Market Maker Red Flags: How to Vet a Provider Before You Sign

Ask directly: will you quote with your own capital, or only with inventory we lend you? A desk that deploys balance sheet has genuine downside if the book is mismanaged. A desk quoting solely with borrowed float has almost none, and its economics rest on the option ladder rather than on book quality.

Follow with balance sheet questions the firm can answer without breaching confidentiality: approximate AUM deployed in market making, number of active mandates, and whether inventory risk is hedged and how. Vagueness here is meaningful.

Ask, too, how the firm is compensated when a mandate underperforms. A retainer structure means the desk is paid regardless of outcome within the agreed KPIs, which is honest but places the enforcement burden on your contract. A structure with a volume or performance kicker sounds better aligned but can quietly incentivise exactly the behaviour your conduct clauses are meant to prevent. There is no single right answer, but the desk should be able to explain the trade-off unprompted rather than waiting for you to raise it.

Client logos on a deck prove someone signed once. What matters is whether the firm is an approved maker on the venues you care about, what maker fee tier it holds there, and whether it has been removed from any programme. Fee tier is the credential: it determines whether tight quoting on your pair is economically sustainable for them.

Ask which venues they are not on. A candid answer here is a better signal of quality than an exhaustive list nobody can verify.

Request two references from projects at a comparable market cap and float, not from the largest name on the deck. On the call, avoid asking whether they were happy. Ask what the spread and depth actually were versus the agreement, how reporting was delivered, what happened during the worst week of volatility, how long incidents took to resolve, and whether they renewed and why.

Ask one more question: what would you negotiate differently next time? The answer usually reveals the term the provider defends most aggressively.

Guarantees of price levels, market cap, or volume figures. Compensation tied to traded volume. Refusal to accept explicit anti-wash-trading and self-matching prohibitions. Reporting offered only as screenshots or a dashboard with no underlying data. Notice periods of ninety days or more with no performance-based termination. Pressure to sign before your listing date on the basis of limited capacity.

Add two subtler ones: an inability to explain how they hedge inventory, and a proposal that is identical to what they pitch every project regardless of float. Both indicate a sales operation rather than a trading operation.

Definitions of spread, depth, and uptime with the measurement method stated. Reporting frequency, format, and data source. Cure period and remedies for missed KPIs. Termination for cause and for convenience, with a notice period you can live with. Explicit conduct prohibitions. Audit rights over activity on your pairs. For loan structures: quantity caps, strike ladder, expiry, rehypothecation prohibition, and settlement mechanics.

Have it reviewed by someone whose interests are aligned with yours. The provider's template is drafted for the provider, which is entirely reasonable and entirely not your interest.

Write one specification. Send it to three or four desks. Give them the same deadline. Compare responses on identical metrics, then normalise pricing into an all-in annual figure including modelled option value. Take references. Negotiate the two strongest against each other on terms rather than only on price.

This takes about three weeks and is the highest-return three weeks of work in the entire launch process. Projects that skip it usually pay for it twice.

Beyond the standard checklist, a handful of specific questions tend to separate genuine trading operations from sales-led ones. Ask how they would quote your token on day one given your actual float and volume — a good answer references your specific numbers and arrives at a conservative spread; a weak answer restates a generic pitch deck range regardless of what you told them. Ask what percentage of their current mandates are profitable for them on spread capture alone, excluding any option value — a desk that answers with a real figure understands its own economics; one that deflects usually does not track it.

Ask what they would do differently if your token dropped forty per cent in a week for reasons unrelated to their quoting. A good answer describes widening spreads within agreed bands, communicating proactively, and continuing to provide two-sided depth rather than pulling quotes. A weak answer is vague reassurance with no operational detail, because the desk has not actually thought through the scenario.

Finally, ask what they need from you to do the job well — accurate unlock schedules, advance notice of listings, a direct line during incidents. Providers who ask for specific operational inputs are planning to run an active book. Providers who ask for nothing beyond signature and funding are planning to run a passive one, whatever the proposal says.

Most issuers cannot audit a market maker's quoting engine, but a short conversation about technology still reveals a great deal. Ask whether quoting is automated or manually adjusted, how quickly the system reacts to a large fill, and what happens if the connection to a venue drops — does quoting pause safely or does it continue on stale prices. A desk that has clearly thought through failure modes will answer in specifics; one that has not will answer in generalities about being 'fully automated' with nothing underneath it.

Ask how inventory accumulated on one side of the book is hedged, and on what instruments. A desk with no credible hedging answer is either running directional risk it has not priced into your fee, or it is not actually managing inventory at all, which shows up eventually as one-sided, defensive quoting during any period of sustained selling.

Market making brands and the legal entities behind them do not always match, and issuers occasionally discover after signing that the counterparty on the contract is a thinly capitalised special-purpose vehicle rather than the operating firm whose track record was pitched. Request the exact contracting entity, its jurisdiction of incorporation, and confirmation of which entity actually holds the exchange accounts that will quote your pairs.

Where the contracting entity is newly formed or based in a jurisdiction with minimal disclosure requirements, ask why, and treat a non-answer as informative. This does not mean every offshore structure is a problem — much of the industry is structured this way for legitimate reasons — but the issuer should know exactly who they are contracting with and where recourse would actually sit if something went wrong.

Providers rarely propose identical structures, which makes headline comparison misleading. One desk may quote a flat monthly retainer, another a smaller retainer plus a token loan with options, and a third a hybrid with a volume-linked component. Before comparing, convert every proposal into a single all-in annual cost figure: retainer plus a modelled value for any options granted, using a reasonable volatility assumption disclosed in your own notes so the comparison is consistent across bidders.

Present the normalised figure alongside the qualitative scoring from the rest of the diligence process, not instead of it. The cheapest normalised cost with the weakest reporting standard and the vaguest hedging answer is not the best deal; it is simply the easiest number to defend to a board that has not read the rest of the file.