What is an Inside Market?

Malcolm Tatum

Also known as a market maker spread, an inside market is the range or difference between what a buyer is willing to pay for a security and the price that a seller is asking for that security. The term may be applied to situations involving individual investors, or a situation where a broker/dealer is negotiating with a wholesaler on an interdealer market. With inside markets, the goal is usually to use this range as a means of attempting to come to terms of a sale or purchase that are agreeable to all parties concerned.

Man climbing a rope
Man climbing a rope

In the general process of working with an inside market, the individual or entity that is attempting to make a purchase is known as a market maker. When evaluating the potential purchase of various securities, market makers will consider several key factors before submitting a bid to the owner. These factors include the past performance of those securities, the stability of the organizations that issued the securities, and the future prospects for earning a return, either in the short-term or the long-term.

If the market maker has reason to believe the acquisition would ultimately be a profitable one, the next step with inside marketing is to approach the current owner and begin negotiations for the purchase. As with many situations of this type, the owner will already have a price in mind. Assuming that the buyer and seller have not arrived at the same sale price, steps to narrow the inside market will commence. They may choose to begin making a series of offers and counter-offers, effectively seeking a compromise on the purchase price. When they are successful in shrinking the inside market to a point where they can agree on the price, then the sale can take place. If not, then both parties are free to seek investment opportunities elsewhere.

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The range of an inside market does not necessarily reflect the current market value of a given security. Depending on the projections of future performance, a buyer may be willing to pay more than the current price, especially if owning the security fits into his or her investment strategy for an appreciable period of time. At the same time, a current owner may be willing to sell a security at below current market value if there is reason to believe that the value will decrease within a given period of time. Each party will approach the possible sale based on their individual interpretations of what will happen in the marketplace in the future, and in accordance with their personal approaches to managing their investment portfolios.

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