As the New York Stock Exchange works to recover from the crisis that forced the resignation of its chairman, the reforms being considered could have a major impact on the way stocks are traded. While the status quo is a possibility, many feel that change is coming.
The NYSE still has 80 percent of the volume in the stocks it trades. And the so-called “open outcry” system of trading on the floor of the exchange has been around in one form or another for more than 200 years.
But is the system, and the specialists who dominate it, bound for the dustbin of history?
The head trader at Fidelity Investments, the nation’s largest mutual fund company, shocked Wall Street a few weeks ago by calling for the abolition of the specialist system.
The effect would be dramatic: the trading floor would disappear, replaced by banks of computers and support staff. Thousands who work at the exchange and those who interact with it would lose their jobs. Would that ever happen?
“To the extent the customer base wants us to do that, that is certainly possible,” said Bob Britz, NYSE President, who is in charge of market operations at the exchange.
But many now believe the NYSE will instead evolve toward a hybrid system combining both specialists and trading through computers on an electronic communication system, or ECN.
“Those who want speed and want to trade on the quote will be free to do so at light speed, and trade as fast as any ECN in the world,” said Bob Seijas, a retired NYSE specialist. “Those who want to explore the market in greater detail will continue to use humans.”
To see what a hybrid might look like, check out the Chicago Mercantile Exchange, which specializes in trading futures. Every one of the exchange’s products — from hog trading to eurodollars to S&P 500 futures — can be traded in two ways, both in trading pits or electronically.
“We decided long ago to make the best of both venues — electronic and open outcry, and let the customer decide the pace of the evolution,” said Leo Melamed, the chairman emeritus of the Chicago Merc, who is considered the founder of financial futures.
Melamed believes floor and electronic trading will continue to coexist at the Merc. But he says electronic trading is gaining in popularity, and the majority of the trading in equity futures is now electronic.
In a way, the NYSE is itself aiding this transition. It already has two ECN’s — one for small orders and another for larger institutional orders. Trades on those systems are executed electronically without specialist involvement.
Britz says these electronic systems now account for about 7 percent of total NYSE volume and are the largest ECN’s in the U.S.
“We have an ECN,” he said. “But we’re much more than an ECN, and we give people lot of other options as to how to execute (a trade).”
That all sounds good, but Larry Liebowitz, the head of equities trading at Charles Schwab, said the NYSE’s ECN is limited by the size of its orders and the amount of information it provides.
“It’s not a full-blown open electronic system,” he said “It’s sort of, ‘how can we preserve the specialist system as it is, and then just at the edges allow some electronic access?’”
But there may be more competition on the horizon. SEC Chairman William Donaldson has been studying possible changes to trading rules that could make it possible for competing electronic trading systems, like Instinet, to gain market share.
“Our point is that investors should have a choice,” said Instinet CEO Ed Nicoll. “That’s why we need competition. Investors should choose whether or not they want to interact with the manual system down on the floor or go to an electronic alternative.”
The bottom line: most traders and investors apparently still want the trading floor to remain — they just want a choice to trade electronically.
“I hate to be old fashioned,” said Jarrett Lilien, chief operating office at eTrade. “But I think the human element, combined with technology, is the best of all worlds.”