Regulation of the New York Stock Exchange
and the New, New Thing


This is a good time to note that, during the time the Grasso compensation was being vetted on Wall Street and in Washington, the U.S. Congress passed the Sarbanes-Oxley Act, effective in 2003, a significantly comprehensive corporate reform package brought on by the financial scandals that had already occurred in corporate America (such as Enron and WorldCom). Not much of that touched Grasso and the not-for-profit NYSE, but the simultaneous discussion compounded the public impression of scandals throughout the country, especially relating to excess executive compensation.

The NYSE is literally under the control of the SEC but, with SEC permission and acceptance, operates as a self-regulated organization (SRO), with a board -- consisting primarily of individuals representing member firms -- and a “consulting board” (see the annual report in the eLibrary)

After somewhat lengthy discussion, on January 1, 2006, the NYSE and Archipelago Holdings, Inc.were formally merged to continue business as NYSE Group, Inc. The NYSE became a for-profit firm with a unanimous vote of its members. (In February, the SEC approved these changes) Friday, December 30, 2005, was the last day that Big Board memberships could be bought or sold. “The memberships – also called seats because traders once sat in numbered seats” – are no longer available.

Electronic trading began on October 3, 2006, on the New York Stock Exchange, although not all stocks were traded electronically. Under John Thain’s leadership, the exchange began to shift. A headline in November 2006 noted “NYSE to Sweep Away 20% of Floor,” suggesting a smaller need for space.

The “New, New Thing” in the title of this section refers to a new approach to regulation*. The New York Stock Exchange was never to be the same. One thing that changed was the way it would regulate as an SRO. But has the world of financial securities changed significantly?

While Grasso was at the NYSE, there were two parts of NYSE. One part handled the trading. The second part was NYSE Regulation, Inc., also a not-for-profit corporation, “dedicated to strengthening market integrity and investor protection.” As such, it was permitted by the SEC to provide regulation on the Exchange.

After the merger, when NYSE became NYSE Group, a for-profit corporation, the regulation continued but the organization was altered. The NYSE Group, Inc. operated then with two wholly-owned subsidiaries: NYSE Market, Inc., a Delaware-registered corporation, and NYSE Regulation, a New York Type A not-for-profit corporation.

The NYSE had been a not-for-profit organization since its inception. In 2006, with the NYSE-Archipelago merger, it became for-profit. It was listed on the NYSE as “NYSE Group, Inc.” Archipelago Holdings had the capacity for electronic trading and the NYSE began to combine that strength with its own specialists trading system.

A NYSE Web site describes the structure of regulation created when NYSE and Archipelago combined:

This organizational structure preserves and extends the separation yet pervasive communication between business and regulatory activities achieved under the NYSE’s previous governance architecture that was comprehensively reformed in 2003.  It also seeks to insulate NYSE Regulation from the additional crosscurrents created by public ownership.

The chief executive officer of NYSE Regulation has primary responsibility for the regulatory oversight of NYSE Group and its exchange subsidiaries, and reports solely to the NYSE Regulation board of directors. 

NYSE Regulation’s board of directors is to be comprised of:

Five directors with no affiliation to NYSE Group board nor any listed company or member organization;

Three directors who are also NYSE Group directors;

And one management director who serves as the chief executive officer of NYSE Regulation. 

NYSE Group’s chief executive officer does not have a seat on the NYSE Regulation board, nor will Regulation report to him.

NYSE Regulation employed over 700 people.  The organization was intended to perform regulatory responsibilities for the New York Stock Exchange and NYSE Arca.

Regulation Inc. (of the NYSE) was intended to be independent in its decision-making. It had a board of directors comprised of a majority of directors unaffiliated with any other NYSE board. Each director must also be independent from member organizations and listed companies.

But, on November 28, 2006, the NYSE Group, Inc. and NASD announced they had signed a letter of intent to consolidate their member regulation operations into a new self-regulatory organization (SRO). This consolidation is intended to create a private sector regulator for all securities brokers and dealers doing business in the United States.

NASD Chairman and CEO Mary L. Schapiro will serve as CEO of the new combined organization, as yet unnamed, which will be responsible for regulatory oversight of securities firms, arbitration, and for, among other things, the professional training, testing and licensing of registered representatives, and of industry utilities like NASD's Alternative Display Facility, OTC Bulletin Board, and Trade Reporting Facility.

Highlights of the SEC announcement on NYSE/NASD regulatory organization include:

The new SRO** will be responsible for all member examination, enforcement, arbitration and mediation functions, as well as all other current NASD responsibilities, including market regulation by contract for NASDAQ, the American Stock Exchange, the International Securities Exchange and the Chicago Climate Exchange. NYSE Regulation will continue to oversee the NYSE market, through its market surveillance division, related enforcement functions, and listed company compliance.

A 23-person Board of Governors will oversee the new SRO's activities with 11 seats held by Public Governors. Large firms, consisting of 500 or more registered persons, and small firms, consisting of 150 registered persons or fewer, will each be guaranteed three seats on the new SRO Board. Medium sized firms with 151-499 registered persons, NYSE floor members, independent dealer/insurance affiliated firms, and investment companies will each be guaranteed one seat on the new organization's Board. The Chairman and the CEO will also serve on the interim Board.

Upon closing of the transaction, each NASD member firm will receive a one-time payment of $35,000 in recognition of anticipated cost savings that will result from the implementation of the plan. Certain member fees also will be reduced for a period of five years.

This transaction is structured to be financially neutral to NYSE Group shareholders.

"NASD and NYSE Regulation recognize that world markets and regulation are changing," said Schapiro. "Rather than stand by and let events overtake us, we have chosen to lead and help shape a better system of regulation that is good for investors and securities firms of all sizes will have the opportunity to voice their opinions and make their concerns known.

“The NASD-NYSE plan is a good one on its own merits, and it offers the industry an important, and perhaps its only, opportunity to shape its own future. The SEC can't allow the current self-regulatory system to continue as is. With the SROs and the industry taking the lead, the need for a governmental solution is eliminated, and that's always a preferable course.”


WASHINGTON (MarketWatch) -- The chairman of the Senate Banking Committee questioned Thursday whether the new, for-profit New York Stock Exchange will emphasize self regulation as much as profit making.

"While there have been changes in the exchange's governance structure, questions remain as to whether robust and vigorous self-regulation will be subordinated to profit-making activities," Sen. Richard Shelby, R-Ala., said in an opening statement prepared for a committee hearing.

The hearing is a review of self-regulatory organizations like the NYSE Group Inc.


.. The NYSE Group CEO John Thain and NASD Chairman and CEO Robert Glauber are testifying.

Thain emphasized it's in the exchange's interest to have a tough regulator.

"Those of us running the business side of the exchange have every incentive to ensure that the regulatory oversight of our listed companies, member organizations and trading platforms is robust," he said in written testimony.

Shelby on Thursday also said he's concerned about duplication of regulations on NYSE and NASD member firms. Almost 200 firms are members of both, he said.

"That means two sets of rules, exams, interpretations, enforcement, and fees," Shelby said. "This dual structure for broker-dealers raises questions relating to whether the higher regulatory costs can be justified."

Thain told committee members the NYSE and NASD are planning to report to securities regulators within one year about plans to eliminate inconsistent rules.

Meanwhile, Glauber told senators the NYSE and NASD should jointly regulate firms that are members of both organizations. Such an arrangement, he said, would lower compliance costs for firms.

"These savings could then be passed on to investors, while the regulation of these firms would be more coherent, effective and efficient," he said.

The hearings came one day after the public-trading debut of the NYSE Group. Shares surged 25% in the first day of trading. “The old NYSE regulation resulted in a good deal of manipulation and favoritism during the Grasso days and became a special concern of Attorney General Eliot Spitzer, who has been quoted as saying: “self-regulation is no regulation at all.”

If regulation at the NYSE has changed, it is no longer officially under the control of the NYSE CEO (which was Grasso). Still, it does not appear “independent” of the NYSE nor has it changed the world (as a new new thing).

Look at the latest Annual Report of the NYSE to see how Regulation Inc. is organized. Does it appear independent? How would you change it? (Make a note of the definition of “independent” you are using.)

A joint statement by William H. Donaldson and Harvey L. Pitt, both former heads of the SEC, expressed their opinions that, although self-regulation of the NYSE was a good idea for some time, it had become “outdated and inefficient.” Their explanation includes:

“More than merely eliminating redundancy and attendant costs, the new SRO structure will make meaningful contributions to enhanced regulation. The significant knowledge, experience and expertise of broker dealer regulation that now resides in two separate organizations will be consolidated and housed in one. Rule writing, examination and enforcement will be enhanced, and information sharing, which is an important factor in effective regulation, will be improved.

“The plan also addresses the important issue of governance. A majority of the new organization's Board of Governors will be from outside the industry, a check and balance critical to ensuring that investors' interests will be protected. At the same time, the governance structure of the new SRO also promises fair and balanced industry participation, thus assuring that the board's decisions will be informed by the views and insights of all segments of the industry. ..”

* The term comes from a book by Michael Lewis.  Lewis, Michael 2006.  The New New Thing, A Silicon Valley Story. New York: W.W. Norton & Company.  page 15:  "The new new thing is a notion that is poised to be taken seriously in the marketplace.  It's the idea that is a tiny push away from general acceptance and when it gets that push, will change the world."

** Recall that SRO stands for "self-regulating organization."  SROs are sometimes considered equivalent to the federally-related Fannie Mae and Freddie Mac, which are GSEs, or governmentally-sponsored enterprises.  For clarification and to help distinquish between SROs and GSEs, we have included in the bibliography FNMA and OFHEO, which are major studies of these two GSEs.