote on both the buy and the sell side simultaneously. Once they attain a position they continue to provide liquidity, but generally more aggressive from the opposite side of their held position. They accept the risk of holding the securities for which they quote prices and once the order is received, they often immediately sell from their own inventory or seek an offsetting offer almost immediately and vice-versa. They make a profit from the spreads between buy and sell quotes.  Much of HFT is passive market making. Many exchanges designate the market makers for each of the listed securities to make the trades easier.

 

For example:

If the market has a bid-ask quotes as Rs 50-52 respectively (it means that the market maker will buy at Rs 50 and sell at Rs 52), then in this case if the market maker manages to get a fill for both of his orders at the quoted prices then the profit resulting from this trade would be of Rs 2.

For illiquid securities, the spreads are usually higher, because of the higher risk taken by the market-maker.