so floor trading today is used primarily to trade a small group of extremely high‐priced stocks not traded electronically.
Supplemental Liquidity Providers
In order to handle the volume of today’s international marketplace, the NYSE established a new class of market participants called Supplemental Liquidity Providers (SLPs). These high‐volume members of the exchange add liquidity to the marketplace. Each SLP is assigned securities for which he or she is obligated to maintain active trading of at least 10 percent in a trading day. SLPs must average 10 million shares exchanged in a day. They help generate more quoting activity to improve pricing and liquidity for stocks.
NASDAQ, which stands for the National Association of Securities Dealers Automated Quotations, was formed after an SEC study in the early 1960s concluded that the sale of over‐the‐counter (OTC) securities – in other words, securities that aren’t traded on the existing stock exchanges – was fragmented and obscure. The report called for the automation of the OTC market and gave the responsibility for implementing that system to the National Association of Securities Dealers (NASD).
The NASD began construction of the NASDAQ system in 1968, and its first trades were made beginning February 8, 1971, when NASDAQ became the world’s first electronic stock market. In 2007, NASDAQ combined forces with the Scandinavian exchange group OMX. Together, NASDAQ OMX operates 25 securities markets. It also provides trading technology to 70 exchanges in 50 countries.
Market makers
NASDAQ market makers compete with each other to buy and sell the stocks they choose to represent. Nearly 300 member firms act as market makers for NASDAQ. Each uses its own capital, research, and system resources to represent a stock and compete with other market makers.
Market makers compete for customers’ orders by displaying buy and sell quotations on an electronic exchange for a guaranteed number of shares at a specific price. After market makers receive orders, they immediately purchase or sell stock from their own inventories or seek out the other side of the trades so they can be executed, usually in a matter of seconds. The four types of market makers are
❯❯ Retail market makers: They serve institutional and individual investors through brokerage networks that provide a continuous flow of orders and sales opportunities.
❯❯ Wholesale market makers: They serve primarily institutional clients and other brokers or dealers who aren’t registered market makers in a particular company’s stock but who need to execute orders for their customers.
❯❯ Institutional market makers: They execute large block orders for institutional investors, such as pension funds, mutual funds, insurance companies, and asset‐management companies.
❯❯ Regional market makers: They serve companies and individuals of a particular region. By focusing regionally, these market makers offer their customers more extensive coverage of the stocks and investors in a particular area of the country.
NASDAQ continues to be the leader in electronic trading. Its system, called the NASDAQ Crossing Network, enables fully anonymous trade execution to minimize the market impact of trading.
Over‐the‐counter and bulletin‐board stocks
Stocks that do not meet the minimum requirements to be listed on NASDAQ are traded as over‐the‐counter or bulletin‐board stocks (OTCBB). The OTCBB is a regulated quotation service that displays real‐time quotes, last‐sale prices, and volume information for the stocks traded OTCBB. These stocks generally don’t meet the listing qualifications for NASDAQ or other national securities exchanges, and fewer than two (and sometimes zero) market makers trade in these stocks, making buying and selling them more difficult.
When the NYSE moved indoors, some stocks still weren’t good enough to be sold on the exchange. Those stocks were called curb traders and ultimately made up what became known as the American Stock Exchange (Amex), which moved indoors in 1921. Amex lists stocks that are smaller in size than those on the NYSE yet still have a national following. Many firms that first list on Amex work to meet the listing requirements of the NYSE and then switch over.
The Amex trading system was integrated into the NYSE trading system after the merger with the NYSE was completed in 2008, and its named changed to the NYSE Alternext. Then in 2009, the name was changed to NYSE Amex Equities. In May 2012, the name changed again to NYSE MKT LLC.
LISTING REQUIREMENTS
NASDAQ has the easiest minimum listing requirements of all the broad‐market exchanges. The New York Stock Exchange (NYSE) has the toughest requirements to meet for companies to be listed. In addition to listing requirements, companies on the exchanges must conform to certain rules, including publishing quarterly reports, soliciting proxies, and publicly announcing developments that may affect the value of the securities.
Many traders look for ways to get around dealing with a traditional broker. Instead they access trades using a direct‐access broker. We talk more about the differences in Chapter 3. A new system of electronic trading that is developing is called the electronic communications network (ECN).
ECNs enable buyers and sellers to meet electronically to execute trades. The trades are entered into the ECN systems by market makers at one of the exchanges or by an OTC market maker. Transactions are completed without a broker‐dealer, saving users the cost of commissions normally charged for more traditional forms of trading.
Subscribers to ECNs include retail investors, institutional investors, market makers, and broker‐dealers. ECNs are accessed through a custom terminal or by direct Internet connection. Orders are posted by the ECN for subscribers to view. The ECN then matches orders for execution. In most cases, buyers and sellers maintain their anonymity and do not list identifiable information in their buy or sell orders.
In the last few years, ECNs have gone through consolidation. Inet was acquired by NASDAQ. Archipelago now operates under the NYSE umbrella as NYSE Arca Options. Instinet, which serves primarily institutional traders, has an agreement for after‐hours trading with E*Trade.
Understanding Order Types
Buying a share of stock can be as easy as calling a broker and saying that you want to buy such and such a stock – but you can place an order in a number of other ways that give you better protections. Most orders are placed as day orders, but you can choose to place them as good‐’til‐canceled orders. The four basic types of orders you can place are market orders, limit orders, stop orders, and stop‐limit orders.
When you place a market order, you’re essentially telling a broker to buy or sell a stock at the current market price. A market order is the way your broker normally places an order unless you give him or her different instructions. The advantage of a market order is that you’re almost always guaranteed that your order is executed as long as willing buyers and sellers are in the marketplace. Generally speaking, buy orders are filled at the ask price (the price at which the holder of the stock is willing to sell), and sell orders are filled at the bid price (the price at which a buyer is willing to buy). If, however, you’re working with a broker who has a smart‐order routing system, which looks for the best bid/ask prices, you sometimes can get a better price on the NASDAQ.
