Securities and Exchange Commission Historical Society

The Institution of Experience: Self-Regulatory Organizations in the Securities Industry, 1792-2010

Born Regulated

The Quotation System

"NASDAQ is the way of the future and Weeden & Co. wants to be part of that future. For two years we have been told we would be on the System. We paid our money and helped promote the System. Now comes the New York and American Stock Exchanges at the eleventh hour and by a telephone vote of the NASD's Executive Committee suggests or causes a complete reversal of policy. Quite plainly, that is wrong."

- October 30, 1970 Complaint letter from Donald Weeden, Weeden & Co. to the NASD Board of Governors on NASDAQ

Before 1939, the OTC market was chaotic. The potential audit trail often disappeared in a thicket of telephone calls and informal agreements. A uniform practice code, promulgated in 1941, set standard rules for the listing and delivery of securities.

But the key to building an equitable market was consistent and accurate price information. Wholesale brokers got accurate prices each day from privately printed "sheets."  The public got its prices from the NASD. At first, quotations were based on a formula, although the SEC soon pushed the NASD to list actual prices. This contention over quotes, never resolved in these years, was understandable. The SEC wanted complete transparency—listings that showed "best bid and offer."  OTC brokers, however, like store owners, made their living by buying wholesale and selling retail. It was in their interest to keep wholesale prices hidden.57

Unwieldy as it was, the OTC market boomed in the 1960s, largely because these dealer-supported markets were well suited for keeping lightly-traded stocks afloat, and thus were preferred for initial public offerings. Of about 5,000 broker-dealer firms in operation during the decade, about two-thirds worked solely in the OTC market.58

Despite this, the Special Study questioned whether the OTC market was becoming technologically obsolete. It called for the creation of a computerized network that would provide prices in real time and perhaps even automatically match customer orders. The SEC reasoned that, since the NASD policed this market, it seemed only natural that it also run the computerized system. Robert Haack believed that the NASD had little choice but to move ahead. In 1966 an automation committee began to sketch out the NASD automated quotation system (Nasdaq). In 1968, defense contractor Bunker Ramo began building it.59

The technological hurdle was high, but the political bar was higher. Smaller brokers feared that real-time quotes would narrow their margins. Larger brokerages worried that the new system might drain trading of listed shares away from the NYSE floor and undermine the value of their exchange seats. A compromise was reached. Nasdaq would link "market maker" brokers only—there would be no retail interface. Volume would be reported only after closing, and there would be no trading of NYSE-listed stocks. Nasdaq went operational on February 8, 1971, offering 1,000 brokerages quotes on 3,000 securities.60

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