Role of an Exchange: What Is a Stock Exchange?
Simply put, a stock exchange is a regulated venue where buyers and sellers trade stocks, otherwise known as securities. Exchanges provide liquidity, which is critical in giving investors and market participants the ability to buy and sell securities at fair market value.
Stock exchanges, like Nasdaq, are a key part of the capital markets as companies rely on exchanges for access to capital, while investors benefit from price transparency and the ability to manage their wealth in an open and safe environment.
In the U.S., the SEC licenses all national stock exchanges, which then operate as so-called “Self-Regulatory Organizations” or “SROs.” As an SRO, an exchange is charged with regulating its own activities, including both the companies that list on the exchange and the firms that trade on the exchange, subject to the SEC’s close oversight and supervision.
The SEC requires stock exchanges to publish rules that govern their operations, including listing and membership standards, order types and routing, trading conduct, and fees. The U.S. Securities and Exchange Commission or “SEC” reviews these rules to ensure that they are, among other things, just and equitable, protect investors, and serve the public interest.
Exchange rules and regulations are the backbone of the market because without them, price manipulation and other types of fraud would go unchecked, leading to inefficient markets and low investor confidence which would have a devastating effect on the overall economy. Exchange rules serve to provide investors with the ability to execute trades at the best prices while offering them important protections.
At Nasdaq, we take our role as an SRO very seriously. Our legal and regulatory group works with the SEC to write and amend the listing and trading rules. This group also is responsible for the listing and monitoring of the companies and securities listed on Nasdaq.
Listing of Securities: There are many types of securities listed on an exchange – everything from equity (e.g. common stock) to debt (e.g. corporate bonds) to structured products (e.g. Exchange-Traded Funds or ETFs) to options. Companies list on Nasdaq in order to provide an opportunity for capital raising through public ownership of the company, and their shares of stock become a security. Each type of security is subject to a specific set of listing requirements that need to be met in order to list (and remain listed) on the exchange.
Membership: When an investor places an order to buy or sell a security, their broker will execute the trade on the exchange by entering a quote into the system. In order to access the exchange systems, brokers need to be members of the exchange. Member firms are subject to rules that govern every aspect of their trading. Among other things, they must be well capitalized (in other words, they must have a deep reserve of money available for deployment) and have written procedures to prevent any activities that might be harmful to investors.
Surveillance: On average, approximately 1.9 billion shares are traded through Nasdaq markets every day, not including options. All of these trades are monitored to ensure that they are executing at fair prices. In order to do this, the surveillance teams at the exchange employ real-time surveillance technology.
The surveillance technology looks for trades that do not seem in line with previously executed prices. Trades can be cancelled or “broken” if the price is too far away from the existing market price. The surveillance team also monitors news that might lead to a drastic change in the company’s price and has the ability to halt trading in the stock, if the news could result in wide price swings (for example, if a car company announces a recall of their vehicles, or if a company files for bankruptcy).
Enforcement: Unlike the enforcement of rules for listed companies, when member firms or other market participants break or otherwise fall outside the rules, the exchange has its own enforcement team that is responsible for investigating and determining if fees or other punishments are necessary.
Future of the Exchange: As markets and technologies move forward, exchange regulation has to evolve to ensure investors are fully protected. In order to do this, exchanges must think of ways to employ the technology of today and look at trends to prepare to employ the technology of tomorrow. At Nasdaq, technologies such as Artificial Intelligence (AI) are already in use.
Nasdaq, Inc. intends for this website to serve basic educational purposes only. Information contained herein should not be construed as investment advice, either on behalf of a particular security or as an overall investment strategy. Neither Nasdaq nor any of its affiliates makes any recommendation to buy or sell any security or any representation about the financial condition of any company. Actual results may differ materially from those expressed or implied. Past performance is not indicative of future results. Nasdaq does not represent or warrant that any Investors should undertake their own due diligence and carefully evaluate companies and applicable laws before investing. ADVICE FROM A SECURITIES PROFESSIONAL IS STRONGLY ADVISED.