EXCHANGE SEGMENTS OF THE SECONDARY MARKET IN THE FEDERAL REPUBLIC OF GERMANY0

II.EXCHANGE SEGMENTS OF THE SECONDARY MARKET

IN THE FEDERAL REPUBLIC OF GERMANY

We talked in a previous article about:THE SEGMENTS OF THE SECONDARY MARKET IN THE FEDERAL REPUBLIC OF GERMANY I. PARTICIPANTS AND ISSUES TRADED

Today we talk about:EXCHANGE SEGMENTS OF THE SECONDARY MARKET

IN THE FEDERAL REPUBLIC OF GERMANY

On the German  exchanges a distinction must be drawn between official and unofficial trading. This distinction is confusing, especially  for a foreign observer, because in both cases dealings take place on the floor of the stock exchanges, the participants being almost identical and even - if one takes the German stock exchanges together the traded issues are the same to a large extent. Although prices naturally arise in unofficial dealings, they are not reported but are merely quotations on which no claim  to execution can be based. In the case of official dealings, on the other hand, any transaction prices or bids or offers are reported, and an investor may claim execution of his order on the basis of these prices, even if they are only bids or offers. These official prices, which may be established only for securities that have been listed, have a special legal significance which no other exchange or market price has: they are the basis for the securities agent's right to deal, on his principal's behalf, with himself ("Selbsteintrittsrecht"). 

The German banks, in their capacity of securities agents, regularly make use of this right under their terms of business, executing orders from customers from their own holdings at official prices and still charging the usual commissions and expenses. The "Selbsteintrittsrecht" leaves them free to decide whether or not to engage in a covering transaction and the manner in which to do so, and limits their duty to provide information to the customer as to the details of the execution. In the case of share dealing this limitation now constitutes the only practical significance of the  "Selbsteintrittsrecht",as the banks undertook in 1968 to pass all orders in respect of listed shares through the stock exchange, unless the customer had expressly instructed otherwise ("freiwilliger Borsenzwang", i.e. voluntary agreement to accept the obligation to deal through a bourse).

1.  Official trading

a)  Continuous trading This market segment is also designated as "dealings atvariable quotations"or, more briefly,"variable-price

dealings"("variabler Verkehr").

A price is only established if a certain minimum number of shares are bought and sold, usually 50. The securities dealt in in this segment on the north German exchanges of Hamburg, Bremen and Hanover are all listed stocks. However, the executive committees of the five other German bourses in principle only assign shares to variable-price trading - apart from foreign securities - in which it can be proven that there is a need for continuous dealing, in other words in which major orders are regularly forthcoming during stock exchange hours.

The distribution and par value of capital of domestic listed stocks traded on several German exchanges are shown in Diagram 2; stocks traded continuously on at least one of the five exchanges indicated above were assigned to the first category("continuously traded stocks"), the remaining stocks to the second.

In the normal course of events the stock exchange's executive committee will require a member bank to make an application  for the admission of such stock to continuous dealing. The bank will then be expected to facilitate the execution of incoming orders in the security, in other words to act to some extent as market maker. The number of shares admitted to continuous trading is shown in

 Table D - 3. Diagram 2

II.EXCHANGE SEGMENTS OF THE SECONDARY MARKET 

Distribution and par value of capital of domestic listed stocks traded on several German exchanges

C-   Continuously traded stocks (regression line)

N- Stocks with non continuous trading only(regression   line)

Continuous  trading   breaks up into collective negotiation

at the beginning of the stock exchange session and a

collective price known as the first price or the opening price - is established; the subsequent individual bargains are made at individual prices.

Each official broker("Kursmakler") is allocated certain securities in respect of which he takes orders from the member banks. He matches up the buying and selling orders, provided they are for round lots or multiples of round lots, and calculates the price at which supply and demand will balance. He notifies this price to interested dealers who have assembled at his post and accepts more orders from them; the official broker may also decide to cover an excess of demand or supply for his own account  (this is known as taking over a "Spitze").

The equilibrium price which then arises is quoted as the opening price. Although the most active shares are dealt in in this segment of the market, it often happens that only a bid price is quoted as the opening price. There are a number of different variants of continuous dealings. Members may give their orders to the official broker or an unofficial broker ("Freimakler") who will hold the order at the market ready to deal with a party appearing on the other side. Unofficial brokers, in particular, may also put themselves forward as counterparties.

 Alternatively, the official broker may cross matching orders of a member and quote the crossing price. Finally, the members often trade amongst themselves without the intervention of the official broker. In that case, however, they have no right to have their prices quoted and reported, except that in Hamburg official brokers must quote even these prices if a member so requests and if the price in question is in line with the market. It is this variant of continuous trading that lends exchange dealing in Germany its characteristic appearance and colour . The aggregate sales in a typical security in this segment of the market on the four leading boursed average about one million marks per working day.

b)  Non-continuous trading

Two groups of orders are executed in this segment of the market: firstly, all orders in respect of securities which although listed are not admitted to continuous dealing, and secondly, all small orders in respect of shares admitted to continuous dealing. Thus all listed securities are traded here. Trading takes place once a day. Only issues with a nominal value of at least DM 500 000 outstanding may be traded in this segment of the market. Orders are passed to the appropriate official broker who then, in the same way as in the calculation of the opening price in the continuous-trading segment, determines a collective price. This price is called the uniform price  ("Einheitskurs"). It frequently happens that no interested dealers are to be found at the official broker's post. In that case only the orders already received and in certain circumstances the bid for surplus supply or demand by the official broker dictate the price. But often one or more bank represen- tatives participate in the price-making process. However, it is very rare for so many dealers to be actively involved in determining the price that one can speak of competition for surpluses. Moreover, this would hardly be possible since the uniform prices for hundreds of bonds and stocks are arrived at within half an hour. Normally a price is influenced by the representative of the price-stabilizing bank and this is particularly  so in the cases of intervention

by the central bank's representative in regard of the prices of federal government and related bonds.

If substantial variations from the previous day's price

for a given security are imminent, an attempt is always made to involve a fair number of dealers in making the price. If an official dealer, on the basis of the orders he has already received, expects a price change of the order of 5 to 10%, he must draw the attention of the stock exchange dealers to the special situation by writing up a plus or minus sign  (if the expected change is more than 10%, a double plus or double minus).

In the case of bonds the corresponding rates are 1 and 2%. In all situations of this kind a supervisory member of the stock  exchange's executive committee participates in making the price. It is his responsibility  to decide whether and if so at what price bargains should be made or whether to suspend trading in the security in question. This procedure is also used in continuous trading when there are substantial price fluctuations. At some bourses there are special regulations for securities with prices of up to DM 5.

Although the collective prices are still calculated by writing in the brokers' books at the German exchanges, the subsequent operations have been largely automated.

Data relating to deals that have been entered into are fed into a data processing system by the brokers or their clerks through terminals right at their posts. The system prints out contract notes and uses the input data inter alia to prepare and implement clearing and settlement. The printing of the official price lists is automated too, on the basis of the input data provided by the brokers. The possibility of having the order data fed into the system not by the official brokers but at an earlier stage directly from the members' branches - is currently being worked on.

 The data processing systems now operated jointly by several exchanges and connected with each other are also used for continuous trading of course.

 In order to apply the systems to off-floor trading as well and to make contract notes and other information available in offices outside the exchanges, terminals are increasingly being installed at outside locations. In addition, efforts are currently being made to enable transactions involving more than one financial centreto be handled by the automated settlement systems of the individual exchanges.

2.  Unofficial exchange trading

a)  Trading in unlisted securities Although regulated unofficial trading

("geregelter Freiverkehr")or more specific, trading of unlisted issues  ("unlisted trading") takes place on the floor of the exchanges and is regarded as a segment of the exchange market for the purposes of this study, it is not subject to supervision by the stock exchanges nor are the governing bodies of the stock exchanges responsible for this segment. Control of dealings in this segment is in the hands of a "Committee for transactions in unlisted securities" at every stock exchange  (referred to in this study as "unlisted trading committees") which also takes the decision as to which securities should

2.  Unofficial exchange trading

a)  Trading in unlisted securities Although regulated unofficial trading  ("geregelter  Freiverkehr") or more specific, trading of unlisted

issues  ("unlisted trading") takes place on the floor of the exchanges and is regarded as a segment of the exchange market for the purposes of this study, it is not subject to supervision by the stock exchanges nor are the governing bodies of the stock exchanges responsible for this segment. Control of dealings in this segment is in the hands of a "Committee for transactions in unlisted securities" at every stock exchange (referred  to in this study as "unlisted trading committees") which also takes the decision as to which securities should be "in cludedin "(not" admitted to"or"listed")Regulated un officialdealings. Three Groups of securities dealt in For cash are involved here. Firstly, securities That have been listed on one or more other German Bourses and for which there is a need for local trading.Secondly,There are those securities which would qualify for a stock exchange listing but whose issuers have not applied on account of the higher fees and other expenses of  listing in comparison with "inclusion" In regulated unofficial dealings. Finally, The third group covers securities which do not qualify for a stock exchange listing either because there are doubts about the issuer's standing or because the capital outstanding is too low or because of too short a time to maturity in the case of fixed-interest securities. Of The 331 fixed-interest

titles included in unlisted trading on the Frankfurt Stock Exchange at the end of 1973, 165 were medium-term notes ("Kassenobligationen").

NormallyThe unlisted trading committees "include" a Security in response to an application from the issuer; sometimes, however, they Will include a security on their own initiative without The issuer's agreement, if Turnover is sufficient to warrant it, and in that case inclusion fees are not charged. Unofficial Exchange trading takes place mainly At individual prices, sometimes continuously, As in Hamburg, Sometimes on the basis Of one or more unofficial brokers official brokers are Restricted to official dealings on the exchange – calling over the relevant securities. Contrary To official trading transaction prices are not reported.

Whether Or not individual bargains are made, the unofficial broker will try to come up with

b)  Option trading  Since 1 July  19 70 puts and calls with three different contract periods have been traded in Germany. The only persons entitled to trade are stock exchange members recognized by the local options clearing association, the "Lombardkasse" or the "Liquidationskasse". Transactions are restricted to 45 German and Dutch stocks with heavy trading; they are largely the same as the shares for which the four largest German exchanges publish a daily list indicating the share volume of sales. The Federal Finance Minister and the executive committees of the stock exchanges decide which securities are to be the subject of option dealings in conjunction with the issuers. Supervision of option dealings is the responsibility of the executive committee of the stock exchange in question, which also lays down the conditions under which these dealings shall take place. So here the executive committee takes the place of the unlisted trading committee. Thus, in contrast to unlisted trading, not only the admission of participants but also the admission of securities have to be officially authorized. In addition, supervision  is exclusively in the hands of an official body of the stock exchange.

However, as in unlisted trading, option prices are not official prices. Consequently, option dealings are usually regarded as constituting a segment lying between official dealings and unlisted trading. Option securities are normally called over during the second half of the trading session by an unofficial broker. As in the case of unlisted trading, quotations (or even merely bid or offer prices) are then determined if possible on the basis of individual prices - but they do not give rise to the right to execution. As with the cash segment of the unofficial market, deals may be made not only during calling but throughout the trading session. The round lots are the same as for continuous trading. The small volume of sales on the option market is concentrated on Frankfurt and Dusseldorf; at these centres in 1973 18 738 and 5 664 option deals respectively were concluded, that is 2 - 3 bargains per

security per working day.

the source by Dr.Hartmut Schmidt