The Evolution of Stock Exchanges

When investors discuss stocks, they mean those listed on major stock exchanges like the New York Stock Exchange (NYSE). It can be difficult for investors to imagine that the first stock exchange thrived for decades without a single stock being traded. The evolution of stock exchanges began in the Venetian states, settled in British coffeehouses, and finally ended with the NYSE and others around the globe.

The Merchants of Venice

The moneylenders of Europe traded debts with each other. In the 1300s, Venetian lenders would carry slates with information on the various issues for sale and meet with clients, much like a broker does in modern societies. A lender looking to unload a high-risk, high-interest loan might exchange it for a different loan with another lender.

These lenders also bought government debt issues. As the natural evolution of their business continued, the lenders sold debt issues to individual investors. The Venetians were the leaders in the field and the first to trade securities with other governments.

The First Exchange

Belgium boasted a stock exchange as far back as 1531 in Antwerp. Brokers and moneylenders would meet to deal with business, government, and even individual debt issues. The exchange dealt exclusively in promissory notes and bonds because, in the 1500s, there were no stock issues. Business-financier partnerships produced income like stock, but no official shares changed hands.

East India Companies

In the 1600s, the Dutch, British, and French governments provided charters to companies with East India in their names. Sea voyages that brought goods from the East were risky due to pirates, weather, and poor navigation.

To lessen the risk of a lost ship ruining their fortunes, ship owners sought investors to fund the voyage, outfitting the crew in return for a percentage of the proceeds. These early limited liability companies (LLCs) often lasted for only a single voyage. Investors spread their risk by investing in several different ventures simultaneously.

East India companies changed the way business was done. These companies issued stock that paid dividends on all the proceeds from all the voyages rather than voyage by voyage. These were the first modern joint-stock companies.

This allowed the companies to demand more for their shares and build larger fleets. The size of the companies, combined with royal charters forbidding competition, meant profits for investors.

The South Sea Company

The British East India Company operated with the competitive advantage of a government-backed monopoly. The budding financial boom in England came so quickly that there were no rules or regulations for issuing shares.

The South Sea Company emerged in 1711 with a similar charter from the king. Before the first ship ever left the harbor, the SSC had used its investor fortune to open plush offices in the best parts of London.

Encouraged by the success of the SSC, blind pools emerged to offer new shares in weak ventures, such as reclaiming sunshine from vegetables or nebulous companies with mysterious missions.

SSC failed when dividends failed to materialize on meager profits, highlighting the difference between these new share issues and the British East India Company. The subsequent crash caused the government to outlaw issuing shares, and the ban held until 1825.

New York Stock Exchange (NYSE)

The Philadelphia Stock Exchange was the first in the United States, but the NYSE quickly became the most powerful. Formed by brokers under the spreading boughs of a buttonwood tree, the New York Stock Exchange made its home on Wall Street.

The exchange's location supported business and trade coming to and going from the United States. With listing requirements and fees, the New York Stock Exchange became a wealthy institution.

The first stock exchange in London was officially formed in 1773, nineteen years before the New York Stock Exchange in 1792. However, the London Stock Exchange (LSE) restricted shares, and the New York Stock Exchange immediately traded stocks.

The NYSE faced very little domestic competition for the next two centuries. Its international prestige rose in tandem with the burgeoning American economy, and it was soon the most important stock exchange in the world. The Great Depression and the Wall Street bombing in 1920 left scars on the exchange. The bombing, believed to have been carried out by anarchists, left over 30 dead, hundreds were injured, and also scarred many of Wall Street's prominent buildings.

Nasdaq

The Nasdaq was developed by the National Association of Securities Dealers (NASD), now called the Financial Industry Regulatory Authority (FINRA). From its inception in 1971, it has been a different type of stock exchange. It does not inhabit a physical space, as with 11 Wall Street. Instead, it is a network of computers that executes trades electronically. The introduction of an electronic exchange made trades more efficient and reduced the bid-ask spread.

The Bottom Line

Exchanges first began as moneylenders bought and sold debt. As stock trading evolved, the Philadelphia Stock Exchange became the first in the United States. As of 2024, the NYSE and Nasdaq are the largest exchanges globally, ranked by total market capitalization.