Market Maker's Inventory

How market makers adjust quotes based on inventory risk

This is a medium-difficulty question on option and derivatives market-making that tests whether a candidate understands how inventory imbalance shapes bid-ask spreads and quote levels. Firms ask this to see if you grasp the economic tension between maintaining liquidity and managing directional risk.

The core skill here is recognizing that a market maker's quotes are not static reflections of fair value alone. When a trader accumulates a skewed position—particularly one that grows in a direction they did not intend—they must adjust their quotes to discourage further accumulation and to attract offsetting trades. This adjustment involves both the spread width and the quote placement relative to the fair value midpoint.

• Inventory costs and position management
• Bid-ask spread dynamics under asymmetric exposure
• How quotes signal and incentivize rebalancing