The Anatomy of a trade
How data is making the U.S. stock market more open for all
For most Americans, financial security, or perhaps even financial freedom, is a shared ideal. And for many, the surest way to build wealth over time has been and remains investing in the U.S. stock market.
Investors like Warren Buffett, otherwise known as "the Oracle of Omaha," have famously leveraged the now estimated roughly $30 trillion total market capitalization of the U.S. stock market to profit handsomely.
But while advances in data technologies and online trading platforms like E*TRADE, Schwab, TD Ameritrade and Robinhood are making stock-trading easy, affordable, and near-instantaneous for the non-Buffetts of the investing world, many still find the stock market itself intimidating.
And that intimidation may prevent millions of Americans from taking advantage of one of the greatest wealth-creating engines in the history of the world.
To help alleviate any confusion, POLITICO Focus enlisted the help of The Nasdaq Stock Exchange, one of the world’s largest stock exchanges, to look behind the curtain and reveal how increasingly sophisticated data and data products—the lifeblood of markets everywhere—are empowering anyone with a smart phone to invest in the capital markets.
Part 1: Creating A Market
The millions of viewers who watch ABC's "Shark Tank" each week know there are countless aspiring entrepreneurs in the U.S. who believe their idea should be the next big thing. As those ideas become small businesses that mature into larger companies, owners and investors may decide to "go public" to raise money from new investors to fund new ideas and grow even further.
This milestone is known as an initial public offering, or IPO. The public offering is made by the company to initial investors through its underwriter, typically a bank. The company stock then opens for trading on an exchange such as Nasdaq, with the first trade occurring through an auction in which the initial investors can sell stock issued by the company to new investors.
From Idea to IPO
Companies need capital to invest and grow
The first quarter of 2018 was arguably the best for IPOs since 2015 and that momentum has continued into the second quarter. As of June 13, 2018, 100 companies - including Dropbox and DocuSign - came to market, raising over $27 billion in the process.
An exchange is simply a public marketplace where investors and their representatives can transact in publicly traded securities. Exchanges provide information—such as a stock’s current price—and other services that help buyers and sellers make informed trading decisions. Without exchanges, it would be much harder and more expensive for entrepreneurs and established companies to access the capital they need to fuel growth and create new jobs.
All told, there are fifteen U.S. stock exchanges for equities. Some are completely electronic, while others may run auctions on a more traditional trading floor, but all operate independently with the common goal of connecting interested buyers and sellers.
Part 2: Establishing Pricing
Once a market of companies, and a place for buyers and sellers to "meet" and trade with one another has been established, the prices at which stocks and other securities trade must also be established. Exchanges such as Nasdaq not only create the facilities to trade a stock, but also inform investors of the current value of a stock.
But with multiple exchanges potentially trading the same instrument, a natural question for investors arises: which price is "best"? That's where the consolidated securities information processors, or SIPs come in.
More than forty years ago, Congress and the Securities Exchange Commission mandated that the exchanges work together to send their trading information to central consolidators to provide a more complete view into market activity across all potential execution venues. This entity serves as an aggregator of trade and quote information across all U.S. exchanges. With the capacity to process approximately seven million messages per second, these SIPs ensure investors have access to the prevailing price of a stock at any given point in time—across all exchanges. This effectively creates a "national market" in the United States, while preserving a system of multiple exchanges that compete with one another to offer constantly improving services at competitive costs to investors and market participants.
Millions of orders are submitted to an exchange every second. The purchase and sale data from those orders is distilled down by the SIP to ensure investors receive the best available price for a security, irrespective of exchange.
To supplement the SIPs, the individual exchanges offer a variety of data products to the investing public that satisfy the varying and evolving demands of the growing global investor audience.
The Average do-it-yourself investor executes up to 20 trades a year using information that is most likely culled from exchanges like Nasdaq.
One common type of data product is the real-time feed of stock price information viewed when an investor tunes into one of the financial networks, or logs into their preferred financial news website in search of market insights. Most investors enjoy access to this market data without paying a fee.
Real-time stock price information scrolling on the bottom of a screen comes directly from exchanges' proprietary data services, fostering transparency and accessibility in the marketplace by allowing the general public around the world to access validated data in real-time with the click of a mouse.
Part 3: Mining The Data
When an investor logs on to his or her trade platform of choice, such as TD Ameritrade, he or she can get a much deeper view of the markets than the basic price information on a TV scroll. This so-called "depth of book" market data gives buyers full visibility into not just the current trading price of a stock, but also the underlying supply and demand for that stock, to enhance their trading strategies and anticipate volatility.
This "depth of book" information is produced by exchanges and packaged by distributors as easy-to-understand data products that provide both the sophisticated and ordinary investors alike the most robust view into what the public markets think about a given stock, or collection of stocks.
Best Bid =
Maximum price investor is willing to pay to buy
Best Ask =
Minimum sale price the seller will accept from the buyer
Difference between the two
The degree to which an asset or security can be quickly bought or sold in the market without affecting the asset's price
Part 4: Making the Trade
Armed with the right data, an investor might make the decision to place an order to buy 100 shares of a chosen stock. Once the order is placed, the buyer will receive confirmation of the order's execution—and so will the seller. But there's more than just a confirmation. The buyer and seller will also immediately see the impact that buying 100 shares has on the value of their brokerage accounts.
However, every investor's decision to buy or sell a security affects more than just his or her own portfolio. Each execution of a trade adds an additional data point to the assessment of a company's value and is an important piece in the mosaic of the markets, as those shares become part of the official record exchanges provide.
Market data products distribute that information back into the investment community to enable other potential investors to receive, understand, and interpret it for their own benefit when facing the decision of whether they too want to invest.
With countless systems, mechanisms, and information to sift through in the trade execution process, leading-edge data processing and innovation have become vital to the effective buying and selling of stocks.
With exchanges like Nasdaq promoting increased transparency and market access for all, consumers can make more informed decisions about investing. And as more and more great ideas become publicly traded companies each day, the opportunities for consumers to throw their conviction – and money – behind these ideas are growing. And the hunt for the next Alphabet or Apple marches on.