How Do Designated Market Makers Create Value for Small-Caps?

56 Pages Posted: 13 Feb 2009 Last revised: 3 Aug 2013

See all articles by Albert J. Menkveld

Albert J. Menkveld

VU Amsterdam; Tinbergen Institute - Tinbergen Institute Amsterdam (TIA)

Ting Wang

VU University Amsterdam

Multiple version iconThere are 2 versions of this paper

Date Written: August 2, 2013

Abstract

A poor liquidity level and a high liquidity risk significantly raise the required return for small-cap stocks. Euronext allows these firms to hire designated market makers (DMMs) who guarantee a minimum liquidity supply for a lump sum annual fee. In an event study based on 74 DMM stocks, we find that the contract improves liquidity level, reduces liquidity risk, and generates an average abnormal return of 3.5%. DMMs participate in more trades and incur a trading loss on high quoted-spread days, i.e., days when their constraint is likely to bind. Finally, DMMs reduce the size of pricing errors.

Keywords: Liquidity, Liquidity Risk, Designated Market Makers, Small-Cap, Volume, Volatility, Price Discovery

JEL Classification: G10

Suggested Citation

Menkveld, Albert J. and Wang, Ting, How Do Designated Market Makers Create Value for Small-Caps? (August 2, 2013). Journal of Financial Markets, Vol. 16, 2013. Available at SSRN: https://ssrn.com/abstract=1342249 or http://dx.doi.org/10.2139/ssrn.1342249

Albert J. Menkveld (Contact Author)

VU Amsterdam ( email )

De Boelelaan 1105
Amsterdam, 1081HV
Netherlands
+31 20 5986130 (Phone)
+31 20 5986020 (Fax)

Tinbergen Institute - Tinbergen Institute Amsterdam (TIA) ( email )

Gustav Mahlerplein 117
Amsterdam, 1082 MS
Netherlands

Ting Wang

VU University Amsterdam ( email )

De Boelelaan 1105
Amsterdam, ND North Holland 1081HV
Netherlands

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