Origins Of Modern Stock Exchanges

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LOS 35.a: Explain the origins of different national market organizations.

Most modern stock exchanges (or "bourses") have their origins in one of three basic historical types: private bourses, public bourses, and bankers' bourses.

1. Private bourses were originally established by individuals for the purpose of securities trading. They are privately owned but publicly regulated with a strong bias towards self-regulation. Many of the private bourses today were directly influenced by and developed from the early British exchanges. This is the most popular model today.

2. Public bourses were first developed in France during the early 1800s. Public bourses are public institutions with brokers appointed by the government. Public brokerage firms' commissions and memberships are regulated by government officials. Most public bourses have converted to private bourses over the years.

3. Bankers' bourses developed ouc of the German Banking Act, which granted a brokerage monopoly to banks. In a bankers' bourse, banks play the primary role in securities trading. Most bankers' bourses had developed into private bourses by the 1990s.

LOS 35.b: Differentiate between an order-driven market and a price-driven market, and explain the risks and advantages of each.

The Paris Bourse, Frankfurt DAX (XETRA), and Tokyo Nikkei operate as order-driven markets (a.k.a. auction markets). Order-driven markets do not have active market makers. Instead, the auction market matches the supply and demand for securities direcrly. Order-driven markets function as electronic order-driven systems in which all transactions flow through a computer. Prices are determined by the supply and demand for the securities. The central order book is the focus of the markets' operations.

A price-driven market (a.k.a. a dealer market or quote-driven market) is a marker in which market makers maintain an inventory of securities and continuously quote prices at which they will buy (the bid price) and sell (the ask price). Customers choose the best quotes, and competition among the market makers promotes the best prices. The U.S. Nasdaq is an example ol a price-driven market.

Professor's Note: Unfortunately, these definitions are not consistent with what you learned at Level 1. The Level I curriculum says that a pure auction market, a price-driven market, and an order-driven market are all the same (and that a dealer market is equivalent to a quote-driven market). Discrepancies like this are rare in the CFA curriculum, but they do exist. For the Level 2 exam, use the definitions provided in the discussion related to this LOS: an auction market is an order-driven market; a dealer market is a price-driven market or a quote-driven market.

Figure 1: Features of Order-Driven and Price-Driven Markets

Differentiating Factors

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