This article originally appeared in the TDV April 2021 Issue.
In March 1792, a group of 24 prominent stockbrokers secretly met to form a club, agreeing to trade in stocks only with fellow members and fixing trading commissions for their customers. The Buttonwood Agreement, as it was called, eventually became the New York Stock Exchange.
Although the NYSE stockbrokers (“members”) were banned from trading at other exchanges, they were free to trade on The Curb. The Curb, as it was colloquially called, simply referred to trading activity that took place on the streets, in public spaces. Because transactions took place on the open streets and not at any designated space, the NYSE members could claim that they weren’t really breaking any exchange rules by participating in the Curb market. Many prominent companies such as Coca Cola, Rockerfeller’s Standard Oil, Phillip Morris and Shell first started out trading on the Curb, before moving over to the NYSE.
Meanwhile, with the invention of the ticker tape, “bucket shops” sprang up across the country. While otherwise similar to actual exchange brokers, the proprietors ‘bucketed’ trade slips, i.e. took the other side of their customers’ trades without actually executing orders on the NYSE. By not charging hefty commissions, providing margin to clients on better terms than the regular brokers, they actually started gaining market share and some speculators even preferred trading at these tiny establishments because of the advantages. Famous stock speculator Jesse Livermore got his start at the bucket shops.
The NYSE eventually got around to using its dominant position in the securities market to clamp down on its competition, using a mix of propaganda and government action to end trading at the Curb and the bucket shops. By the 1920s, bucket shops were made illegal, and the Curb was organized into a formal exchange, which later became the American Stock Exchange (ASE). With the establishment of the SEC in 1934, the stock market has only been more tightly controlled with each passing year.
However, stock trading began to lose market share as other innovations took over to grow the overall securities trading market. The futures markets rose in prominence as freely floating currencies and the monetary expansion caused by the Federal Reserve led to new financial instruments being created and traded. Ray Dalio, George Soros, Druckenmiller et al. made their billions trading in these markets, which eventually became a multi-trillion dollar industry incorporating swaps, hedge instruments and a plethora of over-the-counter derivatives.
Not for the layperson though. You have to at least be a millionaire and SEC accredited investor if you want to play in the big boys’ league. Even then, good luck getting a prime brokerage account if you don’t have at least $50 million to start a fund. Then there’s compliance, paperwork, accounting, lawsuits, a whole host of other risks stemming from how tightly regulated the financial industry is.
Crypto has started to change that.
The rise of crypto exchanges made it so anyone could trade and avail margin. Tokenized stocks on exchanges such as Bittrex and Uphold are bringing the functionality of traditional stockbrokers to the crypto world. Decentralized exchanges and automated market makers are taking over some of the functions of centralized exchanges and broker-dealers, eliminating the need of a custodian, and creating a better clearing system governed by open source code. Derivative trading platforms such as Kwenta, using price feed from Chainlink oracles, are creating an alternative market for trading mainstream assets. Aspiring hedge fund managers can create their own strategies, set their own fee structure and attract capital on a platform like dHEDGE without having to file any paperwork or wait months and months for a bureaucrat’s approval. If innovation continues along these lines, we may well see a future where the traditional brokerage account becomes an anachronism.
The SEC will file lawsuits against the crypto innovators, alleging securities fraud or any number of violations. They don’t even need to make the charges stick to drive fear in the market. There will be FUD. Even bitcoin was declared dead 404 times before it became mainstream to talk about it as an inflation hedge and a digital asset in its own right. But in my opinion, the legacy system is now fighting a losing battle. Crypto innovation cannot be stopped. It’s only a matter of time before some part of traditional Wall Street breaks ranks and buys into the crypto ecosystem. We are already seeing this happening.
In 2011, Marc Andreessen wrote in Why Software is Eating the World (highly recommended read):
“Six decades into the computer revolution, four decades since the invention of the microprocessor, and two decades into the rise of the modern Internet, all of the technology required to transform industries through software finally works and can be widely delivered at global scale.”
Seven decades in, and software is now competing to become money as financial products are being trustlessly delivered at a global scale. Banks, brokerage firms, custodians, clearinghouses, the entire infrastructure of traditional finance can be made irrelevant as the crypto ecosystem grows and open source code takes over all these functions.
This is the future.