How do market makers know when to bid up stock?

Question

I read a report that said that market makers "bid up" share price more when there is a demand for shares to short against. So to keep from naked short selling,.. (something that is supposed to be illegal but has been practiced for some time? per Cox SEC)... market makers bid up the stock price, sucking in buyers as they go up (I thought buyers got sucked in on pull backs, but maybe naive buyers?)?

But anyways, if the market makers need to bid up share price, how do they do it? I thought the only way a share price could go up is for buyers to exceed sellers by a given volume and then the stock went up 1/8 of a point?

How is share price raised by a market maker? What does he have to do? Does he have shares that can be purchased by the company, or his own account, or what?

Answer 1

Naked short selling is illegal.  A broker is required to identify the shares to be delivered prior to forwarding the order to the exchange.

Market makers bid what they have to to obtain shares for their inventory. If sellers are demanding more, then the bid goes up.

What in the world are you reading?  Shares haven't been quoted in eighths for years.

Answer 2

Your confusing two different share systems. Quote driven systems such as on FTSE 100 stocks is nothing more than a computer system that matches buyers with sellers. It builds a list of people looking to sell X shares at X price on one side of the screen with a list of people willing to buy X shares at X price on the other. A market price is the average between these two. Of course if your keen to sell you simply take the first price you see on the sell side. And conversely if you keen to buy you just pay the price being asked by the first guy on the sell side. If you’re not bothered about buying or selling in a hurry you just ask for what you want and if someone wants to take you up in it they can enter a matching deal on their screen. Its direct from buyer to seller. These quote driven systems charge a percentage of the deal.

Then there is also market makers. It’s a little old fashioned and will no doubt be phased out eventually. But here a firm will agree to ‘make a market’. That is to say anyone who wants to buy or sell shares will do so with that firm, and then they hold those shares themselves. This is not direct user to user. So if I want to sell 100 shares of BOB plc I can find out who the market makers for BOB plc is. Lets say AMCO is a market maker. They might know there is a certain demand for BOB plc at a certain level, so they might decide to give a bid/offer spread of 98p/102p. This means they will buy shares from anyone for 98p and they will sell shares to anyone for 102p. (up to the average market size) They get to pocket the difference. So obviously they need to keep the bid/offer spread as close as possible to the point where an even balance of people will want to buy and sell through them. If they keep it too low they could have everyone buying and no one selling, if they keep it too high everyone will sell to them and no one will buy. Both is a disaster.

If you’re a market maker and you see a big increase in demand you simply move your bid/offer spread until you tempt more people to sell to you, and less people to want to buy until balance is retained. They don’t really care what the price is. They just want to shift as much volume at the correct balancing point as possible.

Why use market makers these days? I don’t see much point except in the most illiquid stocks. But like I mentioned, they are being used less and less.