Editor’s note: this is the fifth in a series of profiles of stock markets around the world. Please note that it presents the NYSE’s perspective and omits other, possibly conflicting, points of view.
The Big Board has had a monumental year. In the last twelve months, the NYSE has written new listing standards aimed at elevating corporate governance among its listed companies; introduced new technologies to increase transparency and efficiency; and boosted its capacity to withstand most any circumstance. Driving these recent innovations is the NYSE’s founding mantra: investors and issuers come first.
‘The NYSE provides the lowest cost model for raising capital for a company and we think it’s the fairest [trading] model for shareholders to participate in because customers come first,’ maintains Catherine Kinney, co-chief operating officer and executive vice chairman of the NYSE. ‘The centralization of the order flow produces the best, most efficient price discovery which benefits shareholders,’ she adds.
Since 1792, when 24 New York-based stockbrokers and merchants began trading stocks under a buttonwood tree on Wall Street, the NYSE has prioritized the needs of investors and listed companies. Over the last 200 years, the exchange’s basic principles of putting the customer first, transparency and effective regulation have not changed, says Kinney. ‘But, the application of technology to provide more capacity, productivity and efficiency of the market has altered significantly.’
Today, the NYSE boasts 365 member firms and processes an average daily volume of more than 5 mn orders. There are over 2,800 public companies from around the world listed on the big board with a combined value of over $16 tn. ‘In nine out of ten industry sectors, the exchange’s market share of companies that are eligible to trade is well above 80 percent,’ reports Kinney.
While other exchanges around the world have opted for fully electronic trading systems, the NYSE has remained loyal to its floor-based, agency-auction model that was first set up in a rented room at 40 Wall Street in 1817. ‘This model withstood the stock market bubble, the crash of 1987, the ’75 Act amendments – so it’s a solid model that is fair for investors,’ emphasizes Kinney.
‘If you took the human out of the loop, you would lose a lot of the capability of this market,’ adds Roger Burkhardt, chief technology officer of the NYSE.
Market intelligence
The NYSE’s centralized agency-auction market structure is good for IROs because it includes a specialist at the center of market, adds Kinney. A specialist has a front row view of the confluence of order flow and can relate that information to the IR professional. Each issuer listed on the NYSE chooses a specialist. Specialists act as agents, matching customers’ buy and sell orders and also buying or selling with their own account against the market trend.
The unique position of the specialist, at the center of order flow, is a major advantage for NYSE-listed issuers, says Noreen Culhane, executive vice president of the NYSE’s new listings and client service division. Specialists provide IR departments with a unique and valuable source of market intelligence and technical analysis.
Over the last decade, the specialist industry has gone through rapid consolidation. In 1988, there were 55 specialist firms on the NYSE floor. Today there are just seven firms managing 2,578 common stocks between them.
In the late 1990s, the NYSE changed the allocation policy for specialists to allow listed companies to interview firms and make a choice. ‘There is obviously more competition among specialists for new listings now, which benefits the issuer and raises the quality of service across the floor,’ says Culhane.
Governance leader
The NYSE has played a leadership role in corporate governance for the last 150 years. In the wake of recent corporate scandals in the US, the NYSE undertook a fresh review of listing standards and in February 2002 formed the Corporate Accountability & Listing Standards Committee to review its listing standards with regard to governance requirements. At the same time, then-SEC chairman Harvey Pitt asked the exchange to review its corporate governance standards. The result of this review was a new set of listing standards which, as Kinney says, ‘ensures that companies at the NYSE continue to adhere to the highest governance standards.’ (Note that the NYSE’s new listing standards relating to corporate governance have yet to be approved by the SEC.)
While the exchange has promoted good corporate governance throughout its history, these new listing standards go much further in addressing key governance issues, including board independence; audit and compensation committee independence; and a tightening of the definition of an independent director. As Kinney says, ‘We recognized that we had a very important role to play that would actually have an effect on companies.’
In some areas, the NYSE’s new governance standards go further than the US Congress’s Sarbanes-Oxley Act. For example, the Big Board’s new listing standards stipulate that shareholders of NYSE-listed companies should be allowed to vote on equity-based compensation plans. ‘We thought that both individual and institutional investors should have a say with regard to equity-based compensation plans,’ explains Edward Kwalwasser, group executive vice president at the NYSE.
In implementing the exchange’s proposed listing standards, board directors of NYSE-listed companies, particularly audit committee members, will ultimately play a more active role. To help companies and directors abide by these new standards, the NYSE launched initiatives like the sponsorship of director education programs at major US universities such as Duke, Vanderbilt, Wharton and Stanford. The courses cover best practice in governance and, according to Culhane, the response to date has been very positive.
The NYSE is also taking directors’ education on the road beginning in 2003 by hosting corporate governance roadshows in major cities across the US. ‘The faculty for these [seminars] will include academics, lawyers, corporate practitioners and other professionals who have real life experience in this topic,’ explains Culhane.
Transparency & efficiency
Since its inception, the NYSE has been looking for ways to become more efficient and transparent with a view to improving order execution and price discovery for investors. Automation is the key to efficiency at the exchange. Starting in 1867, when stock tickers first provided current stock prices, the exchange has been looking for ways to deliver real-time market data faster and better to buyers and sellers.
Recent automation – starting with the Dot (designated order turnaround) in 1976, now called SuperDot(r) – has allowed the exchange to increase trading volume manyfold. ‘Today we have the same number of people trading on the floor as we did not so many years ago and they are trading 30 times the volume,’ Burkhardt notes.
Every order sent to the NYSE is captured electronically before it is presented in the crowd. This is part of the NYSE’s surveillance effort which tracks every order to make sure that all members are playing by the rules. Most orders, including large institutional orders, are sent electronically to a broker system on the floor, often arriving on handheld devices the brokers carry around. ‘We are now in our sixth generation of wireless handheld technology,’ Burkhardt says. Once the broker receives the trade they can communicate with the investor in real time through the device.
Competition and investor need are drivers of innovation at the NYSE. ‘The exchange is extremely customer-focused and aware of competition,’ Burkhardt comments. ‘We stay alert.’
Indeed, constructive paranoia over the emergence of ECNs is what drove the advent of NYSE Direct+, an automatic execution service for limit orders of up to 1099 shares. ‘We have hundreds of thousands of orders executed every day using this product,’ reports Burkhardt. NYSE Direct+ speeds up trade execution by about 90 percent. ‘But surprisingly many individual investors have chosen not to use this service but rather to wait 20 seconds [for execution] if they can get price improvement.’
In January 2002, the Big Board released OpenBook which gives anyone who pays an annual fee real-time access to the specialists’ recorded buy and sell limit orders. ‘This is a very fundamental change because it means any investor sitting at one of these trading terminals [like Bloomberg, ILX or Reuters] has the same information about the order flow sitting on the book as the specialist and the people around the specialist on the trading floor,’ says Burkhardt. ‘This is an example of the democratization of market data at the NYSE.’
Beginning in 2003, the exchange will be offering another service that goes hand-in-hand with OpenBook to increase transparency in the market. Liquidity Quote will give institutional investors a firm quote where they can trade in size. This service is a response to complaints from the institutional community about the tight spreads resulting from decimalization. With decimalization, ‘the same amount of trading liquidity is now spread over six times as many price points, making it difficult for institutional traders to see where they could trade 50,000 shares,’ Burkhardt explains.
‘Instead of just getting the inside bid and offer, investors will be able to get an electronically delivered liquidity quote that will tell them where they can trade in-depth,’ Culhane describes. ‘This is a helpful piece of information for both the issuer and the institution.’
Watchdog’s bite
The NYSE prides itself on its effective regulatory program. With 580 regulatory personnel, the exchange ensures its members and issuers follow the rules. A combination of off-line surveillance through Isis (Intermarket Surveillance Information System) and real-time surveillance through StockWatch allows the Big Board to catch unusual trading as it happens as well as to analyze any red flags that stand out during a trading day.
The NYSE expects 2002 to set a new record for disciplinary action against traders, brokers and other members. So far the exchange has fined or suspended market participants around 194 times in 2002 and will likely beat the previous year’s record of 236. Kwalwasser says the increase could be a result of more complaints received this year than in the past. ‘When customers have lost money, they tend to complain about activity they might not complain about when they are making money,’ he says. ‘And we track those down.’
Investing in resilience
The exchange has enjoyed a tremendous reputation for its constant availability for many years. Ten years ago, it built two off-site data centers in different locations that are capable of running the whole trading floor. Since then, according to Burkhardt, ‘There have only been two or three occasions where there have been any noticeable interruptions in service.’
The events of September 11, 2001, however, highlighted the need for even greater resilience. Within 60 days of the terrorist attacks, the exchange built two back-up trading floors outside lower Manhattan. In its current location, the exchange also has five separate trading rooms so that if any incident compromises one, the NYSE can move the workload to another trading room.
Aside from building resilience, the NYSE is also actively promoting its premises as a good platform for IR. Culhane says that the exchange is a powerful venue in terms of being a stage ‘where companies can tell their story.’ Issuers can use the NYSE’s facilities to meet with analysts, investors, customers or employees or set up a webcast to communicate virtually with any or all of these audiences.
In the future, the NYSE will likely retain its agency-auction model and continue to focus on building transparency and efficiency. ‘The centralized structure of our market allows for the confluence of all orders at a single point of sale, which has the benefit of increasing liquidity and dampening intraday volatility,’ Culhane sums up.
‘Dick Grasso [chairman and CEO of the NYSE] likes to say that for the 35 years he has been at the exchange, people have been predicting its demise,’ adds Kinney. ‘That is an important statement because it reflects that the exchange is very adaptive.’
