DEFINITION of Negative Obligation
Negative obligation is a New York Stock Exchange (NYSE) rule that governs the behavior of its specialists. Negative obligation is the mandate of the specialists to refrain from trading for the specialist's firm's own account when enough public investor orders exist to match up naturally — without intervention. An example of violating negative obligation is trading ahead.
In contrast, positive obligation describes another New York Stock Exchange rule that governs the behavior of specialists: Positive obligation is the mandate of the specialists to step in and act as either the buyer or the seller public investor orders exist do not match up naturally. This has also come to be called affirmative-obligation.
BREAKING DOWN Negative Obligation
The negative obligation ensures that specialists are not getting involved in the market on their own behalf when the market is able to "make itself" and sufficiently match buyers with sellers. This obligation on the specialists provides the public with the opportunity to transact with each other without specialist intervention.
A specialist is a member of a stock exchange who acts as the market maker to facilitate the trading of a given stock. The specialist holds an inventory of the stock, posts the bid and ask prices, manages limit orders and executes trades. If there is a large shift in demand on the buy or sell side, the specialist steps in and sells off his own inventory as a way to manage large movements and to meet the demand until the gap between supply and demand narrows. The job of the specialist originated in 1872 when it was recognized that there was a need for a new system of continuous trading - before this, each stock had a set time during which it could be traded. Under the new system, brokers began to deal in a specific stock to remain at one location on the floor of the exchange. Eventually, the role of these brokers evolved into that of the 'specialist.'