Apprentice Essay: Connor Bickley

On 15/01/2016, in Posts, by Alexander Priest (Clerk)

As part of the process of a Guild Apprentice becoming a Guildman, each is required to write an essay on an aspect of the City of London or of the Guild which may be of interest to members.

Connor Bickley became a Guildman on 15th January 2016. His excellent essay is reproduced below:

A History and Analysis of the London Stock Exchange

It is impossible to consider the rich history of stock trading and finance without postulating upon the impact of actions that have been taken throughout history in the city of London. The largest hub of business in the UK and one of the largest in Europe, evidence of business transactions taking place within the city dates back millennia- for example, a bill for the sale of a slave from AD 80-100, during the Roman Era, is available to view at the Museum of London.

During the medieval era and the middle ages, livery companies, trade associations and guilds regulated their trades and established controls which were honed to form an interweaving network of industries, each with their own unique regulations and agreements to ensure effective trade. These were defined by Robert Seymour in 1735, with his Twelve Principal Companies of the City of London, which listed and clarified the roles of livery companies and the industries they could claim responsibility for and authority over. Examples of livery companies that comprised the bustling web of trading in London are the Worshipful Company of Goldsmiths, dealing in bullion, the Worshipful Company of Grocers who regulated the trade of spices, and of course the Worshipful Company of Mercers, acting as a trade association for general merchants with a focus on the importing and exporting of fabrics.

As history and humanity has developed, business has grown into an essential and sophisticated part of society. Today, the London Stock Exchange is a crucial element of the nature and reputation of business in London, and a fine example of how progression and change in business has established London as the financial powerhouse we know and experience.

The London Stock Exchange (LSE) is the fourth largest stock exchange in the world, and the largest in Europe. It makes a major contribution to the UK economy and thus has a great effect on it, which can be seen through its various activities and dealings. As a stock exchange, the LSE has had many effects to date on the well-being of UK economy, some more positive than others, which can be examined and analysed to see how the LSE has contributed to our economic society to date and how it may contribute in the future.

In the seventeenth century, the concept of an exchange to deal in stocks and shares was formed spontaneously from demand, as financial trade in Britain, both internal and external (overseas), saw a rapid growth, meaning stock companies became the preferable structure of a business as opposed to sole traders and partnerships. Sources such as the Edwin C Bolles Collection, which contains maps and texts documenting London’s history from the founding of the city to the 19th century, provide rich evidence of the manner in which trade was conducted. Rather than a central building, like the modern Paternoster Square, parties interested in exchanging holdings met in coffee shops in certain areas of London- the most prominent of which was Jonathon’s Coffee.

 

This was used as a base for the exchange of stocks following stockbrokers being refused admission to the Royal Exchange owing to their somewhat blunt behaviour. Sir Thomas Gresham, a keen negotiator and liveryman of the Mercers Company established the Royal Exchange. From Jonathon’s Coffee, John Caisting published the The Course of The Exchange and Other Things every Tuesday and Friday to update stockbrokers on market trends and stock prices. Jonathon’s played host to major events in the stock market, such as the South Sea Bubble in 1720 when investors noticed the opportunity to increase their profits enormously by benefiting from newly developing trade in South America.

 

Eventually, when a fire destroyed Jonathon’s in 1748, a dedicated club of brokers came together to establish a new headquarters- according to Bolles, the Stock Exchange- colloquially known as New Jonathon’s- was built and opened for trading in 1773 on Sweeting’s Alley. By 1801, this club had become a formal membership and the exchange moved to Capel Court. This is considered as the birth of the modern stock exchange, and was beginning to develop with advances in technology.

By 1830, the invention of the electric telegraph had revolutionised the internal and external communications of the stock exchange, with new financial information being transmitted from worldwide locations on ticker tape. This information, along with updates on the activities and reputations of major companies, was displayed on a notice board in the Stock Exchange, thus beginning to develop the recognisable format of a modern exchange. It was not until 1960 that financial information was displayed electronically on an enunciator screen, and the notice boards were replaced.

Throughout its history, the LSE has proved formidable- according to the British Information Service; it was closed for only 6 months during the First World War due to plummeting stock prices, and reopened in January 1915 under the premise of cash-only transactions. During the Second World War, the LSE closed only for an astonishing 8 days against the backdrop of the London Blitz- a true echo of the sentiment of British resolve and the determination of market trading. The Post War stock exchange rapidly developed- Queen Elizabeth II opened the Stock Exchange Tower in 1972, and in 1984 the FTSE 100 was established. A collaboration between the Stock Exchange and the Financial Times, the list is an effective and comprehensive index of the activities of the leading 100 companies on the Stock Exchange, and is freely available and in frequent use today by many traders- most commonly found in the Financial Times itself. The Post War period did not mean the end of threats towards the Stock Exchange- in 1990 many news networks reported the Stock Exchange Tower was the subject of an IRA attack, which led to the eventual closure of the public gallery in 1992.

Developing from the inclusion of electronic displays of information, the LSE once again saw major changes due to the so-called “Big Bang” of 1986, which saw the beginning of traditional floor-based trading systems being replaced by electronic, computer-based systems of trading holdings. Before the Big Bang, The LSE operated on a Floor Based trading system, in which traders would meet at a geographical location and operate on an “open outcry” system, meaning offers and bids would verbally be announced from a verbal trading pit and to execute a trade, eye contact must be established between the two parties. This is a traditional approach, but today it is much more rare, yet still existent- for example, the New York Stock Exchange employs this system.

Nowadays, this means we see stocks, bonds and derivatives being traded on computerized systems. The “Big Bang’ saw the deregulation of financial markets, which meant several major changes to the way our financial systems operate, such as the allowance of ownership of member firms by outside corporations and all firms becoming brokers or dealers, able to operate in dual capacity. This was less a product of the LSE itself and more a product of the Thatcher government, who were attempting to oust Britain from its financial troubles. This dual capacity, along with the decision to remove fixed commissions, which ensured traders had to work harder to maximise their client’s wealth by gaining commission based on their transactions and merits, seemed to make not only the LSE but the City of London itself a more professional place to work. Several insiders present during the quick transition into the Big Bang, such as Terry Smith (Head of Financials at BZW, 1986) and David Buik (MD of Babcock and Brown Money Markets), claimed the decision to deregulate was instrumental in the development of the financial industry in London-they stated that it “was a wild success…cemented London’s place at the centre of the world’s money and capital market” and that “the most positive result that transpired from “Big Bang” was that the city became very professional” respectively.

This also meant another key development for the LSE- it became a private limited company. Since the Big Bang, this has changed and the LSE is currently a public limited company (since 2000). In deregulating the exchange, the Stock Exchange Tower had become largely redundant, leading to another move of the location of the Stock Exchange. The new headquarters in Paternoster Square were opened in 2004.

The Stock Exchange’s development and size eventually resulted in a merger with the Borsa Italiana, creating the London Stock Exchange Group and boosting the power and influence of the Stock Exchange.

The Big Bang significantly changed the structure of the LSE, which obviously meant it had a deep effect on the UK economy. Since it’s introduction, London became a financial cash cow- by the next decade, The LSE was the top financial exchange of Europe, as neither Frankfurt nor Paris could muster a credible challenge to the title.  However, it can be argued that the Big Bang has ushered in a selfish and controversial side to the economy, introducing short-term transactional banking, which can involve opportunistic financial engineering. Stock brokers’ morals can become disillusioned in the pursuit of the maximisation of profits and of shareholder value- as well as the annual lure of a potential seven-figure bonus. This has seen the reputation and image of the economy and the parties involved significantly damaged, and it can be posited that a country’s economy is little without public support and enthusiasm.

As the LSE is a financial market, there are many traders who deal within the stock exchange. It is possible to classify traders into two categories- brokers and dealers. Brokers act on the behalf of investors, making decisions for the investor, using the investor’s account, matching bid with offer orders. Because they are dealing on the investor’s account, the investment risk is increased- as an investor, you are putting your trust and financial well-being into someone else’s hands- and the brokers are paid with fees and commission. Dealers are a much more personal affair- they trade using their own account on securities they are registered for, and quote both bid and offer orders.

The LSE is divided into two predominant markets. The Financial Times classifies these markets as the Main Market and the AIM. The Main Market is for large companies listed for trading large liquid stocks (that can be easily converted to currency), and the AIM (Alternative Investments Market) is for smaller and illiquid stocks (which investors would be less inclined to exchange for currency, due to size or difficulty in establishing monetary value). For these two markets, there are different trading systems- SETS and SEAQ. SETS, or Stock Exchange Electronic Trading Service, is for highly liquid stocks, and is used for order based trading, meaning buyers and sellers determine price limits and limits for the quantity of shares they wish to deal with. Contrary to this, SEAQ (Stock Exchange Automated Quotation) is for highly illiquid stocks, and is used for quote driven trading, meaning market traders quote prices on AIM securities.

The operation of the LSE is a key element of the UK economy, as it details the wide range of financial instruments that the LSE deals with. For example, traditionally being an equities trading business, it deals with UK and International equities. This equity can be defined the value of shares of a company, so the LSE can trade shares at a certain value which has obvious benefits for systems such as SETS and SEAQ- once share value is known, it is much easier to determine limits on prices and quantities for buyers and sellers. Global depository receipts are also traded, which are certificates given by depository banks that indicate ownership of a certain amount of shares, as well as a variety of fixed income securities such as gilts (government fixed income securities) as well as bonds issued by foreign companies, bonds issued by corporations and Eurobonds. In addition to these, they also trade warrants, which give owners the right to buy or sell assets at a specific price and predetermined rate. Finally, they deal with investment trusts, which are closed-end funds and represent another advantage of the LSE becoming a public limited company, because they are listed with public limited companies.

The international aspect shows another benefit the LSE has to the UK economy. According to their own data, the LSE is the most international stock exchange in the world, as it deals with around 3,000 companies from over 70 countries. This means the UK as an international economy has an excellent reputation, and has many established trade links with international traders. To illustrate this, the LSE merged with the Borsa Italiana in 2007 to form the London Stock Exchange Group, meaning closer financial links with Italy and the Euro and the range of countries the LSE deals with seeing an increase in market activity, due to the bolstering and improvement of security and therefore reputation. This involvement with international stock exchanges can help establish new trade blocs and form new market alliances by improving exchange rates. This is achieved by increasing the amount of business done between currencies– with terms of trade on imports and exports being more frequently and fairly negotiated, as well as public debts becoming shared responsibilities through bailouts and closer monitoring of interest and inflation rates to prevent any unexpected correlating changes in exchange rates.

All the way from the coffee shops of the seventeenth century to the reforms of the Thatcher government to today’s emergence from the financial recession and combat with the Eurozone crisis, the LSE has gone to great lengths to stabilize the UK economy and ensure its overall well being. However, as for the future, the LSE has to consider safer measures. The current economic climate is one of uncertainty and unprecedented levels of risk, especially in Europe, and the ties the LSE has created with international markets, no matter how invaluable they have proven thus far, carry the risk of trapping the UK economy in the same downward spiral that we can observe on a weekly basis in European markets. For example, if Italy’s financial markets succumbed to the risk of collapse to the extent of those witnessed in Spain or Greece, the London Stock Exchange Group would suffer because of its merger with the Borsa Italiana, and the effect on UK economy could prove detrimental. The London Stock Exchange has so far proven itself a worthy ally of our government, investors, and our economy as a whole, and hopefully it can maintain its sensibilities and effective operations to overcome potential future adverse situations.

 

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