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Question

Difficulty: MediumTypes of Markets and Trading Venues

A retail investor places an order with their broker-dealer to buy shares of a stock listed on the New York Stock Exchange (NYSE). The broker-dealer executes the order off the exchange floor by trading directly over-the-counter (OTC) with an off-exchange market maker that fills the order from its own inventory. Which of the following correctly identifies the trading market venue and the capacity of the off-exchange market maker in this transaction?

  1. The transaction took place in the Third Market, and the market maker acted in a principal (dealer) capacity.Answer
  2. B
    The transaction took place in the Primary Market, and the market maker acted as an underwriter issuing brand-new shares.
  3. C
    The transaction took place in the Fourth Market, and the market maker acted in an agency (broker) capacity.
  4. D
    The transaction took place in the Depository Market, and the market maker acted as the National Securities Clearing Corporation (NSCC).

Answer

The transaction took place in the Third Market, and the market maker acted in a principal (dealer) capacity.
The correct answer correctly identifies that trading exchange-listed securities over-the-counter (OTC) occurs in the Third Market. Furthermore, because the market maker filled the order using its own inventory, it operated in a principal (dealer) capacity.

Step-by-Step Solution

1
Identify the type of market venue where exchange-listed securities are traded over-the-counter (OTC).
Trading listed securities off-exchange in the OTC market is classified as the Third Market.
The Third Market consists of OTC trading of securities that are listed on a registered stock exchange.
2
Determine the capacity of the firm executing the trade from its own inventory.
A firm selling out of or buying into its own inventory is acting as a principal (dealer).
Broker-dealers acting as dealers/principals trade for their own account and charge a mark-up or mark-down, unlike brokers/agents who charge commissions.

Key Concept

Third Market Trading and Principal (Dealer) Role Execution
Estimated Time:1m 0s
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Topics

Types of Markets and Trading Venues

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