Designing a Market Making Program for IEX

One of the advantages of building a brand-new listings exchange is the opportunity to design our offering to solve market problems in a way that aligns with our principles.

Part of our role as a listings exchange will be to support price discovery for IEX-listed stocks. As I’ve written before, the price of actual, completed trades — especially large trades at the midpoint — are the most valuable indications of the fair value of a stock because they show where real investors are willing to transact.

Another form of price discovery is displayed quotes, which provide an indication of potential trading interest. But supplying those displayed quotes — market making — is a low-margin business. In fact, based on my experience as a former market maker, most firms earn, on average, less than a few hundred dollars of profit per day in each of the top ~500 stocks.[1]

Given these dynamics, IEX sought to create a differentiated incentive program that would attract a diverse set of firms to invest in the upfront costs to quote in all IEX-listed stocks from the first day the first public company lists on IEX — and do so in a way that fits our overall philosophy.

The Problem with Rebates & a Speed-Driven Marketplace

The way displayed quotes are currently incentivized in the market — rebates — has serious problems. Most obviously, they can create a conflict around client order routing if brokers prioritize rebates over best execution.

But rebates also fall short in a number of other ways when it comes to building a diverse, healthy marketplace. Rebates alone haven’t been enough to prevent large brokers from leaving the exchange market making business — they don’t make up for the fact that (given their responsibilities to customers) those brokers can’t compete with the fastest traders when getting into and out of the market. They also fuel disproportionate quoting in large-cap, high-volume stocks, and despite rhetoric to the contrary, the evidence shows that they do not meaningfully narrow spreads in illiquid stocks. Or said a different way: rebates incentivize quoting the most where it is needed the least, and least where it is needed the most.

Therefore, we set out to design a smart incentive program that attracts a diverse set of firms to quote meaningfully in all IEX-listed stocks, not just the most liquid names, while avoiding the problems created by rebates. We also sought to align the incentives of our key stakeholders — investors, companies, brokers, and market makers — and we believe that our market making program does just that.

The IEX Enhanced Market Maker Program

The IEX Enhanced Market Maker (IEMM) Program offers a discount on trading fees to market makers when they meet stringent market making requirements in IEX-listed stocks with only their principal order flow (not that of their clients).[2]

There are two tiers in our IEMM Program:

  1. Inside Tier — To qualify for the Inside Tier, firms must spend at least 20% of the trading day quoting at the National Best Bid and/or Offer for IEX-listed stocks. Said another way, the average of a firm’s time quoting at the NBB and NBO must be at least 20% per day.[3]
  2. Depth Tier — To qualify for the Depth Tier, firms must quote within the greater of 1 MPV or 3 basis points of the NBBO at least 75% of the trading day. This tier is unique to the IEMM Program.

These high standards ensure that we’re attracting both consistent, competitive quotes and robust depth-of-book liquidity on IEX, not just a “crust” of quotes at the top of the order book. It also means that market makers must commit their own capital to capture the benefit — a requirement that ensures we avoid the potential conflict of rebates.

For each tier an IEMM hits in a specific month, firms will receive a 1 mil per share discount against their IEX trading fees in all symbols for all executions (agency and principal).[4]

A Better Incentive

We believe that the IEMM Program aligns the interests of brokers, investors, and companies in three key ways:

  • No agency routing conflict: Firms can only qualify for the discount with principal orders that commit their own capital, so it doesn’t introduce a potential conflict when choosing where to execute client orders in an agency capacity the way the existing rebate model does.
  • Targeted incentives, broad impact: The IEMM Program requires brokers to provide meaningful, consistent quote quality for IEX-listed stocks, regardless of market cap or trading volume. At the same time, it benefits all broker trading volume on IEX to make it a meaningful, effective incentive for a wide range of market makers, including full-service brokers. It’s a win-win.
  • A discount, not a rebate: The IEMM incentive can discount a broker’s exchange costs, but it will never generate a revenue line the way rebate payments can.

We have gotten positive feedback from a diverse group of broker-dealers — both electronic market makers and full-service brokers — who would like to participate.

Tomorrow’s Market

As our business grows and we gather live trading data from IEX-listed companies, the IEX market making program will inevitably evolve. However, we are confident that the IEMM Program sets the right foundation and tone for what’s to come.

In the future, we will continue to seek ways to align incentives for market makers, brokers, investors, and companies, growing our business while staying true to our principles and our commitment to building fairer markets.

[1] See also https://www.barrons.com/articles/how-hot-ipo-virtu-financial-makes-money-1429324196

[2] Members must also register and meet the requirements of an IEX Market Maker in all securities listed on IEX.

[3] Time at the inside is calculated as follows: ((time on NBB + time on NBO) /2) / (6.5 — time the IEX-listed security is halted). “6.5” refers to the length of Regular Market Hours and will be adjusted accordingly on half days.

[4] Applies to executions during continuous trading at or above $1.00 that are subject to the Non-Displayed Match Fee or Displayed Match Fee. Executions subject to the Crumbling Quote Remove Fee or the Internalization Fee do not qualify for a discount. Firms must meet the quoting requirements in each IEX-listed security to receive the benefit. The discount on the Depth Tier is capped at $20,000 in aggregate savings per month; the Inside Tier is not capped. See SR-IEX-2018–02 or IEX Enhanced Market Maker Program for additional detail.


About IEX
IEX is on a mission to build fairer markets. Founded in 2012 and headquartered in New York City, IEX introduced its first trading venue in 2013 and launched as a U.S. stock exchange in 2016. IEX is the stock exchange that believes that every investor has the right to trade on equal and fair terms, on every trade. Learn more at: iextrading.com.

© 2018 IEX Group, Inc. and its subsidiaries. This document may include only a partial description of the IEX product or functionality set forth herein. For a detailed explanation of such product or functionality, please refer to the IEX Rule Book posted on the IEX website. Neither the information, nor any opinion expressed herein constitutes a solicitation or offer to buy or sell any securities or provide any investment advice or service. The information herein is believed to be reliable, but the Firm makes no representation as to the accuracy or completeness of, and undertakes no duty to update, information herein.