Where stocks trade

Thousands of stocks change hands every day in US secondary markets.

Stocks listed on a national securities exchange – described as national market system (NMS) stocks – can be traded in a number of competing venues.

Stock exchanges

Exchange trading

There are more than a dozen stock exchanges in the United States, and the number is growing. The list is headed by the venerable New York Stock Exchange (NYSE), which traces its roots to 1792, and the Nasdaq Stock Market (Nasdaq). It was the world’s first electronic market when it opened in 1971. But trading volume on BATS, an exchange since 2008, rivals that on the two more established exchanges. However, the vast majority of stocks are listed on either the NYSE or Nasdaq.

All exchanges are registered with and regulated by the SEC under the Securities Exchange Act of 1934. In addition, each exchange has a self-regulatory organization (SRO) that’s responsible for ensuring an orderly market that’s both competitive and fair because it is transparent. In this context, transparent means that details on price and volume are reported in real time.

Most transactions are handled electronically, often instantaneously, as a sophisticated network matches each order to buy with a corresponding offer to sell –and each order to sell with an offer to buy. Market Makers, who provide liquidity that keeps trading going, are obligated to buy and sell a specific number of shares at the prices they post on the network, making money on the spread, or price difference, between the buy price – called the bid – and the sell price – called the ask or offer. Together the bid and ask are known as a quotation, or quote.

The NYSE, where the vast majority of transactions are matched electronically in data centers miles away from Wall Street, was originally an auction market. Floor brokers representing buyers and sellers competed for the best price at the post of the single specialist who handled transactions in a particular stock. Today it’s a hybrid market. There are still floor brokers and specialists at the exchange, but transactions are handled by a network of hand-held computers.

Alternative trading systems (ATSs)

Keep it quiet

Electronic communications networks (ECNs), which register with the SEC as alternative trading systems, are regulated as broker-dealers under Regulation ATS, not as exchanges. They function similarly to an exchange, though, in the sense that they collect, display, and execute buy and sell orders electronically. The prices at which stocks change hands and the trading volume are transparent, as they are with exchange-based transactions.

What’s different is that the transactions are handled directly between two institutional investors, one on either side of the trade. There’s no middleman, such as a market maker or specialist. The fees are lower – often much lower – than exchange fees. And the buyers and sellers are anonymous. Anonymity is an advantage, since it means a major trade by a well-known investor won’t trigger volatility or tip the investor’s hand.

Further, while most exchange-based transactions occur during normal trading hours -9:30 am to 4 pm ET – some but not all ECN’s facilitate trades both before and after the exchanges close, and in some cases almost around the clock.

Internalized transactions

Internalization means a broker-dealer fills its clients’ orders itself or though interactions with one or more other firms. The advantage to the firm is that it keeps the difference between the price it paid for a stock and the price it receives when it sells, increasing its profit.

The profit motive similarly encourages trading platforms to increase the number of transactions they handle. In fact, some are willing to pay brokerage firms to attract their business, a practice known as payment for order flow.

Language check

Exchange-based transactions in listed securities occur in the secondary market. But when these stocks change hands anywhere but on an exchange, the transactions – but not the stocks – are described as over-the-counter (OTC) or third-market trades. OTC stocks, on the other hand, are unlisted securities that trade in an OTC or third market, never on an exchange.

A street by any other name

Wall Street, which got its name from the stockade build by early settlers to protect New York from attacks from the north, was the scene of New York’s organized stock trading. Now it lends its name to the financial markets in general – though lots of traders never set foot on it.

In the dark

The name may not say it all. But it says a lot. The alternative trading systems known as dark pools are private trading facilities. They’re not transparent and don’t report the prices at which transactions occur or trading volume in real time.

As is the case with ECNs, trading is anonymous and less expensive than exchange trading. And it’s possible to buy or sell very large blocks of stock at a single, and perhaps – but not necessarily – better, price than would be available on an exchange or ECB. What’s interesting though, is that most dark pool transactions do not involve large institutional blocks of stock – in theory, at least, the reason why they are popular – but rather retail transactions of a few hundred shares at a time.

Like ECNs, dark pools register with the SEC as broker-dealers rather than exchanges, and they’re governed under Regulation ATS. What’s more, many of them are operated by well-known broker-dealers, exchanges, or ECNs. Their trading is also restricted to no more than 5% of any one company’s shares in a day, a percentage that the SEC may lower to 2.5%.

But their lack of transparency means that dark pools continue to be investigated with considerable vigor.

How times have changed

Before the introduction of Regulation NMS in 2007, stocks listed on the NYSE were traded on that exchange nearly 80% of the time while Nasdaq-listed stocks were traded on its own or affiliated networks at a comparable rate. In 2018, fewer than half are traded where they’re listed.


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