Securities and Exchange Commission Historical Society

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

A Quiet Revolution

Crisis at the NYSE

By 2000, even the New York Stock Exchange was ready to open up the private club. NYSE CEO Richard Grasso had big plans for globalization; at the very least, he hoped to acquire Euronext, a stock market serving France, Amsterdam, and Brussels. But cash was required, more than NYSE members were willing or able to supply. In 1999, Grasso announced a plan to demutualize the NYSE and to take it public. But this was evidently too much, too soon. The NYSE abruptly scrapped the plan.101

The stumbling block appears to have been the specialists. Pilot projects had done little to threaten them. Demutualization and a public offering, however, would take management decisions away from the membership, which was still floor dominated, and give them to public shareholders, who had little material or sentimental attachment to floor trading. The floodgates to electronic trading would likely open.

The specialists were hardly standing still. In the late 1990s, to bolster themselves for the scale and speed of the new market, the specialist firms had begun merging at a clip. By 2002, there were only seven left. This change did little to curb their influence on the floor, however. Then two blows—by far the loudest part of the quiet revolution of the 2000s—took it all down.102

The late 1990s had been good to the specialists, but then the economy slowed, volatility increased and things got tougher. Around 1999, a large number of NYSE specialists began to pad their revenues by "front running"—placing orders ahead of customer orders—which they knew would boost prices. By 2004, evidence had emerged of widespread trading violations over a four-year period. The NYSE was probably fortunate to settle with the SEC two years later for $250 million.103

By fall 2003, the NYSE's governance had also come under a cloud when probing on the part of the SEC revealed that the NYSE board had awarded Richard Grasso exorbitant pay and retirement packages seemingly incompatible with the self-regulatory ideal. That September, Grasso resigned. Two months later, the NYSE submitted to the SEC new governance standards, including a fully independent board, a new regulatory committee, and a chief regulatory officer independent of management. NYSE's application stated that this new structure "guarantees the independence of our regulatory function both from members and member organizations and from inappropriate linkage with our marketplace function, while assuring the function's sensitivity to the market."  The SEC approved the arrangement.104

If these twin blows removed the last barriers to demutualization, collateral damage smoothed the way. From 2000 to 2005, the price of a seat on the exchange had fallen by half. Members were suddenly more willing to let the market determine the value of their investment.105

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Footnotes:

(101.) Fleckner, "Stock Exchanges at the Crossroads," 2556; James Duffy, June 3, 2010 Self-Regulation in the Securities Industry

(102.) Charles Gasparino, King of the Club: Richard Grasso and the Survival of the New York Stock Exchange (New York, 2007), 149-50; December 8, 2004 SEC Concept Release Concerning Self-Regulation; Proposed Rule. It is possible that, in time, the acquisition of specialist firms by the big brokerages might have brought the floor to heel, as commission brokers had usually advocated that the NYSE should serve the public before the membership.

(103.) Wall Street Journal, December 16, 2004.

(104.) November 7, 2003 SEC Release: Notice of Filing of Proposed NYSE Rule Change by the New York Stock Exchange, Inc.

(105.) Fleckner, "Stock Exchanges at the Crossroads," 2558.


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