Dealers

Dealers

1. Primary Activities

   • Quotes: Set prices and volumes
   • Market their services
   • Manage their inventory
   • Act as intermediary between investors and exchange
   • Methods of attracting order flow
     • Quote aggressive prices and sizes
     • Reputation for high quality execution
     • Advertising
     • Cultivating relationships with customers
     • Side payment

2. Functions

   • Supply liquidity ("make a market")
   • Trade on their own account

3. Types of dealers

   • Scalpers
   • Day traders
   • Local traders
   • Market makers
   • Registered traders
   • Specialists
     • Continuously display bid-ask quotes
     • Quotes posted in limit order book
       • Management of book not monopolistic
       • Competition with intermediaries
     • Provide financial info on designated stocks
   • Principal traders

4. Benefits to exchange

   • Enhance market quality
   • Attract and supply liquidity
     • Increase trader profits from enhanced activity
   • Increase investor confidence
   • Generates more fees for exchange

5. Make or take pricing (rebates for order flow)

6. Obligations

   • Affirmative
     • Narrow bid-ask
     • Maintain price continuity (less price volatility)
     • Agent for limit order book
   • Negative
     • Public order precedence rule
       • Must yield to public customers first
     • Public liquidity preservation principle
       • Trades must be inside the spread
         • Necessary, but costly
       • Minimising dealer's use of limit orders

7. Trading Styles

   • Passive (spread trader)
   • Active (position trader)

8. Quote setting

   • Where to place bid and offer prices
   • The spread between bid and offer
     • Narrow or tight
     • Wide
   • Size of the bid-offer
   • Two sided vs one sided
   • Firm vs Soft (indicative)