Last Friday afternoon began a tense weekend for the New York Stock Exchange specialists, the exchange-floor functionaries who act as auctioneers and traders in stocks.
In the day's waning hours, a presidential commission studying the October stock crash released a report sharply criticizing--as well as praising--their performance during the market debacle. Simultaneously, a 140-point drop in the Dow Jones industrial index aroused fears that Monday's trading might bring a repeat of the landslide selloff of late October.
"There's nothing you can do on a weekend like that," said Michael Creem, specialist and partner in Mercator Partners of New York. "You worry, maybe you kick the dog a little, you try to get sleep and save your strength for Monday."
As it turned out, Monday's trading session was a mild one after a couple of bruising turns in the morning. But the coincidence of Friday's events seemed to add urgency to questions about how well the specialists acquitted themselves in October, and whether they are adequately prepared if anything close to a repeat of October recurs.
Under the New York Stock Exchange's specialist system, a single dealer is given the right to conduct the buying and selling of a stock or option on the exchange. In return, this specialist, or market maker, has responsibility for maintaining an "orderly" market by buying and selling from his inventory.
Since the crash, some critics have argued that some specialists did not have enough capital during the blackest hours of the crisis to act as buyer of last resort; this inability slowed trading in some stocks to a near-halt on Oct. 20.
Now the Brady Commission, which is named after Wall Street executive Nicholas F. Brady, its chairman, said its research revealed that some specialists were unwilling as well as unable to buy stocks as they should have to maintain orderly markets. The commission found that even as stock prices tumbled on Oct. 19, some specialists were selling more stock than they were buying.
The report found that specialists in 50 of the roughly 2,100 Big Board stocks sold more than they bought on Oct. 19, and thereby increased the downward pressure on prices.
The panel reported that some specialists also opened trading on Oct. 20 at prices that were unreasonably higher than Monday's closing price. The wide price gap contributed to the volatility of the trading that day, the commission asserted.
One specialist firm, Spear Leeds & Kellogg, last week gave up responsibility for J. P. Morgan & Co. stock to end a Big Board investigation of a price jump in the stock on the morning of Oct. 20. The firm had lifted what it asked for the stock to $40 that morning, from a closing $27.75 on Oct. 19.
The commission also found that specialists with responsibility for only 40% of the 31 stocks they studied fully lived up to their responsibilities to buy stocks and otherwise maintain an orderly market.
Still, the commission acknowledged that the specialists cannot be expected to buy stock indefinitely, and that they would not have halted the slide if they had bought many times the shares they did.
The report recommended that more study be given to the issue of whether the market makers should be required to maintain more capital.
The report said trading on Oct. 19 took such a financial toll that 13 specialist firms needed cash infusions before they could begin trading the next day. The commission didn't speculate on whether the loss of equity has weakened some firms and left them vulnerable if the market turns down sharply again.
Could Force Mergers
Richard Torrenzano, a vice president and spokesman for the New York Stock Exchange, denied that any of the specialist firms are at risk financially, saying they all have the capital resources required under rules set by the exchange and the Securities and Exchange Commission.
Some industry officials have speculated that another sharp drop in prices could force more of the specialists to combine with larger firms, as A. B. Tompane & Co. did with Merrill Lynch immediately after the crash.
The Big Board market makers were not alone in coming in for criticism. Echoing other critics, the commission said some over-the-counter market makers neglected their jobs--some simply by not answering their telephones. And they said that while it was difficult to judge the performance of options market makers, some of them also "did not play an important role in stabilizing their markets."
In their defense, the Big Board specialists contended Monday that the commission was holding them to an unreasonable standard in what had been an impossible situation.
Robert B. Fagenson, partner in the specialist firm of Fagenson & Co., said that by the commission's standards, a specialist could be criticized as a seller of stocks on Oct. 19 even though he bought millions of shares at declining prices, and lost millions of dollars in the process.
For example, a specialist might have started buying a stock at $50 a share, and bought it all day at declining prices, down to $40. "At the end of the day, some bargain-hunter might have bid $40.50 for the stock, and the specialist might have sold a lot of the inventory he's been accumulating," Fagenson said. The commission "would call that guy a net seller, even though he had lost a lot trying to hold up the market."
By selling a large block of stock at the price level, the market maker would actually be carrying out their job of stabilizing the market, specialists contend.
Disputes Panel's Method
Specialists said that some market makers who bid up stocks on the morning of Oct. 20 may have been simply responding to a bulge of buy orders that flowed into the market at the opening of that day's trading. "Naturally, the market would be up, and naturally the specialist who'd been losing money the day before would want to sell some at a higher price," said Creem, of Mercator Partners.
Torrenzano disputed the commission's method for determining whether specialists had fulfilled their duties of maintaining orderly markets. He said federal regulators and the exchanges have developed complex measurements to judge whether specialists lived up to their obligations, while the commission's methods were "simplistic."
"We don't think the standard they used is very relevant," Torrenzano said. "The specialists didn't do a perfect job, but they did a superb one."
The exchange is now conducting 15 investigations of the performance of specialists during the crash, according to the report. The Big Board is also reviewing its own rules on how much capital specialists must maintain to carry out their jobs, and other issues related to the specialists' performance, Torrenzano said.
The exchange has already relaxed rules to make it easier for securities underwriters to acquire specialist units, as Merrill Lynch did when it took over the distressed Tompane.
Dow Recovers, Part I, Page 1