Understanding Obligations of Market Makers in Securities Trading

What is the obligation of MM#1 when MM#2 proposes to buy 700 shares at 31.55?

• A. Refuse to execute since it exceeds MM#1's quote size
• B. Execute at least 500 shares but no further obligation
• C. If the entire order is executed, it must move its offer up
• D. If the entire order is executed, it need not move its quote

Answer: (D)

In the context of market making, when one market maker (MM#2) proposes to buy shares at a specific price, MM#1 has certain obligations and rights regarding the execution of that order. In this case, if MM#1 receives a proposal to buy 700 shares at $31.55, the correct understanding lies in how market makers handle their quotes in relation to trades executed against them. The correct choice indicates that even if MM#1 executes the entire order from MM#2, it does not have to adjust its quote upward. This is grounded in the principle that market makers are not required to change their quotes in response to the execution of a trade, provided they can still accommodate more trades at the same price and size. Market makers quote prices and provide liquidity, and once they execute a trade, they can choose to maintain their existing quotes unless the market conditions or their inventory levels dictate otherwise. In simple terms, executing the order does not automatically trigger a requirement for MM#1 to increase or revise their quoted price. This means MM#1 can still quote the same bid and ask prices after the transaction, allowing for flexibility in their market-making activities.

When it comes to market making in securities trading, the dynamics can be intricate yet fascinating. Now, if you’re gearing up for the Securities Trader Representative (Series 57) exam, understanding the obligations of market makers (MM) is crucial. Let’s break this down with an example involving MM#1 and MM#2. What happens when MM#2 proposes to buy 700 shares at $31.55?

Here’s the scoop: out of the given options:

A. Refuse to execute since it exceeds MM#1's quote size

B. Execute at least 500 shares but no further obligation

C. If the entire order is executed, it must move its offer up

D. If the entire order is executed, it need not move its quote

The right answer is D. It’s a vital concept in market making that when MM#1 processes this potential order from MM#2, it does not automatically have to adjust its quote upwards.

Now, you’re probably thinking, “Why not?” — good question! Market makers like MM#1 have the flexibility to maintain their existing quotes even after executing an entire order, as long as they can still accommodate more trades at the same price and size. Picture it this way: market makers are a bit like restaurant owners who can serve 20 happy diners at the same table without changing the menu just because a few sat down.

So, when MM#2 wants to buy those 700 shares at $31.55, MM#1 can decide to go ahead and fulfill that order without needing to raise the price, as long as there’s room for more orders at that same price. This flexibility is crucial and allows market makers to provide liquidity without being forced to alter their pricing strategy every time a trade is executed.

Why should this matter to you? Well, understanding how these interactions work can significantly boost your practical knowledge for the Series 57. Remember, being a market maker isn’t just about making trades; it’s about strategizing and reading the ever-evolving market landscape.

In simpler terms, think of it like a game where not every move requires a shift in strategy. Just because one player makes a big move doesn’t mean the others have to shift the whole chessboard. By grasping this concept, you'll not only feel more confident about the exam but also have a robust foundation for a career in securities trading.

Navigating through options like this is part of the learning curve. Knowing the specifics about execution and quotes can help you tackle similar scenarios in your studies and even in real-world trading situations.