Wall Street – Understanding Stock Market Exchanges
Investing in the stock market has historically meant using stock market exchanges (and for now – still does). What are exchanges and how did the big ones used today get started?
To learn that story, let’s look at the history of America’s center of finance, Wall Street so named because two major stock market exchanges were born there (NYSE and AMEx).
Wall Street.
Wall Street was and still is an actual street in New York City. It started as a path going from Roosevelt Drive near the East river to Trinity Church. There was an actual wall along this street (to keep out the cows and the Indians). The wall was first made of brush and mud and later of wood.
Since the street connected the docks on Hudson River to businesses on East River, it became a popular place of business. At first business included trading or selling furs, molasses and tobacco, trading of currencies, speculation in land and selling cargo insurance. Selling and trading securities came later, when the country started creating financial media.
The first financial media sold were US Bonds ($80 million authorized by Congress to pay for the Revolutionary War); and two years later bank bonds (from Hamilton’s first national bank – Bank of the United States). Now there were securities for people to buy and sell, but no marketplace in which to offer them. They were sold by word of mouth at coffeehouses on Wall Street or through newspapers.
By 1792, several Wall street merchants started keeping a small supply of securities on hand to sell to their customers. They sold them ‘over the counter’ in their stores. Volumes at the time sometimes were as high as 100 shares of bank stock a day.
Birth of the New York Stock Exchange.
Because the volume was increasingly high, the merchants started scheduling auctions where the buyers and sellers could get together. Eventually several merchants banded together to hold a central auction in one place (at 22 Wall Street – every day at noon). They called this the ‘stock exchange office’ Of course they earned commissions on the sales.
Some merchants holding securities just came and listened to the auction. After it was over they would go back to their store and offer the same securities at a discount – and so the initial after hours trading was born.
Needless to say, the 24 merchants who had set up the ‘stock exchange office’ didn’t like the competition, so they set up an agreement to stop the discounting practices. They agreed to to buy and sell securities only amongst themselves, and to maintain consistent commission rates and not go to any other auctions. This soon drove the competing merchants out of business. This was the beginning of the New York Stock Exchange.
They met under a buttonwood tree across the street from 58 Wall Street to conduct their business. Next they moved to a coffeehouse at the corner of Wall and William Streets. They kept growing and moved to larger quarters at 40 Wall Street. In 1817 they put together a constitution and formally created the exchange.
In their building every morning, a man read the list of stocks to be traded to the 24 guys in the exchange. Only they were allowed to trade the stocks on that list. They let new guys in, but the ‘seat’ cost $400. Firms still have to buy a ‘seat’ to be allowed to trade on the exchange. The exchange has been in it’s present location since 1863, putting up a new building (the current one) in 1903.
Birth of the American Stock Exchange.
Between the 1850’s and 1870’s securities trading was on the increase due to the gold rush. Mining and railroad stocks were added to the trading mix. By the 1870’s there were numerous of these types of stocks and the ‘stock exchange office’ members thought were they were too risky to trade.
Others stepped into that void. They couldn’t afford office space so they gathered in the street to do the trading, mostly at the corner of William and Beaver. They named this trading space ‘The Curb’. In the 1890s The Curb moved up to Broad Street for more room. A room was rented so that telephone operators took orders in the building next to the curb where trading was done and then called them down to the street below them. Soon the noise level was too high so they started using hand signals. Clerks went to the window and leaned out or stood on the ledge to convey the signals to the traders below (who dressed in distinctive bright colored clothing so the clerks could recognize them).
In 1908 one of the leading Curb brokers organized a Market Agency, which drew up some rules. This later (in 1953) became the American Stock Exchange.
Exchanges Today.
Today, each exchange has it’s own requirements for a companies stock to be listed with it. The SEC does not govern those requirements – it is still up to the exchange.
In 2007 the NYSE merged with EuroNext to become NYSE Euronext – an international exchange that includes multiple prior exchanges in multiple countries such as the US, Amsterdam, Great Britain, France and Portugal.
The American Stock Exchange was acquired by NYSE Euronext in 2008 for it’s options and exchange traded funds.
Other Exchanges
Of course, other trading centers emerged in America as it developed. Markets grew up around centers of production and transportation.
The Kansas City Board of Trade, a regional market which still exists today, was set up for buying and selling of the heartland’s grain products.
The Chicago Mercantile Exchange (now the Chicago Mercantile Group) was an outgrowth of the Chicago Butter and Egg board, which sold futures in butter and eggs. Chicago Butter and Egg became Chicago Mercantile Exchange which merged with the Chicago Board of Trade and to become the Chicago Mercantile Group. It now handles 90% of the United States’ futures trades.Stocks for companies that didn’t meet the rules to be listed on an exchange have continued to be traded over the counter. Until 1971 this meant that a broker or dealer had to consult a piece of paper to find someone buying or selling that stock so that he could execute your order. In 1971 the National association of Securities Dealers developed a computer system to match up the orders – and the
National Association of Security Dealers Automatic Quotation System (NASDAQ) was born.
More exchanges exist. See the Securities and Exchange website for more information.
What Are Exchanges?
Now that you know the story of how exchanges came about, you know that stock market exchanges are just that… a method to list securities and get buyers and sellers together to exchange securities, including stocks.
Although the New York Stock Exchange and the American Stock Exchange had colorful pasts with rowdy trading floors, the advent of computers is again changing the securities marketplace. Starting in the 1970’s and gaining more traction with later SEC regulation changes, automated trading systems are replacing many of the functions historically performed by dealers and exchange employees.
Most of you probably place buy and sell orders as well as research stocks via online methods today. Even if you call your broker to place your order, you are only on the front end of a mostly electronic transaction. What does that mean to us in relationship to the exchanges?
Do Exchanges Play a Role in Today’s Electronic Trading?
Yes. In order for a stock to be sold, it has to be listed somewhere. Exchanges (governed by the Securities and Exchange act in the US) have that authority. Electronic trading systems do not. Electronic trading systems match up orders to buy and orders to sell.
Can an Electronic Trading Platform be an Exchange?
Yes they can, if they comply with the Securities and Exchange regulations. Two of the newest exchanges are EDGA and EDGX. This SEC website has a list of all the SEC approved exchanges that exist today. These are totally automated exchanges.
Knowing a bit about the history and evolution of a couple of the original stock market exchanges can help you stay grounded as the market once again changes to deal with increasing technological advances. It can give you basic information to help understand how today’s markets work – behind the scenes.
Resources
“Understanding Wall Street” by Jeffrey B. Little and Lucien Rhodes copyright 1980 published by Liberty Publishing Company
http://www.advfn.com/StockExchanges/about/AMEX/AmericanStockExchange.html
NYSE Euronext site: http://corporate.nyx.com/who-we-are/history/new-york
Chicago Mercantile Exchange Group site: http://www.cmegroup.com/
Deal B%k article NASDAQ Drops Bid to Buy NYSE Euronext: http://dealbook.nytimes.com/2011/05/16/nasdaq-drops-its-bid-to-buy-nyse-euronext/
Slate article Market vs Exchanges April 21, 2005 by Daniel Engber: http://www.slate.com/id/2117171/
SEC Trade execution explanation: http://www.sec.gov/investor/pubs/tradexec.htm
SEC Electronic Communication Network regulation http://www.sec.gov/divisions/marketreg/mrecn.shtml
SEC List of approved exchanges: http://www.sec.gov/divisions/marketreg/mrexchanges.shtml
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