2-Financial Markets Page 50 Wednesday, February 4, 2004 1:15 PM
50 The Mathematics of Financial Modeling and Investment Managementof the total market value of the securities that the investor must pay as
an equity share, and the remainder is borrowed from the broker. The
1934 act gives the Board of Governors of the Federal Reserve (the Fed)
the responsibility to set initial margin requirements. The initial margin
requirement has been below 40% and is 50% as of this writing.
The Fed also establishes a maintenance margin requirement. This is
the minimum proportion of (1) the equity in the investor’s margin
account to (2) the total market value. If the investor’s margin account
falls below the minimum maintenance margin (which would happen if
the share price fell), the investor is required to put up additional cash.
The investor receives a margin call from the broker specifying the addi-
tional cash to be put into the investor’s margin account. If the investor
fails to put up the additional cash, the broker has the authority to sell
the securities in the investor’s account.Trading Arrangements Used by Institutional Investors
With the increase in trading by institutional investors, trading arrange-
ments more suitable to these investors were developed. Institutional
needs included trading in large size and trading groups of stocks, both
at a low commission and with low market impact. This has resulted in
the evolution of special arrangements for the execution of certain types
of orders commonly sought by institutional investors: (1) orders requir-
ing the execution of a trade of a large number of shares of a given stock
and (2) orders requiring the execution of trades in a large number of dif-
ferent stocks at as near the same time as possible. The former types of
trades are called block trades; the latter are called program trades.
On the NYSE, block trades are defined as either trades of at least
10,000 shares of a given stock, or trades of shares with a market value
of at least $200,000, whichever is less. Program trades involve the buy-
ing and/or selling of a large number of names simultaneously. Such
trades are also called basket trades because effectively a “basket” of
stocks is being traded. The NYSE defines a program trade as any trade
involving the purchase or sale of a basket of at least 15 stocks with a
total value of $1 million or more.
The institutional arrangement that has evolved to accommodate
these two types of institutional trades is the development of a network
of trading desks of the major securities firms and other institutional
investors that communicate with each other by means of electronic dis-
play systems and telephones. This network is referred to as the “upstairs
market.” Participants in the upstairs market play a key role by (1) pro-
viding liquidity to the market so that such institutional trades can be