Bucket shop refers to either a brokerage firm that illegally retains funds in a transaction or a historical enterprise that offers betting on stocks and futures without any underlying trading.
In the modern context, bucket shops are firms that illegally deceive traders or investors during the brokering process, effectively stealing money or other assets. This is called “bucketing” and can be done in a myriad of ways. A common method is for a firm to sell an asset to the customer for more than the asset cost and retain the difference. For example, ABC Brokerage could tell Nathaniel the stocks in XYZ Inc. were trading for $55, but in reality, the stocks were trading for $50. If Nathaniel uses ABC Brokerage to acquire 100 shares in XYZ, Nathaniel would pay $5,500 to ABC, and ABC would only pay $5,000 for the shares, keeping $500 for itself.
Historically, bucket shops were gambling operations that allowed common people to bet on stocks and other markets. They gained popularity during the 1880s after innovations allowed trading information to be quickly transferred across telegraph wires and became illegal in most states. The gambling was very precarious because the people gambling were usually inexperienced, working class citizens and no actual assets were being traded. Instead, the gambler and dealer would be gambling based on the futures of markets which favored the dealer for a variety of reasons. To make matters worse, the dealers would leverage the betting of gamblers, increasing the lure of quick-money and downfalls soon thereafter. Eventually, after many failed attempts in state courts, stock exchanges won the right in the 1905 case of Board of Trade v. Donovan Commission Co. to prevent bucket shops and other speculative firms from receiving their trading predictions. Stock exchanges gradually removed most bucket shop’s access to trading information until they were effectively gone in the 1920s. While mostly negative, bucket shops helped usher in an age of ordinary citizens being able to invest in markets, permanently transforming the U.S. economy.
[Last updated in June of 2021 by the Wex Definitions Team]