Goldman Sachs & Co.
Controllers Training
Equity Markets Module - Session 6
Comparison of Equity Markets -- NYSE, NASDAQ,
ECNs
Alan L. Tucker, Ph.D.
631-331-8024 (voice)
631-331-8044 (fax) tucker@mtaglobal.com
Copyright © 1997-2001
Marshall, Tucker & Associates, LLC
All Rights Reserved
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Comparison of Equity Markets
• Primary & Secondary Markets
• The NYSE
• Operation of the NYSE
• NASDAQ
• Competitors
• Stock Market Information
• Tour of the NYSE and NASDAQ Web Sites
• Compaq Case Study
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Who owns stocks?
• 50 million individuals directly/ mutual funds
• About 56% of the total
• Primary markets
• IPO’S
• Investment Banker- underwrites
• Fixed commitment
• Best efforts
• Netscape
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• SEC
• Prospectus
• Red Herring
• Tombstone
• Shelf Registration
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Channels
• Directly with other investors
• Indirectly through a broker
• Directly with a dealer
• Dealers and Brokers
• Bid/Ask prices - spread
• Exchanges
• NYSE, AMEX, the “regionals”
• Nasdaq
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Membership
• 1,366 members -“own seats ”
• Member firms
• Buying/ leasing a seat
• $55,000 - $2,000,000
• Ownership/governance
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Member Types (in order by size)
• Commission brokers (~500)
• Specialists (~400)
• Specialist firms
• Floor / $2 brokers
• Floor traders
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Listing
• 3,356 companies in 2001
• Listing requirements/ fees
• Order Flow
• Floor Activity
• Specialist’s post
• Order execution
• SuperDOT (designated order turnaround)
• “Stopping” and price improvement
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• 2,200 shareholders
• Six month average trading at 100,000 shares a month
• 1.1 million shares in public
• Public shares at minimum $40 million in market value
• Annual earnings of $2.5 million before taxes in recent years ($2 million in two preceding years)
• Tangible assets of $40 million
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Minimum Listing Requirements
NYSE
NASDAQ/Alt.1
Earnings
(pretax)
$2.5 M
$1.1 M
Market Value
$40 M
$8 M
Net Tangible
Assets
Shares
Outstanding Shareholders
$40 M
$6 M
1.1 M 2,200
400
NASDAQ/Alt.2
$18 M
NASDAQ/Alt.3
$1.1 M $20 M $75 M*
1.1 M 400
400
*Total assets
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Role of specialist
• The spread
• Market orders
• Limit orders/order book
• Stop orders
• Others (brokerage firms)
• Fill or kill/ all or none
• Day/ Good-till-cancelled
• At open/ at close
• NYSE uptick rule
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Stock Market Order Types
Market order
Limit order
Stop orders
Buy
Buy at best price available for immediate execution
Buy at best price available, but not more than the preset limit price.
Forego purchase if limit is not met.
Start gain - convert to a market order to buy when the stock price crosses the stop price from below.
Start loss - convert to a market order to buy when the stock price crosses the stop price from above.
Start limit gain - convert to a limit order to buy when the stock price
Stop-limit orders crosses the stop price from below.
Start limit loss - convert to a limit order to buy when the stock price crosses the stop price from above.
Sell
Sell at best price available for immediate execution
Sell at best price available, but not less than the preset limit price.
Forego sale if limit is not met.
Stop gain - convert to a market order to sell when the stock price crosses the stop price from below.
Stop loss - convert to a market order to sell when the stock price crosses the stop price from above.
Stop limit gain - convert to a limit order to sell when the stock price crosses the stop price from below.
Stop limit loss - convert to a limit order to sell when the stock price crosses the stop price from above.
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• National Association of Security Dealers
Automated Quotation system
• Organization
• Electronic Network
• Multiple Dealers or “market makers”
• OTC market
• Size
• ~5,000 members
• >800 million shares/day
• Dollar Volume
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Managed by NASD
• Level I: registered rep’s - median quotes
• Level II: brokers - inside quotes
• Level III: market makers - change quotes
• Nasdaq National Market (NNM)
• Founded 1982
• ~4,300 securities in 1997
• Last trade info
• The Nasdaq controversy…
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Third market
• OTC trades in listed securities off exchange
• Payment for order flow
• Fourth market
• Direct trading -- no brokers
• Instinet
• Regional exchanges
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

S&P 500
DJIA
NASDAQ
AMEX
Wilshire 5000
Value Line
Russell 2000
NYSE
S&P 500 DJIA NASDAQ AMEX
1.00
0.96
0.84
0.85
0.99
0.89
1.00
0.80
0.83
0.95
0.87
1.00
0.90
0.91
0.96
1.00
0.90
0.95
0.80
1.00
0.79
0.96
0.97
0.86
0.93
0.87
Wilshire
5000
Value
Line
Russell
2000 NYSE
1.00
0.94
0.88
0.99
1.00
0.97
0.91
1.00
0.83
1.00
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Many different averages
• Dow averages (DJIA)
• S&P indexes (500)
• Russell indexes
• Four differences
• What market?
• What types of stock?
• How many stocks?
• How computed?
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Price-weighted index
• Stocks held in proportion to share price
• DJIA
• Value-weighted index
• Stocks held in proportion to total company market value
• S&P 500
• Index staleness
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Major Stock Indexes
Index
DJIA
S&P Composite
NYSE Composite
NASDAQ Composite
Value Line Composite
AMEX Index
Russell 3000
Wilshire 5000
* approximate
No. of Securities Construction
30 Price-weighted
50 Market-value
1,700*
4,500*
1,600*
Market-value
Market-value
Geometric
1,000*
Top 3,000
7,000*
Market-value
Market-value
Market-value
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

• Suppose we have the following
Price per share
# shares outstanding Beg. Year End Year
Worf Co.
100 million $10 $ 9
$25 Dax Inc.
10 million $20
How did the market do for the year?
• Price weighted: $15 to $17, or 13.33%
Beg.= (10+20) / 2 = $15; End = (9+25) / 2 = $17
• Value weighted: $1.2B to $1.15B, or -4.17%
Beg. = [(100 M x 10) + (10 M x 20)] / 2 = $600 M
End = [(100 M x 9) + (10 M x 25)] / 2 = $575 M
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

A splitting headache………
• Suppose Dax splits 4-for-1
• Price falls to $5
• Shares go to $40 million
• Value weighted index not affected
• Finding the new divisor
• ($10 +$5)/d = $15, so d=1, down from 2.
• DJIA divisor at 0.19740463 in 1999
• Which is better: price or value?
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Problem
Suppose there are only two stocks in the market and the following information is given:
Black Co.
Scholes Co.
Shares Price per Share
Outstanding Beg. Of Yr.
End of Yr.
200 M $30 $39
50 M $80 $140
Price weighted = (30 + 80) / 2 = $55 at beginning of year
Price weighted = (39 + 140) / 2 = $89.50 at end of year
Change = (89.50 - 55) / 55 = 62.73% increase
Value weighted = [(200 x 30) + (50 x 80)] / 2 = $5,000 M
Value weighted = [(200 x 39) + (50 x 140)] / 2 = $7,400 M
Change = (7,400 - 5,000) / 5,000 = 48% increase
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Problem
Suppose the following 3 defense stocks are to be combined into a stock index in January 1998 (perhaps a portfolio manager believes these stocks are an appropriate benchmark for his or her performance):
Price
D M
Shares (M) 1/1/98
150 $60
1/1/99
$75
1/1/00
$60
D G
I R
750
300
$20
$40
$25
$35
$40
$35 a. Calculate the initial value of the index if a price-weighting scheme is used.
b. what is the rate of return on this index for the year ending
12/31/98? For the year ending 12/31/99?
c. What is the total return on this index over the 2-year period
1998 and 1999?
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Problem Solution
A. 1/1/98: Index value = (60 + 20 + 40) / 3 = 40
B. 1/1/99: Index value = (75 + 25 + 35) / 3 =45
1998 return = (45 - 40) / 40 = 12.5%
1/1/00: Index value (60 + 40 +35) / 3 = 45
1999 return = (45 - 45) / 45 = 0%
C. Total 2-year index return = (45 - 40) / 40 = 12.5%
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Problem
In this problem, suppose that DM shareholders approve a 5 for 1 stock split on 1/1/99. What is the new divisor for the index? Calculate the rate of return on the index for the year ending 12/31/99. If DM’s share price on
1/1/00 is $12 per share. What is the total 2 year return on the index now?
D M
D G
I R
Shares (M)
150
750
300
1/1/98
$60
$20
$40
1/1/99
$75
Price
1/1/00
$60
$25
$35
$40
$35
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

Problem Solution
Share price after split = $75 / 5 = $15
Index value on 1/1/99, without the split is
Index = (75 + 25 + 35) / 3 = 45
New divisor: (15 + 25 + 35) / d = 45 so d = 1.667
Index value on 1/1/00 = (12 + 40 + 35) / 1.667 = 52.2
1999 return = (52.2 - 45) / 45 = 16.0%
Total 2-yr return = (52.2 - 40) / 40 = 30.5% based on 1/1/98 index of (60+20+40)/3 = 40
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC

NYSE & NASDAQ Web Tours
Compaq Case Study
• www.nyse.com
• www.nasdaq.com
• www.nextrade.org
• Compaq Case Study
04/12/01 GS: Equity Module, Session
6 Copyright 1997-2001 Marshall,
Tucker & Associates, LLC