Advice on Market Making (equities)?

S

sf631

I am a systems trader with a statistical arbitrage bias and primarily focus on capturing alpha through anticipating short/medium term movements of equities based on proprietary views of "fair value". I have generally been a liquidity taker, though I have experimented with some very crude liquidity providing approaches (PEG orders) with not great results. I get good returns but give up 100 bps or so each month with exchange rebates. Additionally, the equities I focus on are not highly liquid and I expect I'll pay a higher penalty as my capital size scales up.

I am really interested in shifting into more of a liquidity providing model, essentially taking the same directional bets but doing so in a way where I can also capture B/A spread and rebates, essentially an informed trader / market-maker hybrid.

Can anyone recommend a good book, blog, or generally helpful ET forum member who could get me up the learning curve for how to go down this path? The books I've seen out there don't really cover this topic (including one called Secrets of the Market Maker or something like that...) and the coverage I have seen seem to be more focused on options+equity market making, which is also not my interest area because my focus is on stocks that typically don't have options.

While I'm not interested in competing for HFT/UHFT strategies (too many others with better gear and C++ skills) I have read Aldrige's recent book as well as "Algo Trading & DMA" for ideas.

I'm sure there are some MM 101 principles that I need to follow to avoid getting eaten alive. Thanks in advance for any suggestions.
 
Not quite that easy for two reasons. First, the quote boards aren't terribly liquid and as a result if I place an order of even a few thousand shares, it can by itself shift the market, though this can be managed through iceberg orders etc...

Second, and more importantly, I want to be able to keep a roughly neutral market exposure which means long/short. If I have 20 buy orders and 20 sell orders (on different securities), if the market suddenly drops by 1% I'll get filled on all my buy orders and none of my sell orders, leaving me really, really exposed to sharp market moves. The flip side of this is that if the market moves in one direction, the buy or sell orders that don't get traded through will now be way outside the NBBO
 
Ha, yeah I didn't take much from it but didn't think it was the waste of paper that many others seemed to find it to be
 
Quote from sf631:

Not quite that easy for two reasons. First, the quote boards aren't terribly liquid and as a result if I place an order of even a few thousand shares, it can by itself shift the market, though this can be managed through iceberg orders etc...

Second, and more importantly, I want to be able to keep a roughly neutral market exposure which means long/short. If I have 20 buy orders and 20 sell orders (on different securities), if the market suddenly drops by 1% I'll get filled on all my buy orders and none of my sell orders, leaving me really, really exposed to sharp market moves. The flip side of this is that if the market moves in one direction, the buy or sell orders that don't get traded through will now be way outside the NBBO
More...
1. Use reserve and hidden orders to avoid showing your hand in the market when you post your orders. (random reserve seems to work best)

2. That's the problem with providing liquidity, you're at the mercy of the market to a certain extend... you have to buy when the market is selling and sell when the market is buying. It is very tricky but with some practice you can learn to pull back enough to get a good average price on your positions... while still getting a good volume of fills.
One approach that may help is to tell your program to also look to remove NQBX and EDGA liquidity, where you get paid a credit to remove... that way you can keep getting credits while having control of your timing... Another approach may be to mix adding and removing so that you aim at getting 0 on your fees (not at making $ from credits) ... such an approach would give you a middle ground between getting lower fees and timing your entries.
 
Quote from sf631:
...Can anyone recommend a good book... I'm sure there are some MM 101 principles that I need to follow to avoid getting eaten alive...
More...

If you haven't already, I would suggest reading "Trading & Exchanges - Market Microstructure for Practitioners" (Larry Harris), or at least chapter 14 ("Bid/Ask Spreads"); explains (theoretical) basis of relationship between need to manage market maker inventory and size of bid/ask spread ...
 
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