From J.P. Morgan to the Institutional Investor

A Financial History of the United States 1900–1970

Jerry W. Markham

• Publisher: Routledge
• Year: 2022
• Print ISBN: 9781032161105
• eBook ISBN: 9781000592429
• Edition: 1
• Topic: Business
• Subtopic: Economic History
• Index: Business

Originally published in 2002, this is the second of three volumes in a history of finance in America. This volume starts with the investment bankers who dominated finance at the beginning of the twentieth century. It then describes the Panic of 1907 and the resulting creation of the Federal Reserve Board (the 'Fed'). The volume then traces finance through World War I, and it examines the events that led to the stock market crash of 1929 and the Great Depression. From there it reviews the rebirth of finance after World War II and the growth of the institutional investor.

Chapter 1 A New Century

1 The Twentieth Century Begins

The NYSE

Two exchanges were dealing in securities in New York and seven in commodities at the beginning of the century. The commodity exchanges were incorporated, while the securities exchanges were not. The leading exchange in the city was the New York Stock Exchange (NYSE). Average daily trading volume grew from 1,500 shares in 1861 to over 500,000 by 1900. Annual trading volume increased from less than 80 million shares in 1897 to over 265 million in 1901. One million share trading days were occurring after the turn of the century, and 2 million shares were traded in a single day in January of 1901. That volume was not constant, however. Only some 329,851 shares were traded on July 3, 1901. Nevertheless, the overall picture was one of growth that required larger trading facilities. The NYSE entered temporary quarters at the Produce Exchange on Beaver Street in 1901 and in 1903 moved into a new building that cost $4 million. This was one of the first buildings in America to be air-conditioned. It contained 6 miles of pneumatic tubes, as well as almost 250 miles of wiring.

The NYSE was open from 10 a.m. until 3 p.m. Members moved from post to post on the floor to trade in whatever stock appeared active. Some members specialized in odd-lot orders of less than 100 shares. As trading activity increased, “specialists” in particular stocks began making a continuous market in those securities. The specialists traded for their own accounts and acted as brokers in executing customer orders. The specialist system did not follow the English method of separating the functions of brokers and dealers. This raised concerns of a conflict of interest on the part of the specialist and led to some abuses. Nevertheless, the specialist system provided advantages in creating a continuous market in securities, which might otherwise have been illiquid at times. Some members of the NYSE acted as floor traders. These individuals traded only for their own account and did not execute customer orders. The floor traders added liquidity to the market, but they were often involved in abusive trading practices. Among other things, floor traders were accused of moving prices up and down on the basis of their inside connections with officials of corporations whose stock was being traded on the exchange. Floor traders enjoyed a time and place advantage on the floor that gave them an edge over individuals entering orders from outside the exchange. The “outside operators” were handicapped by their location off the floor, and they had to pay higher commission rates than those available to members. These nonmember traders often ended up suffering “ruinous” losses, as did many “inexperienced persons” who acted on “tips” and other questionable market advice that usually resulted in losses.¹

Advertising by NYSE members at the turn of the century was restricted. Members were required to obtain approval before establishing telegraphic or telephone communications with nonmember firms. Bids or offers on the exchange were limited to variations of a minimum of one-eighth. Transactions on the NYSE could be settled “by cash,” which required delivery upon the day of the contract; “regular way,” where delivery was to be made on the following business day; “at three days,” where delivery was made on the third day following the sale; and at “buyer’s or seller’s option,” which required settlement of not less than four days nor more than sixty days. Interest at less than the legal maximum rate had to be paid on buyer and seller options contracts. Although the NYSE prohibited the buying or selling of “privileges” to receive or deliver securities, it allowed margins of up to 10 percent, which provided plenty of leverage to speculators.

Corporations were required to provide details of their financial condition in order to be listed on the NYSE. An “unlisted” department allowed trading in securities of corporations that refused to “furnish any substantial information as to their business and which, therefore, could not be admitted to the regular list.”² The Amalgamated Copper Company and the American Sugar Refining Company were two such unlisted securities. Those companies “were dealt in on the Exchange for many years without the public having any information regarding their affairs.”³ “They were in effect conducted and maintained as ‘blind pools.’ Those in control were thus enabled to more freely use their information for speculative purposes.”⁴ Another form of “pool” was operating in the securities markets at the turn of the century. This device was simply an organized effort by a group of speculators to manipulate the price of a particular stock. The pool operators would drive up the price of the stock through various maneuvers and would then sell the stock to unsuspecting investors at the inflated price. In 1900, Whiskey Trust security prices were manipulated by a pool managed by James Keene for Moore & Schley, a brokerage firm. Other pool activities were regularly reported in the newspapers. The Chicago Tribune, for example, reported in 1901 that a pool was operating in the securities of the Western Union Telegraph Company.

The Industrial Commission that was created in 1898 proposed federal legislation that would prohibit short selling. The use of “fictitious” trades designed to give a false appearance of trading activity was another concern. The pools often used “wash” sales—that is, orders entered to buy and sell the same stock by the same person—which created the artificial appearance of activity in the stock, attracting the interest of unsuspecting investors who then bought stock from the pool. The NYSE prohibited wash sales, but “matched” orders were permitted. Matched orders involved simultaneous buy and sell orders sent by the same person to different brokers for execution. The brokers would not know of the countervailing orders and would competitively execute the trades. Different brokers were used to avoid claims that the orders were wash sales and unenforceable. Nevertheless, the matched orders created an artificial appearance of activity and their manipulative effect was the same as a wash sale. Matched orders were used by underwriting syndicates in “stabilizing” transactions that were made during the distribution of the securities being underwritten. Such stabilizing transactions were needed to maintain the offering price until the market could absorb the new issue. Matched orders and orders given at increasing prices during the distribution were often used to manipulate the offering price upward in order to draw in the public at unrealistic prices.

The NYSE maintained control of its price information through the New York Quotation Co., which supplied member firms with NYSE price reports. The NYSE sold its quotations to a subsidiary of Western Union for distribution through ticker services that broadcast information throughout the United States. As stock ownership increased, the public came to depend on that information for the value of the securities being traded. It provided a measure of their liquidity and encouraged trading. “Listing on the New York Stock Exchange gives a security a wider market and a more definite current value, making it easier to sell and easier to borrow upon. In fact, securities are not generally available for collateral for stock-exchange loans unless they are listed.”⁵ The NYSE refused to list a bond issued by New York City because its bond certificates had not been printed by the American Bank Note Company. The New York Bank Note Company had been allowed to do the printing by the city because of a lower bid. The largest shareholder at that time in the American Bank Note Company was J.P. Morgan.

The Consolidated Stock Exchange

The NYSE continued its “bitter” war against the Consolidated Stock Exchange, which was trading in odd lots on NYSE-listed stocks. Prices on the NYSE were posted on a board at the Consolidated. Odd lots or small fractional lots were then traded at a premium or a discount over those prices. The Consolidated Exchange’s volume would reach about 45 million shares by 1909, when it had 1,200 members. The Consolidated’s trading volume was about 25 percent of that of the NYSE. The Consolidated Stock Exchange did little to provide capital for businesses. Rather, “it affords facilities for the most injurious form of speculation—that which attracts persons of small means.”⁶ The NYSE continued the ban on its members dealing with members of the Consolidated Stock Exchange. Like the Chicago Board of Trade, which was also facing competition from the Consolidated, the NYSE tried to drive the Consolidated Stock Exchange out of business by preventing it from having access to the ticker tape and quotations. That effort was frustrated because the courts were slow, at least initially, in enjoining such activity. Bucket shops, which were often linked to the Consolidated Exchange, remained a problem after the turn of the century. Some sixty bucket shops in Pittsburgh were using NYSE quotations for their betting operations in 1905. Later, in 1908, New York State enacted legislation that made the operation of a bucket shop a felony.

The Curb Market

The DuPont Company was an amalgamation of several companies that were the largest makers of gunpowder and dynamite. This consolidation was completed around 1903. The company was not allowed to list its stock on the NYSE because the Du Pont family held so much of the company’s stock. Pierre Du Pont then proceeded to have the stock traded as an unlisted security by investment banking firms in New York. Du Pont himself made a market in the shares of the powder company by placing standard orders at 100 to 102 for the company’s common stock and 92.25 for bonds and 89 for preferred stock. A growing market for securities in New York was the “curb” market on Broad Street. This over-the-counter market was an unorganized affair blocked off from the roadway by a rope, but trading often spilled out into the street and obstructed traffic. Some 150 traders were conducting business on the curb each day at the turn of the century. Their clerks and messengers swelled the crowd even further. Quotations on curb-traded securities were being printed in the newspapers. Some traders acted as specialists in particular securities on the curb market. The curb market mostly traded stocks that were not listed on the NYSE, and members of the NYSE were allowed to engage in curb transactions as long as the securities were not listed on the exchange.

The curb market had grown on the basis of a loophole in a NYSE rule that prohibited its members from engaging in transactions on any other securities exchange in New York. The curb market was not an organized exchange and therefore did not fall within this prohibition. The curb market was open during the trading hours of the NYSE because a great deal of the business on the curb exchange was the execution of orders from NYSE members. Other exchanges were also operating in New York at the turn of the century. They included the Coal and Iron Exchange, the Coffee Exchange, the Cotton Exchange, the Maritime Exchange, the Metal Exchange, the New York Insurance Exchange, the New York Produce Exchange, and the Leaf Tobacco Board of Trade of the City of New York. The latter entity sold tobacco to manufacturers of tobacco products. Commodity exchanges were growing in Chicago, and regional stock exchanges were providing alternative markets for securities in Chicago, Boston, Detroit, Cincinnati, Philadelphia, Pittsburgh, Baltimore, and Los Angeles. The regional exchanges initially traded in stocks of local corporations. For example, the Cincinnati Stock Exchange, which traces its origins to 1887, had specialized in trading stocks of corporations headquartered in southwestern Ohio and Kentucky. Later, the regional exchanges began trading on a more national basis.

Brokerage Firms

More brokerage and investment banking firms were appearing. In 1901, Ennis & Stoppani had lists of “desirable stocks and bonds” that could be obtained upon application. The firm additionally sold cotton and wheat. E.H. Rollins & Sons in Boston had a list of “high grade” municipal and corporate bonds for public investors. Farson, Leach & Co. offered guaranteed 4 percent Russian bonds that would mature in 1957. These bonds were payable in United States gold coin and were not taxable by the Russian government. In 1901, Vermilye & Co. and Hallgarten & Co. conducted an $8 million bond refunding for the Seaboard Air Line Railway for collateral trust, 5 percent, ten-year bonds. Both principal and interest were payable in gold coins of the United States, free of all taxes. Subscription lines were opened to take orders. Blair & Co. offered letters of credit in pounds sterling or francs. Robert Goodbody & Co. sold investment securities and executed orders on the London and Dublin stock exchanges. Mallette & Wyckoff solicited customers by mail. It published a monthly pamphlet called Practical Investing. Edward C. Jones & Co. specialized in bonds.

Dominick & Dominick sold investment securities, as did Spencer Trask & Co. Later, Spencer Trask & Co. offered railroad bonds that it arranged into four groups based on investment objectives and customers. One group was for persons dependent upon income and another for those seeking “semi-speculative” bonds. Henry Clews & Co. executed orders “for investment or on margin.” Edward B. Smith & Co. dealt in “guaranteed stocks.” Jacob, Berry & Co. provided investors information with “a Glimpse at Wall Street and Its Markets,” as well as “Monthly Fluctuation Sheets, Daily and Weekly Reports.” Fred H. Smith gave attention to “curb securities.” William G. Gallagher was another firm that sold curb securities: “Correspondence solicited on all matters pertaining to all active copper and unlisted stocks.” Blair & Co. advertised its services as a domestic and foreign banker for investment securities. F.S. Moseley & Co. offered “short time” notes. Francke, Thompson & Robb specialized in Cuban securities. In 1902, Joseph Cowan & Co., a member of the Consolidated Stock Exchange, published a daily market letter and supplied investors with Cowan’s new book, Reveries of a Trader. J.L. McLean & Co. provided market letters to customers upon application; the firm allowed interest on deposits subject to check. Kissel, Kinnicutt & Co. and Rudolph Kleybolte & Co. paid interest on monies on deposit that were awaiting investment.

The Real Estate Trust Co. of New York allowed interest on deposits. Adolph J. Lichstern & Co. dealt strictly on a commission basis in stocks, grain, and cotton. Securities were still being sold by auction in New York. Adrian H. Muller & Son auctioned stocks and bonds of an estate in 1902 at the New York Real Estate Sales Room on Broadway. Speyer & Co. had been an international investment banking firm even before the Civil War. By the 1890s, Speyer & Co. was one of the “three or four most influential international banking firms in the country.”⁷ The firm continued its growth after the turn of the century. Among other things, Speyer & Co. acted as underwriter for financing of securities for the London underground railway in 1902. The firm financed Philippine railway construction in 1906 and acted as underwriter for $35 million of credit for the Republic of Cuba, as well as for Mexican bonds issued in the American market. Speyer & Co. was the first investment banker in New York to create a pension fund for employees.

Investment bankers such as J.P. Morgan & Co., William A. Read & Co., and Kuhn, Loeb & Co. were handling large amounts of securities underwritings, but they limited their participations essentially to the New York m...

Table of contents

• Cover
• Half Title
• Title Page
• Copyright Page
• Original Title Page
• Original Copyright Page
• Dedication Page
• Dedication Page
• Table of Contents
• List of Illustrations
• Preface
• Acknowledgments
• Introduction
• Chapter 1. A New Century
• Chapter 2. America Enters the War
• Chapter 3. The Crash
• Chapter 4. Regulating Finance
• Chapter 5. War and the Rebuilding of Finance
• Chapter 6. A New Era Begins
• Conclusion
• Notes
• Selected Bibliography
• Name Index
• Subject Index