Insight: Market Makers 2011
What they do and no longer do
True market makers are a thing of the past and this has a huge impact on the small cap mining stocks’ price movements...old support levels are not support anymore! – www.MontrealAnalyst.com.
That was how I began an article published in The Bull and Bear six years ago. Today, the situation with market makers has become worse. There are fewer market makers operating today that can lend stability to the junior markets and perhaps engender research coverage.
Over the last twenty years, we have seen an enormous decline in the number of true market makers in the junior mining stocks and it’s even worse than it was six years ago. Most of the former “market makers” have become very active traders in the stocks that they previously made markets in. In the past a market maker (specialist is another term for a market maker), would attempt to keep a solid and “neat” market by trying to balance the bids and offers. No, they cannot really change the direction of a stock(s) but they certainly could prevent excess volatility.
In the past, they would fill a void during the times that there was not an even match of sellers verses buyers by putting up their own firms capital or their own personal capital. Remember, that there is rarely a perfect balance of buyers and sellers at the same time and it is even worse in less liquid stocks. Historically, the market makers would assist buyers and sellers by buying and selling shares or selling short to help fill the orders. Their market making activities would greatly enhance the liquidity of the market and diminish volatility. Naturally, they had a profit motive, but business must make a profit to continue in business. In the past, they would make their profits by their astute “market making.” Sometimes they would win, and yes, sometimes they would lose. The key as always was and still is winning more than they lose. But today it is exceedingly difficult to “turn a profit”.
In general, they would win more than lose by taking advantage of their years of experience and the fact that they really “see the inside of the market” in who is buying and who is selling and above all else “how much.” They were truly “in the information loop “knowing from experience as to who the “smart buyers” are and who is generally “dumb money”. Previously, most market makers were and still are employed by the brokerage houses that would support their trading activities with their firm’s own capital. They would add some price stability, some support to the price of a stock and often cut down on the volatility. But today, most of the brokerage houses engage the same market makers to be traders for the brokerage houses profits and very secondarily market makers. Trading! Today, that is where their profits are.
In the last fifteen years, we have seen computer trading done by far more investors than in the past. We have also seen in Canada something that should be an investor’s right in the US markets. This is the reality; in Canada and the rest of the world, the highest priced bid and lowest priced offer, no matter whether that bid or offer is made by a small investor or a market maker, always gets the trade execution in any transaction. There is no trading around the public by the market makers, which too often is the case in the U.S.
Just look at the trading activities in the US OTC Bulletin Board. It is a “dealer market” which means that only the bids and offers of the dealers actually show on the screen-not the best/highest “bids” and lowest/cheapest “offers.” In every sense of the word, it is not honest, since the best bids and offers often do not show, so it clearly creates a “false market picture” which is exactly what the market makers want. They don’t want the investing public to know the size of the true bids and the true amount of “offers” that are available. Their “exceptional advantage” would disappear. Actually, we don’t even want to get into that, it is so frustrating to investors and we cannot even start to list all the complaints that we have received.
As a matter of fact, the U.S. is the only place in the world where the highest bid and lowest offer for a stock do not receive priority. Guess who gets the priority? Right, the market makers! The U.S. should consider investors first and join the 21st century. Only when this fair play is finally accomplished, will Americans investors be treated fairly. That is not too much to ask. The public is “behind the eight ball enough in the too often sleazy world of investing. Note well that billions of dollars in fines have been paid by the brokerage houses for one primary reason-they were caught cheating the public again and again and again!
Investors must realize that since there are no longer market makers as in the past, they must expect far more volatility and price plunges to levels far below where most stocks have bottomed previously. Stocks often sit and rot at prices that eventually turn out to be “steals.” One can lament and complain or perhaps take advantage by putting in bids for stocks that one finds appealing and waiting for the chance to invest in those stocks when they are often very undervalued.
Couple the lack of supportive market makers with the fact that research coverage is often non-existent for small companies. Since there is very limited research coverage for most companies and it has gotten even worse over the last five years, the public is totally unaware of most undervalued stocks. The public usually only sees the narrow universe of stocks that the brokerage houses are recommending and most people have seen the performance of the brokerages houses-pathetic. Very few are undervalued...very few! And that is never going to change. Look at other sources for investment information, such as insider ownership trends, and make sure it makes sense to you.
Editor’s Note: This article appeared in The Bull and Bear Financial Report magazine in 2005 and updated in October 2011 by www.MontrealAnalyst.com.
|
|
