New York Stock Exchange
Throughout the last two centuries, Wall Street has been in a constant tug-of-war with Washington over the role finance played in the nation’s affairs. Since the War of 1812, private sources of capital have contributed to the country’s finances. Throughout the nineteenth century, Wall Street developed its own unique personality and institutions based upon the simple premise that outside interference was mostly lacking. The New York Stock Exchange and others developed as self-regulating institutions for lack of any other meaningful regulator. But as the economy became broader and more developed, this status quo would begin to be challenged by government, leading to the momentous events of the New Deal and the changes it brought to the world’s largest financial marketplace.
Throughout its two-hundred-year history, Wall Street has come to embrace all of the financial markets, not just those in New York City. In its earliest days Wall Street was a thoroughfare built alongside a wall designed to protect lower Manhattan from unfriendly Indians. The predecessor of the New York Stock Exchange was founded shortly thereafter to bring stock and bond trading indoors and make it more orderly. But Wall Street today encompasses more than just the stock exchange. It is divided into stock markets, bond markets of various sizes and shapes, as well as commodity futures markets and other derivatives markets in Chicago, Philadelphia, and Kansas City increasingly known for their complexity. In the intervening years, other walls have been created to protect the public from a “hostile” securities business. The sometimes uneasy relationship between finance and government is the theme of Wall Street’s history.
Despite the fact that New York City was the temporary capital of the United States from 1785 to 1790, the first real stock exchange begun in Philadelphia, Pennsylvania in 1790. This was a simple finical market in which traders needed to have their offices close to the stock exchange so that messengers could keep the brokers up to date with current information. Many cities had their own finical markets because of how slow information traveled. The first major innovation of the Philadelphia Stock Exchange was a signal-system between Philadelphia and New York. This system brought news of current stock prices, lottery ticket information and other important news. The signal-system was a simple yet complex operation. The signal system started in Philadelphia with lines running along the mountains through New Jersey ending with a station hub in New York City. The stations consisted of a basic watch tower with telescopes, flags, and signal beacons to relay information from tower to tower. This was a vast improvement over the traditional message system of a horseback messenger. This signal system narrowed the advantage of New York speculators. After all, it is a fundamental axiom of free markets that can never be larger than the area in which information can be transmitted almost instantaneously.
In 1789, Alexander Hamilton, the first Secretary of the Treasury, recommended to Congress that bonds sold to finance the Revolutionary War should be backed by the fledgling federal government. These almost worthless-at-the-time bonds jumped in value when the government backed them up. Hamilton followed up on this strategy by selling stock to the public in the first national bank in America. It was from this modest beginning that Wall Street became the financial center of the United States; since the Congress was meeting on this very street, in New York. The trading of securities was rapidly becoming a business of its own and even began following a schedule for daily sales in 1792, when the first “Bull Market” was recorded. The appearance of brokers, who worked for a fee or commission, was also recorded in 1792. With the constantly rising value of the stocks and some securities, brokers actually formed partnerships. The Philadelphia Board of Brokers was the first officially licensed organization in 1790. These brokers were at the heart of the innovation of the Philadelphia Stock Exchange.
The New York Stock Exchange was born out of an agreement among twenty-four men to trade securities only among their membership to control commissions and transactions. This happened on May 17, 1792 under a large buttonwood tree that would give the agreement its name;” The Buttonwood Tree Agreement.” The fledging exchange loosely organized had remained stable, but was not succeeding as planned. The members realized that the success of the Philadelphia Exchange was based on its organizational structure and principles or organization. William Lamb was sent on behalf of the New York Brokers to learn about the Philadelphia Exchange. In 1817, New York Brokers organized a constitution that was almost an exact copy of Philadelphia’s Stock Exchange constitution. The organization was now called the New York Stock and Exchange Board or NYSE. Later in 1846, astonishing advancements in telecommunications technology enabled a new openness to the business of the stock market.
In 1844 Samuel Morse demonstrated the first successful telegraph line. Immediately a communications revolution knitted together the entire content of the United Sates. This technology revolutionized trading by allowing up to the minute information to be used in trading and selling of stocks from cities all across the US. By 1851, daily reports of transactions could be posted and distributed shortly after the close of the market. The first ticker was invented and introduced into trading in 1867. It remained in use until it was supplanted by the “black box” ticker which was replaced in 1957 by the 900 ticker which automated the market floor. The 900 ticker allowed traders on the floor to see current stock prices. Super DOT was introduced in 1984, this electronic routing system let traders make computer trades which increased the number of orders. Further more, the stock market was advanced in 1991 with off-hours trading which made the NYSE even more automated. Now the NYSE was the nation’s finical heart, which overtook Philadelphia at the start of the canal boom. At the turn of the Millennium, the NYSE abandoned the long tradition of stock prices in fractions and converted to decimals. The NASDAQ Stock Market began in 1971 and became the world’s first floorless exchange system. This was made possible by the internet, now brokers could monitor the market anywhere regardless of time or location. The NASDAQ is an open market or multiple-dealer system with many competitors competing to handle trades in each stock. The NYSE uses a specialist in which all brokers buy and sell. In other words the NYSE uses a broker for the brokers, or a middle-man. This slows the trading process down and can be costly for brokers. The NASDAQ revolutionized the modern stock market with advancements that were made possible by technology. Later in 1981 a vast computerized display system was on the trading floor so that traders could see current prices world wide.
Despite the momentous changes occurring in American industry, the stock exchange was still a battleground for bulls and bears intent on locking horns at every opportunity. Battles similar to those of Drew, Vanderbilt, and Gould were still being waged by other bear raiders intent upon seeking revenge upon bullish opponents. Now these raiders were often hired professionals, used by others to mount bear raids. But the belligerencies were becoming more difficult because the stock exchange had grown along with the economy; the battles would be proportionately larger as a result.
The number of shares bought and sold on the NYSE doubled between 1875 and 1885, as did their value. After the panic of 1873 had become a distant memory, stocks began to outnumber bonds on the exchange and dominated trading. Common stocks were traded much more avidly than railroad bonds, their nearest competitors. Among the common stocks, railroad companies still dominated, although industrials such as the Western Union Company and Edison General Electric were rising quickly. The railway stocks were still heavily watered, so bear raiders continued to favor them over others. The legacy of Gould, Fisk, and Vanderbilt lived on.
Railroad stocks became the battleground for two German-American speculators on the NYSE in a struggle that was truly in the tradition of Drew and Vanderbilt. Their particular field of battle was the Northern Pacific Railroad, once the darling (and ruin) of Jay Cooke. Before J. P. Morgan became involved, the railroad was controlled by Henry Villard, a Prussian by birth who became involved in railways when he obtained the receivership of the Kansas Pacific. Born Heinrich Hilgard, Villard came to the United States in 1853 at age nineteen and moved to Colorado. Shortly thereafter, he bought a steamship company using borrowed money and began consolidating his operations in the Northwest. By watering the stock and using planted favorable press reports, he forced its price to rise to almost two hundred dollars per share. As it rose, new share issues followed the old, paying immediate dividends and giving the impression that the company was a money machine, able to achieve exponential growth in the wild and woolly West. In fact, Villard’s trick was not uncommon at the time. New stock was sold and the proceeds were used to pay immediate dividends on existing stock. The stock then began a phenomenal rise, presenting Villard and his colleagues with enormous gains. The stock-watering game, devised years before, was still very much in vogue in the wildly speculative market following 1873.
Villard then proceeded to “corner” the entire Pacific Northwest for himself by buying up all types of transportation in the region. But his plans appeared to go awry when he learned of the $40-million bond issue for the Northern Pacific led by J. P. Morgan and August Belmont and Company. The capital funds would help rebuild the railroad, posing a serious threat to his monopoly over regional trade. He decided to buy the railroad rather than compete with it. By forming pools, or syndicates, of investment money, Villard bought all the outstanding shares of the railroad and became its baron. When the final track was laid for the line to proceed to Portland, Oregon, Villard was the first to make the trip, breaking the old record for travel time to the Pacific coast. The magnate celebrated his apparent success by building a baronial mansion on Madison Avenue in New York that dwarfed many of the other robber baron’s cathedrals.
But chicanery lay just around the corner for Villard. During his acquisition of the Northern Pacific, he had made a personal enemy of Charles F. Woerishoffer, another German immigrant described by Henry Clews as “the most brilliant bear operator ever known in Wall Street,” a fair compliment considering some of the competition. Short sellers had become known as “plungers,” and he was most often described as the master. Several years younger than Villard, Woerishoffer came to the United States when he was twenty-two and went to work for Henry Budge of Budge, Schwetze and Company, who bought him a seat on the NYSE. In 1876 he founded his own firm of Woerishoffer and Company and became well known as an adroit operator on both sides of the market. But Villard’s acquisition of the Northern Pacific opened a rift between the two when Villard accused him of not being faithful to the deal and the pool that financed it. Woerishoffer sought revenge upon Villard by mounting a bear raid on his holdings, approaching the raid with the same sort of vengeance that Commodore Vanderbilt had displayed years before with the New York Central. Woerishoffer bet his firm and his personal fortune on the raid, which proved successful. The stock price of the Northern Pacific and other Villard-owned companies collapsed, ruining Villard in the process.
The raid was not as plausible as some of those in the past, and many have suggested that it was part of a conspiracy to drive Villard out of the Northern Pacific. Woerishoffer was merely the paid agent of others intent on running the railroad, among them Morgan interests. Smaller member firms of the NYSE made a good living acting as hired plungers for others throughout the post-Civil war period. Whatever the background, Villard was so penniless that he had to sign his Madison Avenue home over to the railroad. The directors responded by granting him a yearly allowance of $10,000 for past services rendered. Then the trustees of the Northern Pacific called in Morgan and August Belmont for financial advice. Villard temporarily faded from view but would return before long with an even more ambitious scheme, again aimed at creating a monopoly.
The most obvious of the NYSE’s screening policies was its stringent vetting procedure, a procedure that required a firm that wanted to use its services to meet high minimum standards in terms of “size of capital, number of shareholders, and proven track record.” (Michie, 1987, p. 198) The exchange made a deliberate effort to attract large, widely held, and, price-wise, relatively stable issues. The rules also imposed additional costs on listed securities whose price fell below par or whose par value was less than $100. In the nineteenth century par value was an important component of the signal to the unsophisticated saver. Those rules made it virtually impossible to trade a security that did not generate the required high level of trade volume in sufficiently large trade blocks. (Baskin, 1988)
The par value rule discriminated against firms with small capital bases. There were many such firms in the newly emerging industrial and commercial arenas, in the land, mortgage, financial sectors, and mining industries. Moreover, on the other side of the market, even if potential investors were willing to trade in normal lots (and it is likely that the small investor preferred odd lots), the par value rule made purchases or sales very expensive.
The more sophisticated investors refused to pay the charges imposed by the New York Stock Exchange, and many firms were unwilling or unable to bear the high transactions costs that listing involved. Both sophisticated savers and unwilling firms took their business to rival exchanges. The number of informed domestic savers was, however, small relative to the number of their unsophisticated peers. As late as 1910 the New York Stock Exchange provided the conduit for nearly 70 percent of the number of equities and 90 percent of the value of bonds that passed through the country’s six most active formal markets. (Michie, 1987)
Because of the relatively small number of sophisticated investors, the rival domestic exchanges were unable to mobilize sufficient capital to meet the demands of the myriad of firms whose growth transformed the nation’s industrial profile. On the one hand, British entrepreneurs were given an opportunity to purchase American enterprises, reorganize them as “free-standing companies” and, through the aegis of the formal British capital market, raise finance from the relatively more sophisticated British investors. On the other hand, more than a few American entrepreneurs — Andrew Carnegie, for example — were able to tap the accumulations of British savers directly by personally exporting securities to London and the provinces.
In sum, it is quite apparent that not all American savers were equal in their abilities to evaluate uncertain investment opportunities. The evidence of the profits accrued by both the investment banks and the members of the New York Stock Exchange suggests that as late as 1901 the majority — even the majority of those willing to hold paper securities at all — still demanded official certification. Again, however, times were changing. Beginning in the 1880s, at least, there had been groups of sophisticated investors (like those in Boston who were able to evaluate investment alternatives in mining and in the West or those in Philadelphia with ties to developments in the upper Midwest) who did not need the services of the NYSE to overcome informational asymmetries. Those groups were growing. Similarly, the quality stamp placed on some offerings by the large investment bankers itself furthered the process of investor education. A saver, even one who lived in Chicago, might have proved unwilling to invest in the issues of a firm like the McCormick Reaper Company, a well-established Chicago enterprise; but he jumped at the chance to buy stock in International Harvester, after J.P. Morgan & Company merged McCormick into that newly established conglomerate. The investment in International Harvester proved profitable. Having learned that paper investments were not always as uncertain as he had believed, the investor required a less strong signal for his next purchase.
Finally, the success of the New York Stock Exchange in reducing informational asymmetries helped in the long run to undercut its ability to maintain its semi-monopolistic position. Although on occasion a lesson may be lost, in general, investor education is an irreversible process, and the American saver was becoming educated. As the domestic exchanges approached maturity, there was less need to turn to London for financial support for new industries in new regions. In fact, although the educational process would continue for at least two more decades, when World War I forced Britain out of the world’s financial markets, American savers were able to step in and fill at least a part of the gap.
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