The Pacific Coast Stock Exchange was also able to maintain an orderly, continuous market in the stock, with a single exception. On Monday, OCCD trading was halted at the same time the NYSE action was taken, with the price on the floors of both Exchanges at 1234. However, at 12 noon (Pacific Coast Time), the Pacific Coast Exchange resumed trading in the stock and has maintained that market continuously ever since. The Midwest Exchange was forced to halt trading in the stock on Monday at the time that the NYSE did, due to a massive influx of orders. But the stock reopened at 12:10 (Central time) and has remained freely negotiable in Chicago ever since. Elsewhere, the Boston Exchange traded, for 3 days, 11,000, 60,700, and 62,000 shares (OCCD) respectively. Cincinnati's totals were 700, 3,100, and 2,800. And Detroit registered 1,400, 15,000, and 17,300, respectively. NASDAQ Comes Through But NASDAQ's totals turned in its real surprise. The New York Stock Exchange listed stock (OXY) is also traded in the OTC Market. It is listed on NASDAQ. (OCCD). Officially, the NASD records showed, 17,000 shares of Occidental were traded on Monday, 68,600 on Tuesday, and 85,700 shares on Wednesday. Actually, the totals were significantly greater. In fact, on Wednesday alone, Weeden & Co. traded no less than 112,000 shares of the stock, accounting for most of the Third Market volume, despite the smaller, official figure. On Monday and Tuesday, Weeden; & Co., also, handled most of its trading activity in OCCD. In sum, Óccidental's recent prominence has given renewed ammunition to supporters of today's multi-Exchange and OTC-Third Market setup. Or as Fred Siesel of Weeden & Co. expressed it: "It's exciting to see all the different markets competing." He might have added that as a direct consequence of this competition, investors were enabled to maintain liquidity of their holdings as well as obtain the benefits of continuing auction markets. Mr. Siesel did say, however, that "The fragmentation of the market place frequently mentioned is not really that at all. Rather, it's really a fragmentation of information about the market. And a consolidated tape will effectively unify the different aspects of today's market.' 4. IMPLEMENTATION OF A CENTRAL MARKET SYSTEM The SEC has set forth, in broad outline, its plans for enabling and encouraging all classes of market-makers to compete through a central communication system. In transmitting the Institutional Investor Study to the Congress, the SEC said: It may or may not be possible for the central market to be 12 Comm'l. & Fin. Chron., July 27, 1972. auction market must be preserved. Under present conditions And in its policy statement on market structure, issued in February 1972, the SEC reiterated this position: A central market system, primarily through its communications network, can maximize the opportunity for public orders to match each other and be executed in classic auction market fashion. In addition, such a system can greatly increase the depth and liquidity of the marketplace by maximizing market making capacity; that is, the ability and willingness of dealers, including specialists, market-makers and block positioning firms, to buy and sell securities for their own accounts on occasions when the other side of a public order is not readily available. This can be done by encouraging all such dealers to compete actively within the system, without any artificial restraints between component markets, to provide the necessary buying or selling power on such occasions.14 While these statements set forth the general approach to realizing the twin objectives set forth above, a great deal of hard thought and hard work is required before those objectives can be achieved. The three principal tasks now before us are (1) to establish priority for public orders placed in the system; (2) to strengthen the capacity of the markets to handle institutional trading, particularly large block transactions; and (3) to devise appropriate regulations to govern the activities of dealers and other professionals operating within the system. a. Priority for Public Orders The principal benefits which public investors currently enjoy on the exchange markets which they do not enjoy in the OTC market are: (1) Their limit orders must be satisfied before any transaction is effected at the same price, or a price less favorable to the other party; and (2) Their market orders can be executed against another public limit or market order at a better price than is currently being quoted by any dealer. The Subcommittee believes that investors in listed securities should continue to enjoy these benefits. 13 1 Institutional Investor Study at XXV. 14 Market Structure Statement at 10-11. Section 11(a) of the Exchange Act, as now in effect, authorizes the SEC to regulate floor trading, and to prevent "excessive" off-floor trading by exchange men.bers. Exchange rules further regulate transactions by specialists as well as transactions by member firms while they are holding customers' orders.15 There is, however, no specific authority in the SEC to prescribe rules requiring all transactions of all dealers in a listed security to give appropriate recognition to current public orders in that security. The Subcommittee therefore recommends that Section 11(a) of the Exchange Act be amended to authorize the SEC to promulgate rules requiring all broker-dealers trading for their own account in listed securities to yield priority, parity and precedence to outstanding public orders, subject to such exceptions as the SEC might deem appropriate in the public interest. The concept of systemwide priority for public orders presupposes the existence of a single "book" for public orders for which specialists on all exchanges would be responsible. This book would clearly have to be maintained in electronic form, and would be an integral part of the consolidated quotation system contemplated by the SEC in the rule it proposed in March 1972.16 The SEC must therefore assure that any steps which are taken to integrate the public order "books" on the various exchanges are consistent with an overall plan for market integration, are designed to assure fair access for all interested parties, and are not duplicative of other facilities. In this connection, the SEC should carefully scrutinize the recent NYSE proposal for an $8 million automation plan for exchanging bid and asked prices among different exchanges to assure that it does not duplicate existing facilities, such as NASDAQ, and to assure that public orders receive priority in all markets. To assure that public orders in a particular security are given precedence before any transaction is consummated by any dealer in that security, there must be some mechanism by which dealers can be made aware of such orders. The SEC must therefore determine whether public orders on the "book" should be (a) publicly available to any interested person, (b) automatically available to any person registered as a "market maker" in that security, or (c) made available to marketmakers by the specialists charged with responsibility for maintaining the "book." Section 11(b) of the Securities Exchange Act presently prohibits disclosure by the specialist of orders on his book, but authorizes the SEC to determine under what conditions such orders must be disclosed "to all members of the exchange." In view of the prospective integration of the various exchange and OTC markets, this section should bet amended to give the SEC greater flexibility in determining the persons to whom, and the conditions under which, public orders on the book should be disclosed. The Subcommittee will welcome the suggestions of the SEC, the exchanges and others as to the form which such legislation should take. b. Handling of Institutional Transactions The enormous economic power of financial institutions, individually and as a group, and their increasing dominance of the markets for 15 See, e.g., NYSE Rule 92. 16 See Section A.2.c.ii. above. common stock, raise the question of whether present regulatory powers are adequate to insure that institutional trading is not detrimental to the maintenance of fair and orderly markets. i. Restrictions on Institutional Trading The Exchange Act contains various prohibitions against the manipulation of securities prices and the use of manipulative and deceptive devices. It confers broad powers on the Commission to regulate trading by members of stock exchanges. Section 11(a) of the Act grants the Commission authority to prevent "such excessive trading on the exchange. . . by members. . . for their own account, as the Commission may deem detrimental to the maintenance of a fair and orderly market." This authority has been vested in the Commission in order to control trading by persons so situated to the market that their trading may unduly influence price movements or excite excessive speculation. Although the Commission has never itself prescribed any rule dealing with excessive trading, it has encouraged the exchanges to adopt rules to prevent excessive trading by members and to meet other problems arising out of such trading. These exchange rules appear to have been generally effective in dealing with "excessive" trading by members. The Commission has no authority comparable to that in section 11(a) to deal with either "excessive" trading by non-members, e.g., institutions, on exchanges or "excessive" trading by members or non-members in the third market. These omissions are understandable in a statute passed at a time when institutions owned less than 8.5% of outstanding NYSE-listed securities 18 and there was no third market to speak of. However, financial institutions now own over 28% of outstanding NYSE-listed securities and account for over 52% of NYSE dollar volume.19 Moreover, in relation to many exchange members, financial institutions often have equal or better access to market information and execution facilities. As for trading in the third market, which now amounts to more than 8% of the value of NYSE volume, the imminent implementation of a composite tape for all trading in listed stocks 20 may greatly increase the impact on securities prices of trading in that market.21 The formulation of policy decisions with regard to institutional impact on the markets for equity securities has proven to be a difficult undertaking. In 1968 the Congress directed the SEC to study the purchase, sale and holding of equity securities by institutions, in order to determine, among other things, their effect on "the maintenance of fair and orderly securities markets" and "the stability of such markets." 22 The Institutional Investor Study, conducted by the SEC pursuant to that mandate, found that "institutional trading overall has not impaired price stability in the markets" and that "even on an inter-day basis, institutional trading appeared to offset price movements about as frequently as it appeared to contribute to them." 23 These conclusions, however, were based exclusively on aggregate statistical data. Since the "Study could not and did not individually 17 E.g., NYSE Rule 435. 18 See Institutional Investor Study (Suppl. Vol. 1) at 81-82. 19 NYSE, 1972 Fact Book 50, 52. 20 See Section A.2.c.i. above. 21 See, e.g. 4 Institutional Investor Study at 1625-27. 22 Securities Exchange Act of 1934, § 19(e), 15 U.S.C. 78s (e), added by 82 Stat. 453 (1968). 23 1 Institutional Investor Study at XXI. examine institutional transactions," its data could "not negate the possibility that one or more institutions trading at particular times in particular securities did impair price stability or otherwise act in a manner contrary to the public interest." 24 The omission by the Commission to study individual instances of institutional decisionmaking and market impact is disturbing in light of sudden sharp! drops that have occurred recently from time to time in the price of widely traded securities. Published stories have attributed these drops to massive institutional selling triggered by the failure of the issuer to meet earnings goals or other unfavorable information.25 If public confidence in the markets is to be maintained, the SEC has an obligation to investigate these market irregularities and determine to what extent they may have been caused by institutional trading practices that may be inconsistent with the public interest in the stability of the markets. In its letter transmitting the Institutional Investor Study to the Congress in April 1971, the SEC asked that the Exchange Act be amended "to provide the Commission with general authority to require reports and disclosures of . . . holdings and transactions from all types of institutional investors." 26 However, no specific legislative proposal has yet been submitted by the SEC for Congressional consideration. The Subcommittee believes that the SEC should obtain regular and comprehensive information regarding institutional transactions which contribute to unusual price movements, so that it will be continuously in a position to impose or recommend appropriate restrictions if they are required. If the SEC! feels that it does not presently have adequate authority to obtain: such information, the Exchange Act should be amended to provide it with such authority. ii. Separation of Individual and Institutional Trading Proposals have been made from time to time for the division of the trading markets into two "tiers"-one to serve individual investors and one to serve the trading needs of institutions.27 With regard to such proposals, the Institutional Investor Study undertook to determine whether institutions "traded largely among themselves and could be segregated into their own market entirely separate from the regular auction market for individual investors' or whether institutions "tend to predominate on one side of the market in a particular stock at a particular time and could not continue their existing trading patterns if they attempted to trade solely among themselves." 28 On the basis of an analysis of net monthly trading imbalances for a group of more than 230 large institutions (representing about 70 percent of all institutional common stock holdings), the Study concluded that: 24 Id. it is apparent that institutions cannot trade directly and 25 See e.g., N.Y. Times, Oct. 25, 1972, p. 64, col. 3; Bleakley, Miquidity: Is It Becoming a Problem Again?, Inst. Investor, Sept. 1972, p. 4. 26 1 Institutional Investor Study at XI. 27 See, e.g., Testimony of Michael Tobin, President, Midwest Stock Exchange, in SEC Hearings, supra note 1, transcript at 1184-85 (Oct. 26, 1971). 28 4 Institutional Investor Study at 1460. |