Feb 2012
A recent innovation in equity markets is the introduction of market maker services paid for by the listed companies themselves. We investigate why firms are willing to pay a cost to improve the secondary market liquidity of their shares. We show that a contributing factor in this decision is the likelihood that the firm will interact with the capital markets in the near future, either because they have capital needs, or that they are planning to repurchase shares. We also find significant reductions in liquidity risk and cost of capital for firms that hire a market maker. Firms that prior to hiring a market maker have a high loading on a liquidity risk factor, reduce their liquidity risk down to a level similar to that of the larger and more liquid stocks on the exchange.