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The Origin and Development of Stock Trading

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Every trading day more than a billion shares are traded in our nation’s stock exchanges. A share of stock gives the owner equity interest in a company, and approximately 40% of American households own some assortment of stocks. The stock exchanges were only recently regulated. The concept of investing dates back to ancient Greece. Mediterranean traders developed credit contracts where the seller agreed to adopt financial risk for the cargo the ship was carrying, should it not come in on time or fail to meet expectation. These were more-or-less options contracts. The first stock exchange was in Holland, and this was the first time people were actually buying an equity stake in companies – purchasing a share of stock in the company.

In 1653, Pilgrims built a wall to keep out Indians in the area that is now called Wall Street. The wall was supposed to protect from Indian attacks, and attacks from other European colonies. In 1753, the wall is gone but the road that ran alongside it was a fully developed commerce route, and remained vitally important. There were open-air exchanges until 1792, when the history of the New York Stock Exchange really begins. A group of 24 stockbrokers signed the Buttonwood Agreement, in attempt to prevent government regulation of their exchanges, and prevent newcomers. New York Stock Exchange was created and brokers met two times a day for formal auctions; the public was not invited and information was not readily accessible to them. Only 30 companies were traded, and only utter risk-takers and those looking to control the company would invest. Wall Street has been called an arena of bears and bulls. Bears are traders expecting prices to decline, while bulls are expecting prices to rise.

The stock exchanges were entirely manual for a long while, with stock certificates kept in vaults in the basement, and clerks processing by hand. The age of information came about when Samuel Morse created the telegraph, eliminating the need for regional markets in other cities. Brokers adopted this new technology, and designated the New York Stock Exchange (NYSE) as the trading capital of the nation, a central marketplace. In 1867, the stock ticker was invented and brought up-to-the-minute pricing information to brokers. This also gave the public near real-time information. The Wall Street Journal was created in 1889, and was a new standard in financial journalism. The Wall Street Journal published the Dow Jones Industrial Average, and index of 12 companies that act as a stock market barometer. Investors use the Dow average to assess how a stock’s performance is trending, in relation to the general average. This enabled investors to focus on long term trends rather than be distracted by short term static. The American Stock Exchange was formed in the 1920s, for trading out-of-door companies.

Along came J.P. Morgan, once the most powerful man in America and dubbed the “King of Corporate Mergers”. He made US Steel stock so valuable it boosted the Dow Jones by 500%. President Roosevelt used anti-trust regulations in attempt to break the monopolistic empire Morgan had built. A bull market had led to the biggest market crash yet. Stockbrokers had pushed poor investment choices and were buying on margin/credit. When stockbrokers assume prices will increase and buy on margin, then prices actually decrease, the value of the stock is no longer equal to credit obligation and brokers must raise funds to prevent liquidation of the asset. Between 1924 and 1929, the Dow Jones Industrial Average increased by more than 300%. Then disaster struck.

October of 1929, the market crashed, largely due to decreased consumer spending, and margin calls. There was roughly $72 billion in investments in lost, a key factor in the onset of the Great Depression. Reform was on the way. In 1932, President Franklin Roosevelt ordered a week shutdown of the exchange, and passed wide-reaching reform to restore law and order. The SEC was created to enforce the new rules. Banks could no longer gamble with stocks and brokers were held to a standard of integrity. Companies that were traded had to file annual reports with the government that were made available to the general public.

In the 1930’s and 1940’s, things were very calm and investor fear and weariness still lingered. World War II government spending pumped a tremendous amount of funds into our economy, and is likely about 75% responsible for revitalizing the nation. The financial markets were likely responsible for the other 25%. Women first entered the stock exchange floor in the wake of the war, after 150 years of male exclusivity. Merryl Lynch offered investment classes to women and published opinion reports. The market financially recovered, and in 1954, the Dow Jones broke 300. Harry Markowitz introduced the concept of stock diversification to mitigate risk in your investment portfolio, and later earned a Nobel Prize in economics for his work.

The 1960’s brought a Paper Panic, as clerks failed to process efficiently enough to satisfy the high trade volume. The NYSE closed on Wednesdays, just to allow them to catch up, ultimately leading to a cash flow crisis. In the 1970’s, computers were introduced to the exchanges, and vastly improved performance. In 1987, the largest single drop in stock market history occurred, and the Dow average plunged by 23%, to 508. While computers helped automate trading practices, the automation of selling stocks when they reached certain price levels lead to rapid fluctuation in prices. The NYSE installed a circuit breaker program in response, to restrict trading when prices begin to fluctuate too quickly.

NASDAQ software was created in 1971, and linked brokerage houses worldwide. The interactive touch screen lists two columns for each stock: a list for brokers trying to sell stock and the price they will accept, and a list of buyers looking to purchase stock and the price they’re willing to pay. NASDAQ is now the second-largest exchange, although it started as just the first electronic stock market, a simple quotation system without ability to actively trade. Some economic experts feel that face-to-face trading has limited future relevancy. Stock trends are available in real-time by computer, and algorithms are becoming the way of the future. One thing is for certain, though: stock exchanges are pivotal in making capitalism work. They help the new companies get started, and old ones expand. Billions of dollars of new capital gets generated each year, a vital organ in our economy.

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