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Affirmative Obligation: What It Is and Importance

By

澳洲幸运5官方开奖结果体彩网:Jason Fernando

Updated March 20, 2024

Reviewed by

Michael J Boyle

Fact checked by

Yarilet Perez

What Is Affirmative Obligation?

In finance, the term “affirmative obligation” refers to the responsibilities of market makers working on the New York Stock Exchange (NYSE). These market makers are also known as “澳洲幸运5官方开奖结果体彩网:specialists” of the NYSE.

The affirmative obligation of NYSE specialists is to provide liquidity in situations where the public supply or demand for a security is insufficient to permit orderly trading.

Key Takeaways

An affirmative obligation is the responsibility of NYSE specialists to provide market-making services for a particular security.
Today, the NYSE’s market makers are known as 澳洲幸运5官方开奖结果体彩网:designated market makers (DMMs).
Their affirmative obligation responsibilities include providing stock quotations, limiting market volatility, and informing the opening and closing prices of certain securities.
To incentivize these activities, the NYSE offers various rebates to their designated market makers (DMMs).

Understanding Affirmative Obligation

In the course of trading, it is common for the demand for specific securities to occasionally outstrip the supply, or for the opposite to occur. In either case, the market makers of the NYSE would be required under their affirmative obligations mandate to buy or sell shares in order to maintain an orderly 🀅trading environment.

Specifically, in the case of demand far outstripping supply, market makers could𓆉 be required to sell inventory in that security. Likewise, if supply outstrips demand, they may be required to purchase shares. In this manner, the affirmative obligations manda💛te helps ensure that supply and demand are kept in a reasonably close balance, thereby decreasing price instability.

As the NYSE has become increasingly automated in recent years, the role of specialist market makers has similarly evolved. Today, the traditional role of the NYSE specialist has been replaced by DMMs. In addition to balancing supply and demand, these important actors also bear additional responsibilities, such as establishing appropriate opening prices for securities and working to reduce the 澳洲幸运5官方开奖结果体彩网:transaction costs faced by investors.

Special Considerations

Additional practices that fall under the affirmative obligation framework of modern DMMs include: maintaining orderly trading in the opening and closing periods of the trading day; providing quotes on the best available stock prices; and overseeing processes that remove market 澳洲幸运5官方开奖结果体彩网:liquidity from the market, in order to manage risk.

In some cases, the NYSE will assist these DMMs by providing rebates for market-making activities. These rebates are designed to incentivize prudent and effective market-making activities and are therefore tethered to outcomes such as the accuracy of quoted prices, the level of market liquidity, and the quality of quotes available for thinly traded securities.

What Do Market Makers Do?

The primary objective of market makers is to generate liquidity in the market, usually for specific securities that have low trading volumes. Market makers operate for specific exchanges. They buy and sell for their own accounts and make profits on bid-ask spreads. As they trade, they generate liquidity. It's important to note that they both buy and sell a security to create liquidity as opposed to just choosing one side of the trade.

Can One Person Be a Market Maker?

Technically, yes, one individual working outside of an organization can be a market maker. This individual would be known as a "local." However, this is not that common, as to generate the right liquidity in the market, large amounts of volume need to be traded, which is more feasible to do as part of a larger organization.

Does Nasdaq Have Market Makers?

Yes, Nasdaq has market makers, but they operate slightly differently than the market makers "specialists" of the NYSE. Because Nasdaq is an entirely electronic exchange, it uses market makers known as broker-dealers that are members of the exchange to generate liquidity.

What Is an Example of a Market Maker?

Most market makers are large financial institutions or banks. For example, many hedge funds are market makers that buy and sell on exchanges in large quantities to generate liquidity. For example, if you decide to sell a stock you're holding, it is fairly easy to do; there will most often always be a buyer. This is generally ensured by market makers as they buy and sell in large quantities so it is ensured that there will be a buyer for a stock you're trying to sell.

The Bottom Line

Market makers operate for a specific exchange, trading for their own accounts, in order to generate liquidity in the market. This is known as the affirmative obligation of market makers working for the New York Stock Exchange (NYSE). It is a critical component of financial markets as ꦐit creates liquidity for securities with low supply/demand to ensure orderly trading.

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