This congressional purpose is reflected in the various sections of the act which are aimed at curbing such speculative activities as pools and the attendant devices of "wash" and "matched" sales, rumors, unwarranted pegging or stabilization, and certain transactions in puts, calls and options. The provisions granting regulatory authority over credit, short selling and stop-loss orders and trading by corporate insiders were also aimed at curbing speculative excesses and their effects.

6

However, curbing undue speculation was not the sole purpose of the legislation. In the same statement, Senator Fletcher said:

The bill seeks to protect the American people by requiring brokers on these exchanges, members of these exchanges, to be wholly disinterested in performing their services for their clients and for the American people trading on the exchanges.

Various provisions of the act, particularly those contained in section 11, which grants the Commission wide authority over the trading practices of members, were aimed at carrying out this purpose.

Thus, it is clear that the provisions of the statute dealing with market activities emerged from two purposes the first, an attempt to curb unhealthy speculative activities, and the second, to provide for fair dealing and fair access to the markets.

It should be further noted that though the legislation sought to curb experienced abuses and reflected problems characteristic of a particular era, the Special Study has not found the Commission's statutory authority over exchange market activity to be inadequate despite the changed conditions and times. In many trading areas the Congress went beyond specific authorizations and granted the Commission broad authority to act in "the public interest" or "for the protection of investors." This broader grant of power was not fortuitous but was intended to allow flexibility in dealing with intricate and unforeseen problems. As Congressman Lea said on the floor:

*** where we gave the regulatory commission power, it would be a flexible power. If the commission finds a mistake has been made, it can readily change its rules to more favorable ones and thus accomplish the purposes of Congress." Thus, with respect to the matters covered in this chapter, no insufficiency of stautory authority has been found and no legislative recommendations are made. The existing powers of the Commission appear sufficiently broad to provide added controls or other remedies where the need is indicated.

2. SCOPE OF THE CHAPTER

Part B of the present chapter generally describes the methods of trading in effect on the NYSE, including a general description of the transmission of orders to the Exchange, their execution on the floor, and the methods through which reports of sales and other market information are disseminated to the public. This part also includes a brief description of the functions of various classes of members who are involved in the trading process on the floor of the Exchange. Part C is primarily a statistical presentation of the composition of mem

3 Exchange Act, sec. 9.

Exchange Act, sec. 7.

5 Exchange Act. sec. 10(a).

Exchange Act, sec. 16.

778 Congressional Record 2270-2271 (1934).

* Id. at p. 7862 (1934).

bers' trading as principals; i.e., other than as agents executing orders for the public. Most of this activity is by "floor" members (specialists, odd-lot dealers, and floor traders) who typically do not deal directly with the public. The remainder of trading activity by members for their own accounts is by members whose orders originate off the floor in the same manner as public orders.

The next three parts-D, E, and F-describe and analyze the functions of those floor members who are most directly involved in the trading process and who also trade for their own account on the floor; they deal respectively with the role of specialists, odd-lot dealers and floor traders. Part G contains a short discussion of member trading which originates off the floor of the Exchange.

Certain trading practices historically associated with the exchange markets are also considered in this chapter. "Short" selling is one such practice, and because it has a potentially strong effect on prices it is treated separately as part H of the chapter. This is followed by a discussion in part I, of the minimum commission rate schedules, focusing on their structure and administration, and on the methods and standards involved in the setting and review of rates. Finally, the chapter concludes with a brief discussion in part J of the impact of automation on the exchange markets.

The methods of study of the various subjects are described in the introductory portion of each part. Generally, tables and charts which are in the text are identified by lower-case letters (e.g., table VI-a); other tables and charts are set out at the close of the chapter, and are identified by Arabic numerals (e.g., table VI-1). Certain tables and charts relating to a computer analysis of NYSE members' transactions are collected in appendix VI-A, and are identified in the following manner: appendix VI-A, table 1.

3. DIVERSITY OF SECURITIES TRADED ON THE NYSE

Although primary attention in this chapter is given to the NYSE, it should not be assumed the Exchange is a monolithic institution in which, because of the listing standards imposed, securities of uniform characteristics are traded. Quite the contrary, the securities bought and sold on the Exchange differ considerably with respect to many significant features.10

The extent of trading occurring in the various securities traded on the Exchange ranges from relatively nominal to very substantial amounts. At the end of 1961, 1,145 common stocks were listed on the NYSE. Although the median level of transactions in these stocks for that year was approximately 465,000 shares, approximately 9 percent of the common stocks had transactions of less than 100,000 shares while another 9 percent had transactions of 2 million shares and over. With respect to individual companies at the two extremes, the extent of the disparity is even more striking. For example, stocks such as Erie & Pittsburgh Railroad, Wheeling & Lake Erie Railway, and Beech Creek Railroad traded about 3,000 or fewer shares during the year. On the

In the section on exchange specialists, certain other specific trading practices are discussed. Although data were gathered on the subject of "stop loss" orders, this subject is currently under separate study by the Division of Trading and Exchanges and only passing references are made to it here,

10 A comparison of various characteristics of NYSE stocks with those traded in other markets is contained in ch. VII.B.5.

96-746-63-pt. 2-4

other hand, stocks in which there was considerable interest such as Studebaker-Packard, Brunswick, and Sperry Rand had transactions of about 10 million shares during the year.

As a result of these divergencies in share volume, the great bulk of transactions consummated in 1961 was concentrated in a relatively small number of stocks. Thus, the most active 5 percent of common stocks accounted for approximately 29 percent of total common stock share volume during the year while the top 15 percent of common stocks absorbed over 50 percent of common stock volume.

In addition to common stocks, there were 396 preferred issues listed on the NYSE as of the end of 1961. Many of these issues are held by institutions which trade in them relatively infrequently. As a result, they had ranges of activity substantially different from those of the common stocks. The median annual volume for the 396 preferred stocks was about 11,000 shares, while those with a volume of less than 2,000 shares accounted for 10 percent of the total number of such stocks; and at the other extreme, preferred stocks with a volume of 90,000 shares and over accounted for 10 percent of the number of preferreds. With respect to individual cases, stocks such as Beatrice Foods 3% percent convertible preferred and Long Island Lighting 414 percent series D preferred traded only a few hundred shares during the year, while the Atchison, Topeka & Santa Fe 5 percent noncumulative preferred had transactions of 960,000 shares during

year.

Differences are also apparent with respect to other aspects of securities listed on the exchange. Thus, while the median company had approximately 8,000 shareholders, about 2 percent of the companies had less than 800 shareholders, and 19 percent of the companies had 25,000 shareholders and over. Similarly, while the median number of shares outstanding was approximately 2,500,000, about 1 percent of the companies had less than 200,000 shares, and 15 percent had 10 million shares and over. And while the median company had total assets of about $100 million, about 2 percent of the companies had assets of less than $10 million and about 62 percent had assets of $1 billion and over. Finally, while the median price level on the NYSE at the close of 1961 was $35 per share, 6 percent of the stocks had prices under $10 and 3 percent traded at prices of $100 or over.

Such differences in the characteristics of issues traded on the Exchange are bound to have some impact in the kinds of markets maintained on the Exchange. As is shown in part D of this chapter, the activities of specialists may be quite different with respect to issues at opposite ends of the spectrum of activity: At the high end a minimum of specialists' trading is necessary while at the low end the market may be wholly a "dealer" market; moreover, for the most inactive preferred stocks a wholly different kind of market exists, where the specialist usually acts only as a broker.

4. DIVERSITY OF NYSE COMMISSION FIRMS

Chapter I contains a discussion of the broker-dealer community in the entire securities industry. Special consideration of the structure of the NYSE community is important, however, not only because of its

11 This includes all stocks other than common stocks; i.e., preferred stocks, guaranteed stocks, etc. This classification is followed by the New York Stock Exchange as well.

preponderant weight-its members accounting for some 75 percent of total broker-dealer income-but also because of the complex of interwoven activities, reaching into other markets, in which its members participate. Some insight into the structure of that portion of the NYSE community which does a commission business with the public may be gained from the annual income and expense reports filed with the exchange.12

These reveal a great disparity in the size of firms, with 43 percent of the total 1960 income accruing to the top 5 percent of reporting firms and only 9 percent to the lower half of firms. The considerable importance to NYSE members of activities off the Exchange is revealed by the composition of 1960 gross income received by the group as a whole. Less than half of gross income (39.8 percent) comes from gross NYSE commissions.13 Some 8.3 percent comes from commissions and fees from transactions on other exchanges-both the American and regionals. The over-the-counter market accounts for 7.8 percent of gross income in commissions and fees and for an undefined portion of the 11 percent of gross income coming from profits on trading and arbitrage. Profits from underwriting syndicates and selling groups provide 10.8 percent of the total, while 13 percent comes from interest received on customers' balances. The remaining 9.3 percent of total income is derived from a number of lesser sources including commodity income, service charges, fees for account supervision, and firm investments."

This composition of income is far from uniform among all firms, however, as significant differences occur in firms of different income ranges. Generally, income derived from Exchange activities-that is, income from NYSE commissions and interest on customers' accounts, which are based exclusively on listed securities-form a larger percentage of total income the larger the size of the firm (in terms of gross income). Income from over-the-counter securities and from trading and arbitrage, on the other hand, comprise a larger percentage of total income the smaller the size of the firm. Income from other exchanges and from underwriting syndicates and selling groups show no clear relationship to size.

Diversity also exists in the concentration of various major income sources among members. The greatest concentration occurs in those activities connected with the Exchange, with 54 percent of all interest received on customers' accounts accruing to the 5 percent of the firms at the top of this category,16 and 46 percent of all NYSE commission income going to the top 5 percent of firms. The smallest degree of concentration occurs in over-the-counter income, of which 35 percent goes to the top 5 percent of firms. The degree of concentration of

12 The analysis which follows is based on reports filed by 162 firms in 1954, 283 firms in 1957, and 372 firms-a substantial majority of the firms doing a public commission business in 1960. Examination of changes over the years was based on data covering only those firms which reported in each year; the separate analysis of 1960 data was based on all firms reporting in that year.

13 Since gross commission income is defined to include both gross commissions before give-ups to others and net give-ups received from others, it contains some double counting and overstates the share fo NYSE commission income in the total.

14 A part of interest received on customers' balance is offset by a portion of interest paid out on all borrowings, which equals 10.5 percent of total income but covers the cost of borrowing for other purposes as well.

15 These figures differ from those arrived at on a sample basis for 1961 in table I-12. in the inclusion of interest income, the different breakdown of gross income used in the NYSE reports, and double counting such as that in note 13 above.

16 The firms were ranked separately for each income source.

other major income sources lies somewhere in between, as 44 percent of income from other exchanges and from trading and arbitrage and 40 percent of underwriting income accrue to the top 5 percent of firms in each of the categories.

Of considerable significance also are the trends revealed by a comparison of 1954 and 1960 data for those firms which reported in both years. While this was plainly a period of growth, with a 72-percent increase in total gross income, growth was considerably greater in some income sources than in others. Gross income from NYSE commissions rose by 57 percent, interest from customers' accounts by 129 percent, income from over-the-counter business by 123 percent, and income from other exchanges by 94 percent. Income from underwriting syndicates and selling groups, and income from trading and arbitrage rose by 79 and 76 percent, respectively.

There were important differences, too, in the distribution of growth in each activity among firms. While there was a general tendency for firms with a larger gross income to show greater percentage growth in NYSE commission income, no clear relationship was evident between size of firm and its growth experienced in other income sources. In most sources of income-other than NYSE commission income and interest on customers' accounts-the greatest rate of growth was reported by those firms which had the smallest income from the respective source at the beginning of the 1954-60 period. In these areas, therefore, there was a general trend toward catching up, as those with less income from a source showed relatively greater growth. In both NYSE-connected and other activities, however, the concentration of income going to the very top firms increased.

B. OPERATIONS OF EXCHANGE MARKETS

1. MECHANICS OF THE MARKET

a. The continuous auction

The fundamental distinction between exchange and over-the-counter markets is that the exchange provides a centralized marketplace or "floor." All buying and selling interests are funneled to one place, where buyers have an opportunity to find the cheapest sellers, and sellers the most eager buyers.

The method of trading on the two major New York exchanges is 17 known as the continuous auction system. This system, although somewhat resembling the conventional auction procedure, differs from it in that it is a two-way process with competition among sellers as well as among buyers, and that parties usually can achieve an execution, at least for 100 shares, at any time during the trading session." The prevailing "market" or the "quote" for each security is the highest bid and the lowest offer, e.g., 50 (bid), 504 (offer). An investor desiring to buy or sell with as little delay as possible will usually do

Although the purpose of this section is to describe the operation of stock exchanges generally, the following discussion deals most specifically with the NYSE and all references are to that Exchange unless otherwise noted. Much of the discussion is, however, equally applicable to the Amex and, to a lesser extent, to certain of the other exchanges. 15 The unit of trading for most stocks is 100 shares, known as a "round lot." In some inactive stocks, the round lot is 10 shares. Only round lots are handled in the auction system. Orders for fewer shares than a round lot, called "odd lots," are traded under a separate procedure. See pt. E of this chapter.