The Hindu Business Line : Now, that's an exchange

KEVIN stood in line at the college library's reference desk. Sandra, a pleasant and articulate woman, was answering questions to each one in the line.

It was Kevin's turn. "Hi! I am looking for some information on stock exchanges. Can I get some help?"

His muscular frame came in handy to carry the large volumes he randomly picked out from the aisle, which Sandra helped him locate.

That evening while waiting at the bus stop, Kevin spotted Sandra. She asked, "So, you are very much into financial stuff, huh?"

Kevin laughed. "Not really. I have a date this Friday, and I don't want to look stupid in front of a finance major."

She volunteered, "Well, I can give you some information while we wait here."

Kevin was amazed. "You would do that? Let me at least buy you some coffee."

She agreed, and they walked to a coffee shop.

Before she could start, he said, "I am your regular Joe, here. So can you explain this in layman's terms, please?"

She appreciated his frankness and continued. "You know eBay allows buyers and sellers to meet online. The seller starts the auction with a low price, and the buyer who quotes the highest price gets the product.

"eBay makes money by charging every seller something called transaction costs. So every time a product is sold, eBay makes money. For this fee, a seller can describe his product, and buyers can bid on it. eBay is quite popular because for sellers, it attracts the maximum crowd, as they can sell their items to customers around the world. Do you know why I'm talking about eBay, instead of stock exchanges?"

He smiled. "Haven't a clue!"

"Simple," she said. "If eBay's purpose is to buy and sell products, then a stock exchange is for public companies to buy and sell stocks. A stock exchange works exactly like eBay. A stock exchange houses various public companies' stocks, which can be easily bought and sold by the public. If a stock exchange didn't exist, then you would have to go to each company to buy and sell shares. This would make it very difficult for anyone to trade stocks."

Kevin joked, "Imagine buying household products without Wal-Mart or Target."

"Right," agreed Sandra. "A public company doesn't raise money just from banks, and whenever it wants to raise money from the public, it sells shares through an exchange."

Kevin tried to put it all together. "Let me see if I got this. The role of an exchange is like eBay. It houses both sellers and buyers for a stock. When a buyer and seller agree on a price, the transaction automatically takes place."

Sandra nodded. "Also, let me tell you how it is different from eBay. The exchange doesn't determine the stock price; instead, the supply and demand determine it. Let us assume you want to buy 100 shares of Home Depot. Home Depot shares are available in the New York Stock Exchange, the world's most popular stock exchange. So, you as a buyer cannot go to www.nyse.com and place your bid as you would for a product on eBay.

"Instead, this is a different kind of business, where more than one billion shares are normally traded in a day. NYSE cannot allow everyone to trade with them directly. They house specialists, whose job is to meet the low price from the seller and the high price from the buyer and create a match between them."

Kevin asked, "I assume each company represented in a stock exchange has its own in-house specialist whose job is to streamline the trade requests, and only they can directly engage in trading in NYSE?"

"Wow! You pick up fast," Sandra complimented Kevin. "Only a few companies have the direct trading rights with the exchange. It is like a fictitious scenario in which eBay would allow only certain firms to participate in the actual auction directly."

Kevin said, "I am impressed with your knowledge."

Sandra felt warmer and was more perked up by his compliments than the hot coffee she was drinking.

Kevin asked: "Now, as an investor, how do we buy and sell shares in the exchange? Is this where the brokerage firms come into the picture?"

"Exactly," said Sandra. "The brokerage firms have a special arrangement with the firms that do the actual trading in the exchange, and the brokerage firm is open for any investor. As an investor, you can either open an account with regular brokerage firms such as Merrill Lynch or with discount brokerage firms like www.scottrade.com or www.ameritrade.com.

"Once you open an account with a brokerage firm and place an order through them, it is routed to a specialty firm that oversees your order and makes sure that it is successfully executed. One major difference between buying and selling through eBay and a stock exchange is that when you buy something on eBay, you rely on the seller's ratings. If the seller has poor ratings, you wouldn't want to buy from him. If the seller has good ratings, you may buy from him, but if your goods don't arrive on time, you have to haggle with him," Sandra paused for breath.

"However," she continued, " when you are buying a stock through your brokerage firm, you don't even know who the seller is. The whole process is automated. As a buyer of a stock, you wouldn't know the seller, but the transaction would take place smoothly.

"Similarly, when you are a seller of a stock, the only thing you do is sell your stocks. It is the specialty firm's responsibility, not yours, to match your selling requests with a buyer. So your job is much simpler when you have to sell or buy stocks," she concluded and swigged the last of her coffee.

"Sandra, thanks so much for all this information and your time," said Kevin. "I owe you one."

Fate knew how to intervene, because Kevin's cell phone rang. "Excuse me," he said and took the call. "Hi! Can I call you back?"

He switched off the phone and turned to Sandra. "I, need to get going. Thanks so much for your help. I will talk to you soon. Bye."

He thumbed the numbers on his mobile as he walked towards the door. Sandra slouched back into her chair.

She might have knowledge about stock exchanges, but she didn't realise that an exchange had taken place in Kevin's heart. No one can blame her for not overhearing Kevin's call cancelling his date, because he fell hook, line and sinker for Sandra!

The authors are publishers of www.wisepen.com

Racy@thehindu.co.in

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