market makers work (have deals) with exchanges. e.g. a market maker M guarantees to provide liquidity (e.g. orders) for a certain set of securities to an exchange E, and gets certain benefits in return.

This market maker M makes sure that he is as close as possible to the exchange metal, so he has an upper hand.

The importance of colocation is directly proportional to the liquidity (amount of orders) you provide. e.g. if you send orders manually every minute or so, it does not really matter where you are in comparison to a large bank that sends orders every several microseconds..