How Does the Stock Market Trading Floor Work?

Few images represent America’s stock market more than the trading floor, also known as the “pit.” But as busy and exciting as it looks, not everyone knows exactly what all those finance professionals are doing. The stock market trading floor has an environment similar to an auction, with floor brokers and floor traders gathering around specialists, where they negotiate prices until they arrive at an amount. An increasing amount of trading is done online, but the floor remains relevant.

How the Trading Floor Works

Trading floors aren’t unique to the New York Stock Exchange. In fact, you’ll find trading floors at the Chicago Board of Trade and in investment banks and brokerage houses. The general purpose of a trading floor is to give traders a specific place where they can buy and sell stocks and options.

Before the electronic era, trading relied heavily on these trading floors. However, today’s automation has replaced the need to trade in person and, in fact, much of the activity that happens each day on the New York Stock Exchange takes place at a data center located in the suburbs of New Jersey. The Nasdaq doesn’t have a trading floor at all, with all trading taking place electronically.

Open Outcry and the NYSE

At one time, all stock market trading took place using something called Open Outcry, which had traders communicating their trading information by crying out or using hand signals. It was similar to the communication you’d see in an auction, where traders raised a hand to raise their bid. To this day, any information communicated on the trading floor is considered a binding contract between the people who are present and the brokers and investors they’re there to represent.

Although Open Outcry still exists, most modern trading is done electronically, but you’ll still see plenty of traders milling about during regular market hours. Some have speculated that this is all for show, although many others argue that there’s still a need to have humans on the trading floor during those crucial hours. Being on the stock market trading floor gives traders an advantage since they see the market in action every day.

The Marketing Effect

Despite the shift toward electronic trading, experts still see many benefits in having a full trading floor every day. The people seen in the pit serve as the face of Wall Street, providing a visual for the evening news and making for exciting scenes in movies and TV shows. In fact, there is a bit of showmanship involved in the ringing of the opening and closing bells each day, as well as everything that happens in between.

In addition to traders, you’ll also find multiple media outlets present each day. Being in the heart of this goes beyond marketing. It helps traders feel as though they’re plugged into what’s happening with the market each day.

Trading Floor Roles

There are three types of people found on the trading floor:

• Floor brokers – These professionals are on the floor on behalf of their own clients, who are investors interested in making money through trading stock.
• Market makers – Banks and financial institutions generally occupy this role, which helps keep the market liquid.
• Floor traders – Unlike a floor broker, a floor trader is there to act on his own behalf, investing in stocks with his own money.

In some instances, floor brokers are also allowed to act as floor traders, investing using their own money as well as investments from their clients. In some exchanges, there may be rules against this. The New York Stock Exchange restricts floor brokers to trading only on behalf of the agencies they represent.

Floor Trader Requirements

Floor traders are not as common as what you may think based on the movies and TV shows that depict them. In fact, floor traders serve as a small fraction of the people found on the floor of the New York Stock Exchange each day. Before they can trade, generally they must pass a screening. With the National Futures Association, this includes completing an application, providing fingerprints and showing proof of training privileges from an approved contract market.

Due to the nature of trading today, floor traders are even rarer than they were in the heyday of the trading floor. Many individual traders choose the internet for their transactions. It’s predicted that floor traders are likely to become extinct over the next ten years.

The New York Stock Exchange

Stock market trading isn’t limited to the New York Stock Exchange. In fact, the NYSE is part of a network of exchanges that includes the Nasdaq. Each exchange operates similarly to an auction house, allowing buyers and sellers to negotiate prices, with trading ending at a designated closing time each day.

With stock market trading, supply and demand drive the prices that buyers offer and sellers accept. This, in effect, sets the price for each security, which is the number you see provided throughout the day. Technology handles most modern price-setting, with algorithms monitoring activity and delivering pricing information accordingly.

The NYSE Specialist

The people you see gathered on the floor of the New York Stock Exchange are interacting with someone called a specialist. Specialists work for NYSE specialist firms, and those firms oversee trading on the exchange. As with market makers, specialists work to ensure the market remains liquid, but the specialist plays a leadership role on the trading floor each day.

Specialists carry out four very important responsibilities on the floor:

• Auctioneer – The specialists not only set the opening price each morning, but they also work to make sure all bids and asks are reported accurately.
• Agent – As orders come in, the specialist accepts them and makes sure they are submitted on behalf of the brokers.
• Catalyst – With each specific stock, the specialist’s role is to ensure there is enough interest. In some cases, the specialist may even incite interest when it wouldn’t have existed otherwise.
• Principal – In order to ensure the market remains liquid, it is in the specialist’s best interest to keep the demand-supply balance in check. Sometimes this may even mean liquidating some of her own inventory to maintain market equalization.

NYSE and the Trading Floor

Few people are as interested in keeping the trading floor relevant as the New York Stock Exchange itself. The exchange offers incentives in the form of rebates to businesses that put humans on the floor. This keeps stock market trading from becoming something limited to computers and data centers.

Being on the floor of the New York Stock Exchange at closing time is advantageous for brokers, as well. The final listing price at the closing bell is the day’s official trading price and by being there, those brokers get the right to trade during that auction. They have to pay more for that privilege, but experts believe passive funds are driving an increasing amount of the day’s trading toward that final auction of the day. Brokers can pass that advantage on to their own clients.