(March 7) – “Plumbing is usually boring. So you can be forgiven if the continuing tussle over stock market structure makes your eyes glaze over. After all, no matter what happens to the New York Stock Exchange and the Nasdaq, you’ll still be able to trade stocks to your heart’s content,” writes Alex Berenson in today’s New York Times.
“And if you are like most investors, you will be lot more interested in the price of those stocks than in how they are traded. Even so, the broad outlines of this debate — which came to the fore last week when the Big Board squared off with Wall Street heavyweights like Goldman Sachs and Morgan Stanley Dean Witter at a Senate hearing in New York — are worth taking a few minutes to understand.
“It’s no secret that big institutional investors have a lot of advantages on Wall Street. They get the first chance to buy hot initial public offerings. They get to meet in person with companies’ managements. But when it comes to trading stocks, the needs of individual and institutional investors are moving closer. And that means — almost by accident — that trading changes sought by the Wall Street giants may benefit the little guy.
“Goldman and its cousins basically want all stock markets to trade as if they were one big market. They want all orders at a given price to be executed in the order they were received. And they want the book of “limit orders” — those to be executed only if a stock reaches a certain price — to be available for everyone to see.
“To understand why that might help small investors, you need to know something about the strengths and weaknesses of today’s markets. For small investors, the best market is one that allows them to find one another quickly and directly. In this respect, the New York Stock Exchange system, which features a single “specialist” setting prices for each stock, wins hands down over the Nasdaq, where a set of “market makers” compete to make trades. More than half of Big Board trades match investors directly, a much higher percentage than on Nasdaq.
“For large investors, whose trades have traditionally been harder to execute, specialists offer a different service. By putting up their own capital when they cannot match buyers and sellers, specialists help prevent big price swings. But rapidly improving technology has made it much easier to cross big trades, too, without human intervention. And so the needs of large institutional investors are becoming more and more like those of individuals.
“That’s crucial, because the Big Board’s system has a hidden cost. On the exchange, the specialists keep tight control over their books of limit orders — priceless information in determining the direction a stock will take.