"As a specialist, your job is to maintain a fair and orderly market under all conditions, and the companies are very concerned, when the market goes down, how you participate. They aren't too interested how you participate on the way up, but they wanted you to be there on the way down."
In 1949, the United States economy entered its first bull market since the 1920s. The New York Stock Exchange was ready to fuel the accelerating engine of American finance. That autumn, the NYSE advisory committee further undercut the commission brokers by requiring that all governors spend "a substantial part of their time on the floor." Unable to do so, commission brokers were forced to resign. The board was then expanded to 33 members, and committee appointment power was vested in the chairman. These initiatives went unchecked by the SEC.30
Americans, impressed by the wartime economic miracle and the postwar consumer boom, gave great latitude to business and little attention to regulation. It was during this golden age of corporate capitalism that the NYSE hired former college president G. Keith Funston. While Funston tried to recapture the individual investors who had left in 1929, a very different clientele was mounting a new challenge to the exchange. Increasingly, middle-class Americans were turning to mutual funds instead of owning stocks directly. Others were beneficiaries of corporate or government pension plans whose funds were invested in the stock market. By the end of the 1950s, these new institutional investors accounted for one-fifth of exchange transactions.31
As a rule, NYSE specialists never had deep-enough pockets to handle large institutional orders. Big customers grew increasingly resentful at having to pay the same commission rates on large institutional orders as private customers did on small ones. As a result, more institutional business went onto the over-the-counter (OTC) market. By the 1960s, an entity dubbed "The Third Market" flourished by trading NYSE-listed shares on the OTC market. At no point did NYSE governors see a reason to accommodate the institutions.
Specialists, short on stock in a thin market and faced with sudden demand, had no recourse except to obtain shares over the counter. In 1948 the NYSE issued Circular 52 requiring exchange approval, often granted, for such transactions. By 1957, however, the practice had become so pervasive that exchange Rule 394 was promulgated to ban off-exchange transactions in NYSE stocks.32 Rule 394 (later renamed Rule 390) disadvantaged investors and had little purpose other than to prop up the exchange market structure. Although the SEC criticized the rule, it failed to take action against it.
Economic growth in the 1950s culminated in a late decade "tech stock" boom that broke decisively in 1961, just as a reinvigorated SEC began conduct of its landmark "Special Study of the Securities Markets." Although the study concluded that self-regulation appeared "to have stood the test of time," it confirmed that the NYSE tended to put self-preservation above the public interest and documented an "apparent reluctance...to impose disciplinary sanctions on floor traders." After the NYSE countered with its own study of floor trading, the SEC compromised, imposing on specialists an "affirmative obligation" to trade for their account or refrain from trading in such a way as to maintain a fair and orderly market.33
(30.) Seligman, The Transformation of Wall Street, 324; Sobel, N.Y.S.E., 183.
(31.) October 25, 1956 "America Embraces a People's Capitalism" - Remarks by G. Keith Funston before the American Chamber of Commerce in London ; Sobel, N.Y.S.E., 204, 209.
(32.) 1960s Rule 394 by Eugene Rotberg.
(33.) 1963 SEC Special Study of the Securities Markets, 557; February 1964 New York Stock Exchange Study of Floor Trading; June 8, 2007 Interview with Donald Calvin
(Courtesy of Stuart Kaswell; made possible through a gift from the family of Milton H. Cohen)
(Courtesy of the National Archives and Records Administration)
