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Why do market makers sometimes quote absurd bid and ask prices rather than remove their quotes?

Personal Finance & Money Asked on May 31, 2021

The image below shows the Level 2 bids for Fortescue Metals Group Ltd (OTCQX: FSUMF) on 2020-10-07 10:20 am:

FSUMF Level 2 bids on 2020-10-07 10:20 am

Notice the 0.01 × 10,000 bid by NITE (Virtu Americas LLC), which is extremely unlikely to be matched. What’s the reason for placing a bid at an absurd price? Why don’t market makers simply cancel their orders instead?

I’ve noticed this practice — market markers placing very low bids or very high asks — in many securities, so I think this is a rather common practice.

I understand that the minimum quotation size in this case is a function of the bid price (according to FINRA rule 6433. Minimum Quotation Size Requirements For OTC Equity Securities), so my question is more about the $0.01 bid price rather than the 10,000 bid size.

2 Answers

First, MM's are bound to provide quotes within specific parameters by contract. ONE of those parameters is time (95% of the time, i.e.).

Second, this could be just a bet (maybe someone sells market - it DOES happen, MM's often keep far away orders for cases like that) or.... a software issue (not able to handle a 0 price "properly" and thus providing a quote for the smallest possible price) - on the MM side.

Answered by TomTom on May 31, 2021

These "absurd bid and ask prices" are called "stub quotes".

A stub quote is an offer to buy or sell a stock at a price so far away from the prevailing market that it is not intended to be executed, such as an order to buy at a penny or an offer to sell at $100,000. A market maker may enter stub quotes to nominally comply with its obligation to maintain a two-sided quotation at those times when it does not wish to actively provide liquidity.

(source)

In the USA, market makers are not allowed to enter stub quotes on Regulation NMS stocks during regular trading hours. This rule was introduced after the 2010 flash crash. The relevant SEC press release: SEC Approves New Rules Prohibiting Market Maker Stub Quotes.

However, FSUMF is an over-the-counter stock; it is not an exchange-traded stock covered by Regulation NMS. Therefore, the regulations described above do not apply, so market makers are free to enter stub quotes for this stock.

Answered by Flux on May 31, 2021

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