The Big Bang: How London Deregulated Its Stock Exchange in One Morning

At twenty-nine minutes past eight on the morning of Monday 27 October 1986, before the London equity market had formally opened, the screens went blank.

Dealers across the City had spent the previous half-hour pressing the refresh key on Topic, the Stock Exchange's price-distribution terminal, to see what the new quotations looked like. Page requests climbed past a million, then past five. One participant described the moment the counters ran away: "Then it got to 5m, then everything is going berserk." A software fault that the testing programme had not caught gave way under the load, and the Stock Exchange Automated Quotations system — SEAQ, the screen network built to replace face-to-face bargaining — failed on the first morning of its working life.

Engineers had it back within the hour, and by the end of the week SEAQ and Topic were running in step. What the outage briefly interrupted was not reversed. That Monday the London Stock Exchange abolished, in a single set of rule changes, the fixed commission scales, the separation of brokers from jobbers, and the restrictions on who could own a member firm. Within weeks the trading floor a few hundred yards away at Old Broad Street was empty.

A Club With a Rule Book

The system dismantled that morning had been built around one idea: that the man who advised you and the man who took the other side of your trade should never be the same man.

Under single capacity, a stockbroker acted only as agent. He could not deal on his own account, and to buy or sell he had to go to a jobber, who quoted a two-way price and took the position onto his own book but was forbidden to deal directly with the investing public. Prices were made by voice, on the floor, between men who knew each other. Commission was not negotiated, because the Exchange enforced compulsory minimum scales that had been a rule of the house since before the First World War. A broker who cut his rate to win a pension fund's business was breaking the rules of his own market.

That arrangement had a logic its defenders found persuasive: an agent paid a fixed fee has no incentive to churn a client into a position he himself is carrying. It also had an arithmetic problem. Jobbing was capital-intensive and thinly profitable, and as British share registers passed from private individuals into the hands of insurance companies and pension funds, the size of the average bargain rose beyond what a partnership of a few men could comfortably warehouse. There had been more than 600 jobbing firms on the floor in 1914. By the autumn of 1986 there were five: Akroyd & Smithers, Wedd Durlacher Mordaunt, Pinchin Denny, Smith Brothers, and Bisgood Bishop.

Michie's history of the institution treats this concentration as the real solvent of the old order — the rule book survived intact while the market it governed shrank to a handful of undercapitalised principals facing institutional clients many times their size (Michie, 2001).

The Case the Government Did Not Want to Win

In October 1977 the Exchange registered its rule book with the Director General of Fair Trading, as the Restrictive Trade Practices Act 1976 obliged it to do. It then asked to be exempted from the legislation altogether. In February 1979 the Minister of State for Prices and Consumer Protection refused, and the rule book went to the Restrictive Practices Court.

What was at issue was not one rule but the whole architecture: minimum commissions, single capacity, the requirement that brokers and jobbers remain independent of one another, and the exclusion of outsiders from membership. Counsel prepared for a hearing expected to run for months and to generate documentary evidence by the ton. Nobody inside the Exchange was confident of the outcome, and the prospect that a court might strike down the commission rules and leave everything else standing — or strike down everything at once, on a timetable the market could not control — alarmed the Bank of England, which had its own reason to care. The gilt-edged market, through which the government funded itself, ran on the same single-capacity plumbing, with Mullens & Co. as the government broker and a small group of jobbers behind it.

Sir Nicholas Goodison, chairman of the Stock Exchange from 1976, put the argument for settling in institutional terms: if the Exchange reviewed its own rules, then the government and the Bank of England "would have more certain control of the outcome" than they would if the matter were left to judges.

27 July 1983

Cecil Parkinson, six weeks into the job of Secretary of State for Trade and Industry, announced the bargain to the Commons on 27 July 1983. Members who had followed the litigation for four years described the statement as a bombshell. The proceedings, on the government's new view, had become "a completely unnecessary and expensive action, from which only the lawyers would in the end have benefited".

Its terms were narrow and specific. The Council of the Stock Exchange undertook to dismantle "by stages and with no unreasonable delay all the rules which prescribe minimum scales of commission", completing the process by 31 December 1986. It agreed to appoint lay members to the Council, to establish an appeals body for rejected membership applications, and to allow non-members to serve as non-executive directors of corporate member firms. In exchange the government legislated to lift the Exchange out of the Restrictive Trade Practices Act entirely — a withdrawal that the resulting statute made, as one MP noted in debate, complete, immediate, and proof against any further reference.

Commissions were the only substantive concession. Everything else that happened over the following three years followed from that one item, and followed faster than anyone at the despatch box appeared to expect.

The Chain Reaction

Remove fixed commissions and a broker's revenue per trade becomes negotiable, which means it falls, which means the agency model alone cannot support a firm. The natural response is to make money on the spread instead of the fee — to deal as principal. Once brokers deal as principal, the jobbers' monopoly of risk-taking is worthless, and single capacity has no constituency left to defend it. Dealing as principal against institutional order flow demands capital that no London partnership possessed. Capital on that scale meant outside owners, and the deepest pockets available belonged to clearing banks, merchant banks, and the American and continental houses that had been circling the City for a decade.

Bellringer and Michie, working through the papers of the participants rather than their later recollections, conclude that this sequence was substantially unplanned. Abolishing fixed commissions set off a chain reaction; the Bank of England steered it more actively than the public record then suggested; and the revolution owed as much to accident as to intention (Bellringer and Michie, 2014). Kynaston's account of the same years takes its title from the result — the City had been a club, and stopped being one (Kynaston, 2001).

Buying began almost immediately and ran through 1984 and 1985, at prices that valued partnerships with no fixed assets beyond their leases and their people.

Nigel Lawson, presenting his Budget on 18 March 1986, described what was coming and why the Treasury wanted it. The City revolution then under way, he told the Commons, "due to culminate in the ending of fixed commissions, the so-called big bang, on 27 October, is essential if London is to compete successfully against New York and Tokyo". Competition in financial services, he added, "nowadays is not continental, but global".

The Morning Itself

Big Bang day produced no dramatic price move. The FTSE 100, launched at a base of 1,000 on 3 January 1984, closed on 27 October 1986 at 1,586, up about half a per cent.

Inside the Stock Exchange Tower the change was audible rather than visible. Dealers had screens on their own desks and no longer needed to send a man onto the floor to find a price, and by lunchtime on the first day the room had gone quiet. Witnesses recalled a complete hush where there had been shouting. Floor trading was abandoned within a few weeks, and the Exchange — which took the name the International Stock Exchange after absorbing the International Securities Regulatory Organisation, the club of foreign firms dealing in London — never restored it.

Volumes behaved as the Treasury had hoped. Turnover rose steeply through the year that followed, and commission on a large institutional bargain was roughly halved. SEAQ International, the screen market in foreign shares that London had launched in 1985, began pulling cross-border trading in continental European equities away from the Paris, Zurich, and Amsterdam exchanges, which had no comparable facility.

The Bill for the Party

Too many firms had bought their way in. Every clearing bank, most merchant banks, and a dozen foreign houses had built market-making operations sized for a market that all of them expected to grow, and the arithmetic only worked if turnover kept rising.

It stopped rising on 19 October 1987. The FTSE 100, which had closed at 2,443.4 on 16 July, fell 249.6 points that Monday to 2,052.3, and closed the following day at 1,801.6 — a two-day decline of more than a fifth, worsened in London by the global selling wave that began in Hong Kong and broke on Wall Street. Firms that had committed capital to make continuous two-way prices discovered what that obligation costs when everyone sells at once.

Goodison marked the first anniversary of Big Bang eight days after the crash, opening with the wish "that market conditions were somewhat better on this first anniversary of the changes made in London".

Retrenchment followed quickly. Chase Manhattan closed its London equity business in January 1989 with a loss of about $40 million; Security Pacific and Citicorp also lost money on their purchases. The gilt market told the same story more precisely, because the Bank of England counted the participants: 27 firms began as gilt-edged market makers at Big Bang, the number fell to 22, and three more withdrew in the late summer of 1989 to leave 19. The GEMMs as a group did not record a full year of profit until 1990.

The Other Half of the Bargain

Opening the market to anyone with capital raised a question the old club had answered informally: who vouches for the people trading with the public. Professor L.C.B. Gower had been commissioned in 1981 to review investor protection, and the first part of his report appeared in January 1984, arguing for a statutory framework administered through practitioner bodies rather than a British replica of the Securities and Exchange Commission (Gower, 1984).

The Financial Services Act 1986 received royal assent on 7 November — eleven days after Big Bang. It delegated regulatory power to the Securities and Investments Board, which in turn recognised self-regulating organisations, professional bodies, and investment exchanges to supervise their own members day to day. The regime came into force on 29 April 1988. Its structure, self-regulation inside a statutory shell, held for a dozen years before being replaced by a single statutory regulator under the Financial Services and Markets Act 2000, by which time the failures of the intervening decade — including the collapse of Barings in 1995, a house that had survived Big Bang as an independent British name — had exhausted the political patience for practitioner supervision.

The American precedent was familiar to everyone involved. Fixed commissions had ended in New York on 1 May 1975, in a reform whose origins lay in the settlement breakdown that had destroyed more than a hundred Wall Street firms a few years earlier. London's version arrived eleven years later and changed more, because the Exchange unbundled commissions, capacity, ownership, and trading technology on the same date rather than one at a time.

What Was Actually Decided

Almost nothing that defines the modern City was written into the July 1983 agreement. Parkinson settled a court case about commission scales. Ending single capacity, admitting foreign owners, closing the floor, and building a screen market were consequences the participants worked out afterwards, each forced by the one before it. Surviving papers show the principals arguing about them in real time rather than executing a design (Bellringer and Michie, 2014).

London got the outcome the Treasury wanted and a set of costs nobody had priced. Foreign ownership of the City's institutions became the norm within fifteen years, and most of the names in the acquisition table above were absorbed, renamed, or shut. The competitive position was won: by the early 1990s London was trading more continental European equity than several continental exchanges could hold on to. The partnerships that had carried unlimited personal liability for their firms' positions were replaced by salaried traders deploying bank balance sheets, and the question of who bore the risk of a market-making book moved from a man's own estate to a depositor-funded institution.

The floor in the Stock Exchange Tower had been purpose-built and opened in 1972 for a market that nobody then imagined would be conducted on screens. It was in use for fourteen years, and it fell silent before lunch on the day the screens crashed.