NYSE Electronic Probe Bites Its Hands (NYX, NASDAQ)

The New York Stock Exchange (NYX-NYSE) is being looked at by the SEC over its trading glitch and whether or not the switch to an all-electronic trading platform was partially responsible for the 200+ point drop in the DJIA turning into the 500+ point drop on Tuesday.  The ‘people familiar with the case’ have reportedly been saying regulators are concerned about the electronic trading capacity at the NYSE.

This is all as John Thain has been trying to switch from a floor trader to electronic platforms.  This move will prove to be a costly one now that there are fewer and fewer specialists that can maintain a somewhat orderly market.  The person versus computer trading is perhaps one of the more controversial current events on Wall Street, and it becomes even more critical as the NYSE has expanded into Europe and Asia.

My take on this is that on slow days you don’t really need that many specialists and it is true that specialists are also frequently too slow and too inefficient on re-open stock prices after stock halts on big news.  BUT, there is a key issue that makes a specialist invaluable and it will give the NYSE its own unique model compared to most equity exchanges.  Specialists are there to maintain an orderly market and when you get a major mudslide you need a person there with proper regulations rather than just a machine.  At some point there just has to be a person involved.  The big institutions also need a central person or tiny group rather than having to try to just post 20 million shares for sale that can spook the market on any single issue.

Machines break and machines operate on glitches.  The NYSE will be making a major mistake if they totally eliminate the specialist role.  If nothing else, they could look at the specialist as a quasi-insurance policy for at least some added liquidity on a volatile market.  The NASDAQ (NDAQ-NASDAQ) has mastered the electronic trading world since they have been doing electronic-only trading for longer than many market participates have been alive.  This probably also puts the American Stock Exchange IPO filing in a better light as well.

Shares of NYX are trading down 4.3% pre-market at $81.18 per share; its 52-week trading range is $48.62 to $112.00.  As a reminder, this is Jim Cramer’s #1 Growth Pick for 2007 and this one is now down more than 10% since his call.  LaBranche (LAB-NYSE) and Van der Moolen (VDM-NYSE/ADR) are two of the major specialist firms.

Jon C. Ogg
March 1, 2007

Jon Ogg can be reached at [email protected]; he does not own securities in the companies he covers.