DEFINITION of 'Affirmative Obligation'

An affirmative obligation is an obligation of NYSE specialists to enter the market on a particular security (either by posting or bidding and ask) when there is not sufficient market demand and supply to efficiently match orders. The affirmative obligation requires specialists to create a market for a security when public demand or supply is ineffective and cannot create it for itself.

BREAKING DOWN 'Affirmative Obligation'

For example, it could occur that demand for a specific stock outpaces supply, or, alternatively, there could be far more shares available than there is demand for them on the market. The NYSE’s affirmative obligations mandate means that, the case of high supply and low demand, specialists purchase shares to control price continuity; or, in the case of high demand and low supply, they sell shares. This ensures that the market’s demand for securities matches the supply and vice-versa. This helps to maintain trading continuity and keep market prices stable.

Designated Market Makers and Market Quality

As the NYSE has become more automated with advances in technology, the role of specialists in making the market has evolved, and traditional market specialists have been superseded by designated market makers (DMMs). DMMs improve market liquidity and quality by:

  • Reducing volatility in the market via price stabilization and by satisfying market demand for securities;
  • Providing core liquidity by assuming risk and displaying quotes;
  • Reducing the costs of trading for investors; and
  • Minimizing opening volatility by establishing an appropriate opening price.

Affirmative Obligations of DMMs

The affirmative obligations of DMMs extend far beyond those traditionally assumed by specialists. Their regulatory affirmative obligations include:

  • Adding liquidity to control volatility;
  • Maintain orderly openings and closings;
  • Contributing capital to fulfill market orders;
  • Quoting best stock prices;
  • Overseeing removal of liquidity in a way that does not harm market stability;
  • Maintaining quote continuity; and
  • Providing human communications and judgments to trades.

The exchange itself also funds some affirmative obligations of DMMs, such as:

  • Rebate quotes based on certain percentage time at best prices, or based on quoted size at best prices;
  • Liquidity provision rebates;
  • Rebates based on market data to boost quoting in less active securities;
  • Flat fee rebates; and
  • Rebates designed to encourage prices.
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