Price Pressure on the NYSE and Nasdaq: Evidence from S&P 500 Index Changes

Abstract

Using additions of NYSE- and Nasdaq-listed firms to the S&P 500, between 1989 and 2000, we explore the price effects of noninformation related demand shocks. After controlling for various firm characteristics, index fund growth, and arbitrage risk, we find that NYSE stocks suffer less pronounced price effects than do Nasdaq stocks on the day stocks are added to the Index. For NYSE stocks, this effect is reversed immediately, but Nasdaq stocks, show a partial reversal taking place over several days. We interpret this result as evidence of the superiority of the specialist system over the dealer system in mitigating price pressures. An important facet of any stock market is its ability to absorb large demand shocks for stocks while minimizing any resulting change in price. In this article, we compare the price effects for Nasdaq and NYSE stocks added to the S&P 500 Index. Our experiment allows us to study the impact of exchange listing on the effects of large demand shocks that are relatively clean of confounding information. This issue is more than an academic curiosity, since both the NYSE and the Nasdaq claim that their respective systems are better able to absorb such shocks (Wall Street Journal, July 26, 2000). The arguments of both sides have validity. The NYSE argues that the centralized specialist can see the big picture and manage supply more effectively than can a dispersed network of dealers. The NYSE also has the benefit of investor-supplied liquidity in the form of the limit order book (Cochrane, 1993), and the specialist is committed to taking offsetting positions in each stock he is assigned. Nasdaq claims that its dispersed dealer system is better able to minimize the price impact of additions for several reasons (see Groth and Dubofsky, 1987). First, there is greater competition