President, Baruch College:
It is a special privilege for me to introduce the President
of The Nasdaq Stock Market, Alfred R. Berkeley, III. Al is quite
a person, I am told. I have never met Al except for a few minutes
ago, but I have it on great authority. I have spoken to Bob
Schwartz about Mr. Berkeley and he has given me some inside
information to share with you.
Going back to the 1970s, Al has been involved with technology.
I can put it in perspective in the following way: He was a visionary
with regard to technology when Bill Gates was still in high
school. While at Alex. Brown, he figured out how technology
is where you want to be and today it is understandable why Alfred
Berkeley is running the Nasdaq market.
Nasdaq, as a market center, makes heavy use of technology.
With regard to its listed companies, we read all the time in
the press about Nasdaq being the market that is laden with technology
companies. But it is not only technology. Al knows how to treat
the people around him. From what we have heard, his people really
appreciate it and deeply respect him for the dignity that he
bestows upon them.
Under Al's leadership, much emphasis has been placed on providing
information to shareholders about the Nasdaq-listed companies.
For this purpose, the Web is now being used extensively. Much
emphasis is now also being placed on openness, particularly
with regard to discussions about the Nasdaq market. Nasdaq has
reached out in its discussions with broker/dealers, buy-side
traders, and, I might say, to academics as well.
Without this openness, a day like today would not have been
possible. Nasdaq leadership not only endorsed this conference,
they not only provided funding for it, but they also let us
organize the conference with absolutely no intervention on their
part. They responded to our request for help, but they insisted
that this is our conference—without any kind of interference
This is remarkable. To have this openness and "hands off"
is something that we in the University community deeply admire
and respect. We have spent an entire day analyzing, debating
and, at times, criticizing their market in a public forum, and
we have done so with their full support of the process.
It has been excellent having Nasdaq with us at Baruch today.
We look forward to our ties with this market center strengthening
further in the future. Ladies and gentlemen, it is truly an
honor and a privilege for me to introduce Alfred R. Berkeley.
"Technology Curves, Innovation, and Financial Markets"
Alfred R. Berkeley, III
President, The Nasdaq Stock Market:
Having spent many years as a securities analyst and, more recently,
as a market operator, I am delighted to have this opportunity
to speak before people who have spent just as long studying
the markets we are running. I also want to thank Bob Schwartz
and the Zicklin School of Business, Baruch College, for putting
together this open forum on the pros and cons, not just of Nasdaq,
but of the entire engine for capital formation in the U.S. and
around the globe.
Let me start by telling you a little about myself. Before coming
to Nasdaq two years ago, I had spent 20 years at Alex. Brown,
including a couple of years running their back office operations.
I walked by the trading desk every single day and thought that
I knew everything there was to know about trading. After the
last couple of years at the helm of Nasdaq, I can tell you that
I didn't know much about it at all.
When I consider the steady stream of international business
and government leaders who visit Nasdaq these days, I am gratified
and often humbled by the trust that is placed in us. Very often
these visitors are looking to us for help in setting up an entrepreneurial
economy. They look to Nasdaq because we have become a beacon
of light pointing to free and open markets that invite competition
and reward risk-taking.
Recently, we were visited by officials from a South American
country that is trying to make the difficult transition from
military rule to democratic capitalism. They needed advice on
everything from bankruptcy and contract law to setting up a
securities market. We spent a lot of time coaching them on the
essential building blocks that have to be in place before someone
can pick up a phone and say "Yes, I'll buy 'x' million
dollars worth of 'y' for you" and do that sight unseen.
Completing that kind of transaction presupposes the existence
of a paperless, verbal marketplace, which is a very complex
So, there is a lot more to the wondrous engine of capital formation
than just the Nasdaq market itself. I'm sure that you have heard
a great deal about the parade of new issues that is coming before
securities markets. A few weeks ago Bob (Schwartz) and I were
talking about the possibility of Nasdaq positioning itself as
a sort of "Ellis Island of capitalism," and doing
so very proudly.
On that score, Baruch College and Nasdaq have a lot in common.
Baruch opens doors of opportunity for tens of thousands of people
who have a burning desire to succeed by living by their wits.
Similarly, at Nasdaq you don't have to buy a seat, but you do
have to take exams, which has incredibly important implications
for the type of markets we are creating. Let me describe just
a couple of these implications and their connection to the trading
initiatives we are working on now at Nasdaq.
What does it mean when a securities market has a limited number
of seats? What does it mean when your capital has to go into
your trading inventory? This is a simple but highly significant
hurdle for any new business. If Bob and I were to try to start
up "Berkeley Schwartz, Inc.," and try to find our
way into the order flow, we would have to contend with one very
basic reality. We would have to compete with dozens of other
firms that are already happily resident in the order flow. To
make ourselves heard above all the competition, we would have
to do something else. We'd have to innovate. It is the total
amount of innovation, compounded from all sides in an intensely
competitive market, that makes the difference. In any single
month, quarter, or year, it may not look like much innovation
is taking place in the market. But the overall effect of innovation
resembles the compound return you get on a savings account.
While it doesn't look like much in the short run, compound innovation
over time is an awesome force to be reckoned with.
When you look at America's financial markets, one place you
will find real innovation is in the trading technology arena.
Much of it is taking place under the Nasdaq umbrella. Innovation
is coming to us from electronic communications networks that
enter the Nasdaq quote montage as broker/dealers; innovation
is coming from software companies that are writing innovative
trading desk software to fit our computer system; and it's coming
to us indirectly from competitors that interface with other
It is this compounding of innovation that allows us constantly
to drive down costs and raise performance. Could Nasdaq afford
to do all of this by ourselves? Not at all! Like the structure
of the World Wide Web, where no single participant is dominant,
Nasdaq enjoys "network economics," which is like the
economies of scale of a phone book. The more telephone numbers
there are, the more useful it is to the customer. What has happened
since 1990 is that Nasdaq has reached "critical mass,"
in terms of the number of companies participating in our market
and the benefits we are able to offer them.
A number of large and very innovative companies, like Intel
and Microsoft, recognized Nasdaq's power of critical mass early
on, which led them to us. Not long ago, I asked leaders of these
companies why they stayed with our market. What they told me
was surprising, at first. They said they stayed with us because
they planned to get much bigger. I was stumped and asked them
to keep talking. They told me that the biggest markets in the
world-currency markets, government bond markets and oil markets—all
have the same structure as Nasdaq.
I hadn’t thought about it that way, but they were absolutely
right. The biggest global markets are organized around networks,
with a multi-participant structure, because that is the best
way to generate sufficient capital to provide liquidity.
The more I thought about it, the more sense it made-especially
when you applied it to Nasdaq's screen-based, competitive-dealer
structure. The fact is that technology develops along a curve;
it gets better over time and then peaks out. No matter how much
more is invested in it, performance does not improve.
For example, consider the growth curve of the eight-bit computer
chip. Companies kept trying to improve it, but beyond a certain
point it was essential to come up with a 16-bit chip. Once the
16-bit chip was introduced, it still had to overcome certain
disadvantages. The new chip had less functionality and lacked
an installed customer base and training infrastructure. Nevertheless,
the potential of the new chip to outperform the old one was
The same is true of securities markets. There are technology
curves at work in the way these markets operate that are very
important to understand. In 1972, communications technology
was such that there was no alternative but to trade in a physical,
paper-bound market centered in one place. But the technology
curve in trading has vastly accelerated-from the telegraph and
ticker tape machine, to telephones and high-speed computers
and communications networks. Today, even this technology curve
is starting to wear out.
The technology curve that Nasdaq is part of derives from the
1960s, when Dartmouth College came up with computer time-sharing,
which allows multiple users onto the same computer. This represented
a major challenge to the existing technology curve, and helped
propel Nasdaq into the age of screen-based, competitive-dealer
Guess what! We have pushed the existing technology curve about
as far as it will go and a new technology curve is on the horizon.
It is as threatening to Nasdaq’s trading technology as ours
was to its predecessor.
The easiest way to conceptualize the new trading paradigm is
to think of the World Wide Web. Its full significance is difficult
to appreciate because it is part of an adjacent technology curve—similar
in some respects to proprietary information services, but very
different in terms of its unlimited access to the market. When
markets move from an old technology curve to a new one, there
is normally a gap, and that can be startling at first.
At Nasdaq we know that we have to move to the World Wide Web.
We have developed a three-part plan with that in mind. The first
component rests with putting quotes on the Web, which we are
doing on a 15-minute-delay basis. Our Web site, Nasdaq.com,
is attracting a very large audience, averaging seven million
hits daily. Ninety to 95 percent of these hits are for stock
quotes. There is a huge pent-up demand for basic information
The second part of our strategy is to team up with Nasdaq Market
Maker firms to put order entry functions out on the Web. There
are roughly 20 companies that are now gathering orders over
the Web in one way or another. We expect to see that explode
over the next two years. There isn’t a significant broker/dealer
in America that doesn’t recognize the promise and the threat
that the Web represents to the existing order. The third piece
of this structure, which is further out on the horizon, is figuring
out if we need to move trading onto the Web. That possibility
already exists, because huge intranets are currently available.
You may have seen MCI’s advertisement proclaiming that they
run the largest U.S. intranet, spanning more than a quarter
of a million miles of leased network capability. That intranet
is Nasdaq. It has 6,000 trading terminals, and connects our
data vendors to 420,000 information terminals around the world.
This is an enormously significant network, because it reaches
virtually everyone who wants intranet access.
Having said that, what is Nasdaq doing to stay competitive
amidst the cataclysmic shifts taking place in the marketplace?
We strongly believe that the future belongs to the market that
is the low-cost provider. In other words, markets will follow
cost. They have in every other market, and they will in ours
as well. For that reason, we’re working on driving our cost
per transaction as far down as possible.
What's standing in our way? A major consideration is regulatory
assurance. We operate in a regulatory environment that is subject
to the Securities and Exchange Commission as well as Nasdaq's
sister self-regulatory organization, NASD Regulation. We are
working with regulators to come up with the right mix of change
and stability so that markets can continue progressing technologically.
The SEC’s request for comments on its Concept Release (pertaining
to the role of alternative trading systems as securities markets
rather than as brokers) is part of this evolutionary process.
The larger issue for our society is how to deal effectively
and fairly with the communications revolution spawned by the
microchip and the World Wide Web. This is difficult enough for
a market to deal with, much less a government that has to be
open and accountable to everyone. That is why the SEC is seeking
comments on the proper balance between current securities markets
and newer alternative trading systems.
What is the answer? Where should markets be heading? I have
asked that question of my staff as well as securities industry
participants. Simply put, the consensus at Nasdaq is "put
Now, a lot of people are cynical about that. But I have become
a fervent believer that we cannot make our market right for
anybody unless we can make it right for investors first. If
it’s right for investors, it will be right for the companies
that trade on our market; and if it is right for these Nasdaq-listed
companies, it will be right for Nasdaq Market Makers, namely,
the firms that buy and sell Nasdaq securities.
We have spent considerable time at Nasdaq discussing what "putting
investors first" really means. We have a strategic planning
group that has studied this thoroughly. We also brought in one
of the pre-eminent management consulting firms to help us understand
what happens when you put investors first. If you apply this
concept to all parts of your strategic plan, what alignments
In addition to what our studies told us, Nasdaq’s performance
this year has helped us answer this question. So far this year,
the pendulum has been swinging in favor of investors, in part
due to implementation of the SEC Order Handling Rules, which
has lowered their trading costs.
The SEC Order Handling Rules brought a tremendous flow of orders
into our quote stream, which gave us enormous liquidity, particularly
for our largest stocks. I can tell you, it is quite ironic that
"the little market that could," whose primary function
has been capital formation for entrepreneurs, has suddenly become
a market unlike any other for many of the America’s largest
For example, last week we traded 125 million shares for MCI
and WorldCom. That volume was for those two companies alone,
without a single market closing. There were no "order imbalances."
We now have a situation where the pendulum is swinging very
much in favor of the investor. So, where does that leave the
Market Makers? Can they still make a living balancing risk with
the reward? My answer is that Nasdaq has an important role to
play in answering that question. All markets have a very important
role to play in keeping transaction costs low so that investors
get the best price and the industry is still able to make a
The way to do that is by harnessing the incredible proliferation
of desktop computing power that characterizes this market. That
amounts to leveraging the "webbiness" of this market
to drive our volume higher and higher over this fixed base.
And we have plans to move to PCs so that we can cut the cost
of that fixed base very substantially.
In theory, there is no reason we cannot trade our 6,300 securities
on 6,300 PCs. With the right software, PCs have enough power
to get the job done. The machine I’m using right now to keep
track of my notes is more powerful than the one I used to run
all of Alex. Brown’s operations in the mid-1980s! That is hard
to believe, but it’s true.
The power of the PC gives us the leverage to drive down our
cost structure so that investors get very low trading cost,
and we will still have sufficient profit to build the facilities
and markets we need. What are these facilities, and how do we
know that they are the right ones?
I believe in listening to customers, because they will tell
you what they want. We did that at Nasdaq, and then looked to
see where people were voting with their wallets. In other words,
talk is cheap and trades are real! Where you find the growth
in trading, you will find what people really want.
We also looked at survey results. The surveys said that investors
want anonymity. They want a single integrated price discovery
execution and reporting system. In other words, "make my
desk less complicated." Customers are telling us that they
have all these functions to perform—finding the liquidity and
the price, negotiating, price reporting, and keeping track of
all these things.
In a nutshell, customers are telling us they want a central
limit order file. There has been a lot of talk today about limit
order files. It is in the Security Traders Association (STA)
survey. Customers want the ability to negotiate price. They
want maximum order influence. In other words, let’s get all
the interest in the stock available for people to deal in. They
want time priority and they want decimal pricing. But they are
also worried about Year 2000 issues. First, they want to take
care of those bugs, then they want to move on to decimal pricing.
There is too much risk in trying to manage both of these issues
at the same time.
After listening to customers, what did we decide to do? We
arrived at a value proposition that rests fundamentally on driving
cost down and functions up—which is what customers really want.
We have learned that if you provide customers with a certain
level of service today, they will want more tomorrow. You might
call that an inexorable law of today’s marketplace.
You cannot stay where you are in any business. The problem
at Nasdaq is that we have pretty much stayed put for the last
couple of years, and we need to innovate once again. We need
to take the check list that the STA developed for the entire
country and get it done. And that is what we want to do.
We have a rule filing that will be submitted shortly to the
SEC that essentially hits all the points on this list, except
for decimals. We hope we can implement our filing, because if
we don't make these innovations, someone else in an unregulated
You cannot stop progress, and we know that the world is not
going to stop for Nasdaq. If investors do not find these trading
functions at Nasdaq, they will find them somewhere else.
The changes we have made recently in our market have not been
without controversy. For all the strengths the order handling
rules have brought to the market, they have left a sense of
inequality in the Market Maker community. Many Market Makers
feel that they would rather be an ECN, or at least would like
to have one as an alternative.
The handwriting on the wall is clear. Either Nasdaq provides
these advanced functionalities, or others will. And if that
happens, it will fragment liquidity in the industry, which will
create a very different set of economics, one that adversely
As presently constituted, Nasdaq performs a valuable "utility"
function for the industry by bringing together the bids and
asks and putting out the trade report. We see that function
continuing, in addition to the other enhancements I have mentioned.
All in all, we are still seeing extraordinary growth in this
market. We are running about a hundred million shares a day
more than we ran last year. People ask "why?" I believe
it is because we have a better market than we have ever had
before. It comes down to Economics 101. Our market structure
makes it cheaper to trade. The liquidity is there and, therefore,
there is more trading. And we will continue to ride that technology
curve as we go forward. There is no standing still—not for Nasdaq,
or for anyone else in this industry.