Firms issue securities to raise the capital necessary to finance their investments. Investment bankers market these securities to the public on the primary market. Investment
bankers generally act as underwriters who purchase the securities from the firm and
resell them to the public at a markup. Before the securities may be sold to the public, the
firm must publish an SEC-approved prospectus that provides information on the firm's
prospects.
Already-issued securities are traded on the secondary market, that is, on organized stock
exchanges; the over-the-counter market; and for large trades, through direct negotiation.
Only license holders of exchanges may trade on the exchange. Brokerage firms holding
licenses on the exchange sell their services to individuals, charging commissions for
executing trades on their behalf.
Trading may take place in dealer markets, via electronic communication networks,
or in specialist markets. In dealer markets, security dealers post bid and ask prices at
which they are willing to trade. Brokers for individuals execute trades at the best
available prices. In electronic markets, the existing book of limit orders provides the
terms at which trades can be executed. Mutually agreeable offers to buy or sell securities
are automatically crossed by the computer system operating the market. In specialist
markets, the specialist acts to maintain an orderly market with price continuity. Specialists
maintain a limit order book, but also sell from or buy for their own inventories of
stock. Thus, liquidity in specialist markets comes from both the limit order book and the
specialist's inventory.
Nasdaq was traditionally a dealer market in which a network of dealers negotiated directly
over sales of securities. The NYSE was traditionally a specialist market. In recent years,
as ECNs have commanded a greater share of trading activity, both exchanges have
increased their commitment to electronic and automated trading. Most trades on Nasdaq
today are electronic, and the NYSE has increased its electronic capabilities, including an
expansion of Direct+.
Trading costs include explicit commissions as well as the bid–ask spread. An ongoing
controversy among markets concerns overall trading costs including the effect of spreads.
The NYSE argues that it is often the cheapest trading venue when quality of execution
(including the possibility of price improvement) is recognized.
