The SEC approved the applications of three market makers to be introduced into the NSE a few weeks ago. The marker operators who are yet to resume activities on the floor are Greenwich Trust Limited, Chapel Hill – Denham Advisory Services Limited and Diamond Capital & Financial Market Limited.
More than a few analysts have argued about the feasibility and the usefulness of market makers on the NSE. A group agreed that there was a need to introduce them while the other group felt that the market was not matured enough for them. Events that led to the market turndown over the past nine months have left everyone with no doubt about the viability of these agents in the market.
The basic function of market makers is to provide liquidity and execute block trades on the floor of stock exchanges. The modus operandi of the three agents is to engage and be ready to buy or sell at least one hundred thousand (100,000) units of any stock they are interested in making the market in. There is no restriction as to which security they want to use.
It is obvious that the market makers who are expected to have a minimum capitalization of N2,000,000,000 (two billion naira) each cannot possibly handle all the securities when there is a severe draught of liquidity as we are presently experiencing and these three are to be used to test drive the system before approving other market makers. I believe the earlier they finish the process and introduce more market makers, the better the system will run.
Another issue is the fact that the market makers are going to be allowed to enjoy a 43% spread, when they make market. A spread means that the market makers are allowed to sell (offer) a stock and buy (bid) the same stock with a 43% difference in price. This does not really make a lot of sense at the moment except if the regulatory bodies are going to remove the 5% cap and floor they have in place for stocks, that it, stocks are allowed to rise to a maximum of previous day closing price by 5% or fall to a minimum of previous day closing price of 5%, which is equal to maximum of 10% movement of the stock price on any single day. The fact that they are going to allow the market makers to enjoy a 43% spread is going to go against the present price movement restrictions and something will have to be done about that.
Once these little issues are addressed, I will say that the introduction of market makers is a welcome development in the Nigerian Stock Exchange. Given the upside that liquidity will be guaranteed to an extent and investors will not have to panic to offload shares and that our brokers will not be able to tell us some shares are not available for purchase or that our stocks cannot be sold, we will also have to contend with the fact that the era of 100% gain in stock price within two weeks as was in the past is nearly over.
I look forward to the day when options will be introduced to the market. It is going to make it more interesting as speculators will have more opportunities to make (or lose) money.