BOOMING BUSINESS

January 6, 1999

National Correspondent Phil Ponce reports on America’s booming electronic stock market, NASDAQ, where stock prices rose 39.6% overall last year.

PHIL PONCE: This is a place most Americans who follow the markets will recognize. The New York Stock Exchange - with its opening and closing bells and its large trading floor. But the NASDAQ exists nowhere. Buying and selling is done in cyberspace via a huge computer network headquartered in Connecticut. Trading began on the world's first electronic stock market in 1971. Since then, it's become one of the most popular stock markets in the world. Last year, it traded more 200 billion shares. SPOKESMAN: And look at the NASDAQ - up over 60 points right now - a huge gain - PHIL PONCE: While most Americans know little about the mechanics of NASDAQ, the exchange is getting more and more public attention, mostly because it's booming. NASDAQ's stock prices rose 39.6 percent overall last year, compared with 16.1 percent for the main index of the New York Stock Exchange, the Dow Jones Industrial Average. For four straight trading days the NASDAQ Composite Index has soared into record territory, closing today just under 2,321, up nearly 70 points or 3 percent of its total value. Nearly 5400 companies are listed on the NASDAQ, many of them computer firms, including Microsoft, Intel, and Apple. But it's more than just technology stocks. Northwest Airlines, Starbucks, and a host of medical banking and retail businesses were traded as well. PHIL PONCE: For more on the NASDAQ and its bull run we turn to Reena Aggarwal, Professor of Finance at Georgetown University's School of Business, and John Coffee, Professor of Securities Law at Columbia and an unpaid adviser to both NASDAQ and the New York Stock Exchange. Welcome both. PHIL PONCE: Professor Coffee, for those of us who don't follow this on a regular basis, maybe just some basic clarification, again, even though there is no physical site for the NASDAQ, it's as much of a stock market as the New York Stock Exchange, yes? JOHN COFFEE, Columbia Law School: Definitely. PHIL PONCE: And how does it work in plain terms? JOHN COFFEE: In very simple language, an electronic market that works off of a screen, maybe fifteen or twenty dealers in a particular stock, we'll put the prices at which they're willing to buy or sell a particular stock on that screen, and thus an investor gets immediate transparency. You can see the competing prices and immediately pick the most attractive broker with whom you wish to trade. PHIL PONCE: Professor Coffee, I don't know if the audience can tell - we might be having some audio feedback problems. Professor Aggarwal, for a person who's in the business of a person who wants to buy say Microsoft's stock, would that person - could that person tell the difference between - between the NASDAQ say and the New York Stock Exchange? REENA AGGARWAL, Georgetown School of Business: Not really. From an investor's point of view, whether you want to buy an Microsoft, or you want to buy an IBM, you still call your broker, and the broker tries to get you the best price, the best execution, or whatever you want to buy, from an investor's point of view, you want to buy. So from an investor's point of view they're not paying that much attention to exactly where is the stock trading, though there are some major differences between the way trading takes place on the New York Stock Exchange versus something like the NASDAQ markets. PHIL PONCE: Professor Coffee, what are those differences? What's the difference in the way the New York Stock Exchange does business and NASDAQ? JOHN COFFEE: Well, there's a functional difference. The NASDAQ market is a dealer market. That means every single transaction is with a dealer, a financial intermediary, who has to make a profit. On the New York Stock Exchange there is a specialist who works the role of an auctioneer and auctions off the stock to the highest buyer or seller. These are competing mechanisms, partisans of both sides think one is better than the other, but we have very active competition between these two kinds of markets for the listings of companies that are eligible for both. PHIL PONCE: Professor Coffee, just to make sure I understand, you say the New York Stock Exchange is more like going to an auction, whereas, the NASDAQ is more like going to a shopping center where the buyer can walk around and see where the best deal is? JOHN COFFEE: I think you can use that analogy. You're going to see fifteen or twenty different bids for your stock, and that gives you the equivalent of seeing a shopping mall, where there are ten different stores selling the same goods. PHIL PONCE: Professor Aggarwal, when one hears that the NASDAQ is up, what is up? REENA AGGARWAL: When you hear that the NASDAQ is up or the NASDAQ Composite Index is up, and if I have a portfolio of stocks, it's very hard for me to follow each stock individually, so my first sense is to try and see what is the market doing in general, whether it's the Dow Jones Average of the NASDAQ Index, it gives me a sense of the typical stock listed on NASDAQ, how did the market fare, how did that market do today. PHIL PONCE: So the NASDAQ Composite Index is what, is it basically an average of how all 5400 some stocks on the NASDAQ are doing? REENA AGGARWAL: That's right. But we should keep in mind it is an average but large stocks like the Microsoft and the Intels, they're the ones who are going to be driving that index more than some very small stocks. PHIL PONCE: And, Professor Coffee, speaking of individual stocks, a company will list itself with the NASDAQ or the New York Stock Exchange. You can't list on both, is that how it works? JOHN COFFEE: If it's eligible, it will choose between one or the other. The New York Stock Exchange has somewhat higher listing requirements. But there are many companies traded on NASDAQ that are eligible for either exchange and they make a decision and there's very active competition between these two market centers to try to get the most attractive stocks listed on them. PHIL PONCE: What's the benefit of getting - of one of the exchanges getting a company and why would another exchange want that company? JOHN COFFEE: Well, of course, brokers and dealers who trade on these exchanges make their profit through volume, through trading, and if you can only trade Microsoft on one exchange or the other, Microsoft may trade fifteen or twenty million shares in an active day, and that means that the brokerage commissions are going to go to the dealers trading on that market where Microsoft is listed. PHIL PONCE: And, Professor Coffee, is there some prestige to having a stock like Microsoft, a stock like Intel listed with a particular exchange? JOHN COFFEE: Well, definitely. I think essentially we're saying that you got to have product before you can sell something, and the listed companies are the products of the market center. PHIL PONCE: Professor Aggarwal, why are the NASDAQ stocks doing so well? REENA AGGARWAL: For several reasons. The stock market in the U.S. in general is doing well, and even though NASDAQ has stocks from many different sectors of the economy, but NASDAQ is quite concentrated in high-tech stocks, and we see right now the Internet boom has really taken off. This last Christmas season has shown exactly how this Internet market is going to take off, and many of these stocks are trading on the NASDAQ market, so they are contributing to the NASDAQ market, going up more than the Dow Jones Average. PHIL PONCE: Professor Coffee, some examples of some of those Internet stocks that have done well. JOHN COFFEE: Let me give you an example, and I think it states both sides of the problem. As we speak tonight, Amazon.com has a market capitalization of over $20 billion. PHIL PONCE: And excuse me. What does market capitalization mean? JOHN COFFEE: That's per share price times the number of shares outstanding. But $20 billion of this stock is being traded. The company has not yet made a profit, and that's the issue about whether or not there is a level of euphoria in some segments of the Internet stock market that is threatening to be a kind of bubble. PHIL PONCE: Professor Aggarwal, concerns about whether or not there's a bubble with the NASDAQ stocks? REENA AGGARWAL: Yes. To some extent I think there is, but I'm pretty optimistic on corporate America. I think inflation is well under check. Interest rates are extremely low in the U.S., and when I look around the world and see other economies around the world, the U.S. economy is doing extremely well. It's competing extremely well. So, yes, I am concerned a little bit about maybe there's a speculative bubble here, but in the long run I think the U.S. economy is poised to do well, and that's getting reflected in the stock markets. PHIL PONCE: Professor Coffee, what's the motivation? What are - what are people looking for the next -- the next what? JOHN COFFEE: Well, I'd have to tell you that we have to look at a very small component of this market, the Internet stocks. I think there are euphoric traders in this market that have very unrealistic expectations. In part, it's because there's been a tremendous reduction in the cost of trading, and we have a new animal, the day trader, an investor who may trade a single stock fifteen or twenty times in a day in and out, hoping to make a very short-term profit, and that does increase the volatility of some of these stocks, and we're seeing as a result very spiky movements, particularly in this strange sector of the Internet stock market. PHIL PONCE: And when you say day trader, is that like an individual consumer who has access to a computer? JOHN COFFEE: Exactly. Because today the costs of trading have been so reduced. An average citizen of modest means can get in front of a screen and trade at almost no cost to himself through on-line trading, and be in and out of that stock ten times in a day, and that does produce a new kind of volatility on an intra-day basis in these Internet stocks. PHIL PONCE: Professor Aggawar, what should the public keep in mind as we see these numbers keep going up and up and up, seemingly? REENA AGGARWAL: The public definitely has to keep in mind that the market does not go up by 30 percent every year, and in the 90's, markets are being really good, and there are lots of people up there who entered the markets in the 90's, and they haven't seen a big slump in the markets, and that's what I'm really concerned about. If everybody is putting all their 401-K money into the markets and they must realize there's a down side to the market. The market will go up, on average, over a long time period, but the market also goes down. PHIL PONCE: Professor Aggarwal, Professor Coffee, thank you both very much.