Market Maker

Context & Mechanics

Role in market structure

A market maker continuously posts firm bid and ask quotes for an instrument and commits to trading at those prices. By taking the other side of incoming orders, it ensures buyers and sellers do not have to wait for each other. The business model rests on the bid-ask spread: buy at the bid, sell at the ask, and collect the difference across thousands of transactions per day.

How market makers manage risk

Market makers generally avoid directional bets. When one-sided order flow builds up inventory, they hedge or skew their quotes: a market maker that has bought too much lowers both bid and ask to slow further selling and attract buyers. In volatile phases they widen spreads or cut quoted size – exactly when slippage rises for anyone trading with a market order.

Exchange vs. broker model

On exchanges, registered market makers compete in the order book and are bound by quoting obligations. In CFD and forex trading, many brokers act as market makers themselves: client orders are executed internally (B-book) instead of being routed to an external venue. This is legal and often cheap to execute, but it creates a structural conflict of interest because the broker can profit from client losses. Regulated firms must disclose this conflict.

Why it matters for prop traders

Prop firm rules such as slippage clauses and execution restrictions are tied directly to the market-making structure of the connected liquidity providers. Traders who understand when liquidity providers widen spreads – news releases, session changes, thin markets – can budget execution costs realistically. The GlanWick simulation shows how spread and book depth change actual fill prices without risking real capital.

Execution Example

A market maker quotes stock X at €50.00 bid and €50.10 ask, 1,000 shares each side, and turns over 200,000 shares during the day with balanced order flow.

Spread revenue: with 100,000 shares bought and 100,000 sold, the market maker collects 100,000 × €0.10 = €10,000 in gross spread revenue.
Inventory risk: ahead of US data at 14:30, clients buy 20,000 shares one-sidedly – the market maker is now short inventory.
Reaction: it raises its quotes to 50.06/50.16 and cuts quoted size to 500 shares to attract sellers and rebuild inventory.
Effect for traders: a market buy order now fills at €50.16 instead of €50.10 – €0.06 of slippage caused purely by the quote adjustment.

Execution Risk & Errors

Treating the market maker as an opponent hunting individual stop losses – quotes react to aggregate order flow, not single retail accounts

Ignoring spread widening around news and trading market orders into it

Equating B-book brokers with exchange market makers without checking the conflict of interest

Assuming calm-market spreads are constant and underestimating execution costs

Sending large orders in one piece when quoted size is thin

Frequently Asked

How does a market maker earn money?

Primarily from the bid-ask spread: it buys at the bid and sells at the ask. Depending on the market, exchange rebates for provided liquidity come on top. Directional bets are not the business model – inventory is kept as neutral as possible or hedged.

Does a market maker hunt my stop-loss orders?

Individual retail orders are too small to drive quoting decisions. Price moves into zones with many stops occur because visible liquidity rests there for all participants – aggregate order flow, not a hunt for a single account.

What do A-book and B-book mean?

In the A-book a broker routes client orders to external liquidity providers and earns commission or markup. In the B-book it takes the other side itself and can also profit from client losses – a conflict of interest regulated firms must disclose.

Why are spreads wider during news or at night?

During news the market maker's inventory risk rises sharply; at night competition between liquidity providers fades. In both cases market makers widen the spread or cut quoted size – execution gets more expensive.