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MarketMaker techniques
- Thread starter StillStanding
- Start date
Quote from StillStanding:
Hi
How do big firm market makers handle trend risk?
If always maintining bid/ask spread , then a rapid trend move could result in them averaging down all day against the trend ending up with enormous losses at end of day.
How do they avoid this?
Do they carry over the loss?
Do they stop averaging down at some point?
Do they bail out at some point? if so when?
Do they keep moving the average down point further away as their losing position grows?
Any former professional market makers working for a big firm on this forum ?
Thanks
Derivatives mm's hedge <i>everything</i>.
Quote from Elitist Trader:
Quote from nitro:
In equity options?
No.
Yes
http://dailyoptionsreport.com/blog/post/option-market-makers-rule-the-world/
Gotta go with Nitro on this. I know most of ET'rs are younger in years than GM is in $'s, but nonetheless, at one time in the past (and may still be true but don't know) the largest traders of GM shares were GM options traders, hedging their business.
If the Options guys are hedging in the shares, it doesn't make much sense for the Specialist to hedge in options. If he's long shares and decides to use options to hedge, he's going set up a short. If he sets up a short with options, the options market-maker will hedge by selling shares to the specialist -- etc etc until they close the market. Furthermore it would seem likely on the face of it that the hedging costs using a less liquid, derivative instrument would be prohibitive as a matter of routine.
In the days before options, Specialists still had to make markets and stay in business. Like the OP, I find that a fascinating art. They used their privilege as market makers, to be sure. What other tricks and dark arts they had would be interesting to know.
I do recall finding a book years ago in which various traders and investors were interviewed. It was not one of the popular ones, and was probably written in the '60's or '70's. There was an interview with the GM specialist at the time. He disclosed part of his strategy, which I will paraphrase from memory:
It was an overcast day. I knew I was going to get shellacked. On the way to the Exchange, I passed a Nun. I handed her a few dollars and said, "Sister, please, for special intention!" I got shellacked anyway.
Continued...
Every "advantage" they had as Specialists they needed to keep making the markets. Then the business became subject to margin pressures from competition: NASDAQ opened the way to ECN's and NYSE responded with the DOT systems.
Meanwhile, institutional traders were complaining about spreads and backing competitive technologies and rules changes. Specialists became downright greedy and deceptive (like, it seems, everyone else in business). Finally, as has been pointed out elsewhere, God punished them with ARCA and the plagues of "Flash Crashes."
[nb: I wouldn't be surprised if I mention that book by name somewhere in the ET archives, but gawdonlyknows where.]
Every "advantage" they had as Specialists they needed to keep making the markets. Then the business became subject to margin pressures from competition: NASDAQ opened the way to ECN's and NYSE responded with the DOT systems.
Meanwhile, institutional traders were complaining about spreads and backing competitive technologies and rules changes. Specialists became downright greedy and deceptive (like, it seems, everyone else in business). Finally, as has been pointed out elsewhere, God punished them with ARCA and the plagues of "Flash Crashes."
[nb: I wouldn't be surprised if I mention that book by name somewhere in the ET archives, but gawdonlyknows where.]