A market maker is a participant that continuously quotes both a bid and an ask price for an instrument and stands ready to deal at those prices in a stated size. By taking the other side of client orders it supplies liquidity, and it earns from the spread between the two quotes rather than from the direction of the market.
What a market maker does and how it earns
Two obligations define the role. The first is a two-way quote: a price at which the market maker will buy and a price at which it will sell, published at the same time. The second is willingness to deal at that quote up to an agreed size, so that a client order can be filled immediately instead of waiting for a matching order from another trader.
That is the practical difference between a quote-driven market and an order-driven one. In an order-driven book, your order waits for another participant. In a quote-driven OTC market, the counterparty answers with a price.
The market maker's revenue is structural, not directional. Quoting EUR/USD at 1.08497 bid and 1.08507 ask gives a spread of one pip; a client who buys at the ask and immediately sells at the bid pays that difference, and the market maker receives it. Multiplied across many small trades, the spread — plus any commission — is the business model.
That does not make the position riskless. Between the two sides of a trade the market maker holds inventory, and if the price moves against that inventory before it is offset, the position loses money exactly as any other position would. Wider spreads in thin conditions or around scheduled news are a response to that risk.
Market maker, dealing desk and liquidity provider
The three terms are often used interchangeably and are not the same thing. A market maker is a role: quoting two-way prices and dealing on them. A dealing desk is a piece of internal infrastructure through which a firm handles and may internalise order flow. A liquidity provider is an upstream source — typically a bank or a non-bank institution — from which a firm sources the prices it passes on. One firm can be a market maker to its clients while simultaneously being a client of several liquidity providers.
Conflict of interest and best execution
When a firm takes the other side of a client trade, its result and the client's result are opposed on that trade. Regulation addresses this rather than pretending it away. Under MiFID II, investment firms must take all sufficient steps to obtain the best possible result for clients on price, cost, speed and likelihood of execution, must publish an execution policy explaining how orders are handled and where they are sent, must identify and manage conflicts of interest, and must disclose them where management is not sufficient.
For a trader this is checkable rather than theoretical: the execution policy, the conflicts of interest policy and the firm's authorisation are published documents. How to read them is covered in the lesson on choosing a forex broker. This entry describes the model in general terms and does not state which execution model applies to any particular firm.
