Stock exchanges don’t own shares. Rather, it serves as a venue where buyers transact with stock sellers. Stock can be traded on one or more several possible exchanges, like the New York Stock Exchange (NYSE).

The main function of a stock exchange is to provide liquidity. Stocks become available on an exchange after the company finishes its initial public offering. During the offering, the company sell shares of the first public shares to buyers.

Auction Exchanges

The NYSE is the best example of an auction-based stock exchanges. This means specialists are physically present on the exchange’s trading floor.

Each specialist is under competitive threat by electronic-only exchange claiming to be more efficient by getting rid of human intermediaries.

The NYSE is also the biggest and most prestigious stock exchange in the world. Companies that are listed on the NYSE gain great credibility. That’s because getting listed means they meet the initial listing requirements and also comply annually to the exchange’s maintenance requirements.

Electronic Exchanges

The best example of an electronic exchange is the NASDAQ. Electronic exchanges are also sometimes called “screen-based” because buyers and sellers are connected only by computers over telecommunications networks.

Market makers, or dealers, or sellers, carry their own inventory of the stocks. They are always ready to buy and sell NASDAQ stocks while being required to post their bid and ask prices.

NASDAQ also has listing and governing requirements just like the NYSE. There is a minimum stock price to be met, and if the company fails to maintain requirements, it can be delisted to one over-the-counter market.

Electronics Communications Networks (ECNs)

ECNs are under an exchange class called the alternative trading systems (ATS). ECNs provide direct connections between buyers and sellers.

And since they allow direct connection, ECNs forgo the market makers. You can consider them as an alternative to trading stocks listed on the NASDAQ, as well as other exchanges, though not to the same extend.

There are several innovative and entrepreneurial ECNs. They are generally good for customers since they spur competition against traditional exchanges. Therefore, they help in pushing down transaction costs.

At present, ECNs don’t serve individual investors yet. They serve mostly the interests of institutional investors.

Over-the-Counter (OTC)

Over-the-counter (OTC) are markets other than the organized exchanges that are discussed above. In general, OTC markets list smaller companies. Often, these companies have been delisted from the NASDAQ and have fallen off the OTC markets.

There are many individual investors who don’t consider buying from the OTC stock market because of the extra risks they have to shoulder.

On the flipside, there are strong companies that have intentionally switched to OTC markets in order to avoid administrative burden and expensive fees that come with regulatory oversight.

Of course, you should be careful when investing in the OTC market if you do not have the experience. Several penny stocks trade OTC.

The two OTC markets now are:

• The OTC Bulletin Board, which is an electronic community of market makers. Companies that fall off the NASDAQ often end up in this market.
• The OTC Pink sheets, where companies are not required to register with the Securities and Exchange Commission.

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