I landed at the NYSE in the summer of 1980, I was 19 years old. It was the most magical, dynamic, exciting, exhilarating place in New York City and the world. There were more than 5000 Type A personalities that gathered there every day. Today, there are less than 250 people on the floor of the exchange.
When I walked through the doors – there were no cameras, TV’s or radios and there certainly wasn’t a computer, the internet, twitter, Facebook, Google or Amazon. There were only copies of the day’s Wall Street Journal , New York Times, The New York Post. and The Daily News.
Business was conducted on pen and paper. Brokerage firms relayed orders to the floor broker via telephone for representation in the trading crowd. The language spoken on the exchange was very specific, full of symbols and fractions that defined the parameters of trading.
There were three real market centers – the NYSE, the AMEX and the NASDAQ. Today there are more than 60 places to trade and my guess is that in the future that number will shrink substantially. Open outcry was the operating system at the NYSE and AMEX. The Nasdaq came on the scene in 1971 as the first electronic exchange. Trading was done in 1/8th of a dollar and that very design kept trading controlled and “in play”, without allowing it to become ‘noisy’ and erratic.
In the mid 1980’s, change was happening, albeit in baby steps. The introduction of computers that could deliver orders to the broker’s booth on the floor began to transform the trading process. Rule changes that allowed those same computers to deliver order flow directly to the specialist, began another process of change laying the foundation for the future.
This would prove to be the event that initiated the movement to eliminate the traditional floor broker. It was the beginning of the 3rd Industrial Revolution that would once again change the world and the way it operated. It happened at the same time the internet and personal computers became ubiquitous, giving anyone access to information, markets, and online brokers.
At the turn of the century when Y2K proved to be a non-event, the stock exchange and the industry were catapulted into the new century.
SEC mandates required all stock trading move to decimals from fractions by April of 2001, and when that was completed the U.S. capital markets officially became computer driven. Alternative trading venues which had struggled to gain traction in a fractionalized environment suddenly found their footing. The introduction of handheld computers, algorithms and automated delivery and execution began to take hold, forcing change in an industry that was ripe for the efficiencies that the technology would provide.
The U.S. Securities and Exchange Commission (SEC) ordered all stock markets within the U.S. to convert to decimalization by April 9, 2001
Then, 9/11 happened, and the conversation was no longer about efficiency. It was now about security and safety.
Dark pools, designed by all the big banks to internalize their own order flow , emerged. New electronic exchanges were born taking the number of places to trade stocks to over 60 - vs. the original 3. Traders could trade any stock, NY, AMEX or Nasdaq, on any exchange as long as there was volume and participation. The noise was deafening; trading became more chaotic and volatile as this new structure gained for acceptance.
Exchanges around the world became publicly traded companies and were now responsible to shareholders and that created a whole new dynamic in the way they operated. Market access, market data, pay to play, co-location all became the buzzwords. The exchanges of yesterday were now officially dead. The birth of the 21st century exchange and financial services industry was here and it was all about speed, smart technology and automated executions.
Increments of trading were now defined by sub-decimals (0.0001 – 0.9999) and that allowed for a global surge in high-speed computerized trading that was driven by ‘smart algorithms’ that could read and scrape the headlines on financial publications and social media platforms like Facebook and Twitter.
And all of this spawned a new generation of traders – both at the banks and among the community – that used advanced logic and super-fast computing power to access the markets.
High frequency traders were now everywhere, from your backyard to the Eastern European bloc nations like the Ukraine, Tajikistan, Uzbekistan and Russia. Global participation created a surge in volumes and opportunities while making a lot of noise which created volatility.
The explosion of ETFs. (Exchange Traded Funds) took root as advances in technology coupled with the sub-decimal environment paved the way for new and more complex ETF strategies. This too challenged the investment thesis and allowed more and more people to participate spawning a whole new investing thesis known as Passive Investments.
Which now brings us to the big question - what does the future look like for exchanges, brokers, market makers, investors, traders and institutions?
I will say that the future is bright for the exchanges, as they have an obligation to help provide investor protection. Investors should continue to believe that any listing on a ‘regulated’ exchange is a sign of quality.
Computer algorithms have replaced the bulk of the human traders and are now taking aim at research analysts as well.
The market maker today has become more proactive and is no longer hampered by a rule set written nearly a century ago and that makes them more dynamic and active helping to create a more robust market. He/she oversees the plethora of algorithms written by coders who have little understanding of what really drives the investment thesis, yet play an ever more important role as the process and products get more complicated.
Fintech firms will continue to look for ways to disrupt the traditional exchanges – something that I believe regulators should not allow. While I welcome disruption in some industries – unregulated disruption in financial services is NOT one of them. (Do we need to recall what happened to global markets in 2007/2010 due to ‘unregulated derivative products’?)
Passive investing (ETF’s) will continue to grow and allow for even more specificity in identifying trends, opportunities around the globe. They will also become even more complex – which should cause concern for regulators, exchanges and investors. Obscure ETFs that use derivatives have proven to be very dangerous for the markets and brought up questions about just how susceptible the broader market is to a meltdown of one of these complex derivative products.
So, as they get more complex and more integrated across different asset classes and countries, we must ask, “ Are their potential benefits worth the ‘rise in risk’ that they pose to the broader market and the broader market stability? This is a global question, since markets are more interconnected than ever. My sense? I think they are a disaster waiting to happen – and that is a direct result of the speed at which these trades can happen and how interconnected they are. It is also because no one really understands how they will react to some exogenous event that no one saw coming. Regulators need to take control and be aware of how these products perform in both good and bad times but then – how can they really know what happens in a meltdown until it happens? Intermediaries (brokers, not wealth advisors) will continue to suffer. The race to zero cost trading will continue to negatively impact the traditional role of a broker that can be replaced by a computer.
Stock trades can occur as fast as 0.09 of a second through electronic markets, but most individual investors experience average execution speeds of 0.43 of a second.
Control will end up in the hands of a few big banks and trading platforms. Companies – like Google, Amazon and Facebook will continue to use their ‘data mining’ technologies to make inroads into financial services and products.
Digital currencies will become real as globalization matures. One currency that is accepted around the world will allow for an explosion in trade and commerce. While it still feels uncertain now, it won’t in a few more years. ICE (Intercontinental Exchange), which owns the NYSE as well as a host of other exchanges – has just introduced a ‘regulated’ exchange to support and legitimize digital currencies. So, this part of the story has just begun.
The future is both cautious and exciting. Stay tuned.