Testing Yourself

The Pit Found A Way

Many young traders on FinTwit wonder what it would have been like to trade in the pits. Human to human. Mano to mano. A lot of people also ask me about how to break into VC. They are similar, though not the same.

This morning on Twitter, I saw an old trader friend PAX tell a younger trader about it. Here is PAX in the Nasdaq 100 futures pit. He is trying to sell some contracts. It looks like he is either turning the market or there is an order filler buying that he is trying to get the attention of.

There are a few of us old dinosaurs around. Had the pits existed today, I’d still be in them but at my age, it is highly doubtful I would be trading the same way I did when I was 40, or 30, or in my mid-twenties.

A younger trader remarked on Twitter, “I know I would have been very successful.”

Maybe. Maybe not.

The true first step in success on the trading floor was believing strongly in yourself. You had to be very comfortable in your own skin, comfortable with your own identity. It helped if you tried things in your life and failed. It also helped if you had been entrepreneurial in your life, or in some way self-sufficient.

When I got my $150.00/wk gross, no insurance, and no taxes taken out, runner job on the floor, I was told by our desk manager at Stotler that I wouldn’t make it. I wasn’t smart enough or good enough. This was after my first week on the floor after quitting a promising corporate career that paid real money.

A few months later, when I got my $200.00/wk gross, no insurance, and no taxes taken out, pit clerk job in the Eurodollar options pit, most people said I wouldn’t make it. But some people thought I could after they watched me and got to know me.

They knew I was very competitive and wanted to win.

When you clerked, sometimes you paper traded. Most of the time to keep your mind occupied you’d mentally trade. You’d watch and observe. “I wouldn’t have done that trade” or “I would have made that trade.” you’d say to yourself. It looked effortless and natural when you clerked on the outside of the pit. A lot of the time, your back was to the pit. Your back acted like a plate of armor insulating you from the bedlam behind you.

But, when you got your membership, you took about a two to three-foot change in where you stood. It doesn’t sound like a lot physically, but it was a huge chasm mentally.

It was time to face forward in the pit and face your internal demons. By the way, if you were a female or a physically smaller male, it was harder. I am 6’5” and my great friend PBL is a far better trader than I will ever be.

The first day I walked into the pit with my trading badge on as a member, and “real trader” after having been on the floor for two years every single day of my life, I could barely talk. I had gone through the traditional rites of passage meaning the Membership Committee and taking the test. I had worked with the people I was standing with. They knew me. I opened my mouth, and my voice wasn’t there. I moved my hands in the air. I opened my mouth, but nothing came out. I was dry.

I made my first trade with RKP. It was a five lot. I scratched it within two minutes of making it. Several months later in the heat of a “fast market”, I was sweating. Fast markets meant a lot of the rules on price reporting were off, and was a signal to the outside world all hell was breaking loose inside the pit on the floor. I was competing with everyone to buy a forty lot. COT was selling and a burrowed through the pit in front of him. He winked at me and sold me 40. I had made two grand. I felt like I was home then.

A lot of traders grew up where their fathers were traders. Some of their father’s fathers were traders. Others had family money. They had a safety net. People knew them since birth so there was some nepotism. If you weren’t one of those people, you had to figure out how to compete toe to toe with them and win. Losing meant you were shown the door.

That doesn’t sound like anything related to numbers. It isn’t. Trading is 100% psychological, especially when you are in a pit. People like to think it’s non-emotional and just about accounting numbers, economic numbers, and statistics. There is more of that in computerized trading, but not as much in pit trading.

Sure, unemotional numbers and statistics matter. But, not in the heat of the moment. As Mike Tyson used to say, “Everyone has a great battle plan until they get punched in the mouth.” The pit used to find all kinds of ways to punch you in the mouth.

The pit didn’t just punch you once either. Sometimes it was daily. Sometimes hourly. Sometimes it would leave you alone and sneak up on you when you didn’t expect it or you thought you had it licked. There were days you “made your bones” and got the respect of fellow traders. But, everyone knew that just because you did it once didn’t mean you were immune from having to do it again.

The pit had a huge circumference. Inside of it, it held the statistics and figures of the market. But, the pit contained the emotions, egos, goals, and psychology of each person inside the physical ring, combined with the emotions, psychology, and goals of every market participant outside the ring. Think of it like a pressure cooker, not an arena.

For most of us inside the ring, it was our own money. Our own personal hedge funds with one LP, us. Every single day was the Super Bowl. Lose $10k, it was yours. You weren’t paying your rent and your kids were going to have to eat less. Make $10k, it was yours. Your wife got to shop at Hermes and you were on your way to an American Express black card. It was life on a razor’s edge.

If you haven’t ever lost real meaningful money in an instant where it hurts physically, then you haven’t felt the emotion that comes with trading. In addition, since you were doing the actual trade, the writing down, the competing for it, the checking of it, your ego got involved. You wanted to be right. How easy is it for you to admit you are wrong in your daily life? Now layer in money and the fact that you have to do it in front of the entire world. How easy would it be then?

I remember taking my Chicago Booth MBA classmates on the floor. Some of them asked me where my computer was with Excel spreadsheets to help me make decisions. I laughed. Decisions were made instantly. Now or never. The spreadsheets and all the data had to be looked at ahead of time and stored in your memory. In the heat of the moment, you had to recall all that data and make a decision. Some people can do that and some can’t. Nine out of every ten that walked on the floor couldn’t.

Would you have been one of the nine or the one?

There were more millionaires per square inch on the trading floors of Chicago than anywhere else on Earth. When you started, you hoped to join that crowd and be able to drop $1000 at the bar like nobody cared.

That brought a lot of people from everywhere. The trading floor was a hard rubber black surface. It was grippy like a basketball court in the morning. By mid-morning, it was slippery and sticky all at once. It would be full of paper, newspapers, gum, seeds, spittle, and dust. And PEOPLE. Crammed into small spaces. Swaying, fighting, jostling and gesticulating. Every walk of life. Every political belief. Every size, shape, and smell. The smell of the trading floor put people off. When you were inside a pit, it was a combination of nervous sweat, not the same smell you get from a gym, nervous gaseous farts, hot breath coming from mouths. Breathe mixed with mints, gum, and cigarettes. Clothes that contained crusty sweat and hadn’t been dry cleaned. Noise. A cacophony. It was as loud as a jet engine. Multiple sounds all at once and you had to decipher precisely the one you needed to make money.

(I will write some stories about the floor, but you will have to pay to read them. This blog will always be free.)

When you go to a boxing match, you watch. You don’t get to participate. Not so in the pit. If you were the person that didn’t participate, eventually, you were eliminated.

Would you have been the nine, or the one?

With computers, the game is changed. It doesn’t resemble pit trading at all. The market even acts differently. The other facet you have to realize is that when you were in the pit, it was easier to create an edge for yourself. On the screen, it is significantly harder to create an edge. Instead of being the hunter, you are the pigeon.

If you want to business school and took a marketing course, a basic economics course, and a good business strategy course, you could apply that in the pit. I walked into the Eurodollar pit and decided right away I wasn’t going to compete with people who were already there and dominating. What did I have to add? I’d also have to physically fight my way to get a good pit position and the effort wasn’t worth the opportunity cost. I needed to find a market segment I could dominate and exploit.

I found one and when that got crowded I found another. As a pit trader, often you had to constantly reinvent yourself. In entrepreneurship circles, they call that “pivoting”.

I look at other “risky” occupations. Venture capital is a good one. I hear blather about how much risk venture capitalists take. I don’t see it. Very few of them are willing to make a market. Very few of them take truly early risks. I have seen it over and over again. “Come back to me when…..”

They don’t put real money on the line when they should. That means they invest too little when the risk/reward is right. I learned that when I spoke to a lot of small VCs in Silicon Valley. They were writing $50k-$150k checks into a bunch of companies thinking they were diversifying their risk and hoping, hoping, that one of them would turn into a unicorn. It’s a great strategy to lose money.

Since many haven’t taken real risks or made a market in their life, they don’t recognize when the risk/reward is really right. A legendary and highly successful trader/entrepreneur Tom Sosnoff of Tastytrade once said, “The greatest thing about trading is it forces you to make a market hundreds of times a day. You get practice at making decisions and taking risks.”

Most VCs remind me of the guys in the pit who tried to glom onto trades. They let other people make the market and then they’d scream about how they were “first”. They’d beg the person who made the market to give them a few crumbs. They were market takers.

As a pit trader, occasionally you would keep them around because you needed someone to take the crumbs or overflow. But, you knew when the market got hot or if the chips were down, they wouldn’t be there for you.

Some VCs do have their own money at stake. Some put their own money into their funds. There are VC funds out there that could be funded 100% from the partners. Then, other funds don’t have a huge personal money component to them. They don’t have skin in the game and the losses don’t hurt as much. Those are the glommers, the market takers. Administrators.

They won’t make markets. They are generally useless and just commodity money. If I am a market-making VC, why do I need them in my deal?

I have had plenty of people ask me how to get into the VC game. My first question is “Have you ever invested real meaningful money into something you have no control over, that has very little chance of making it, and then lost it all?” If they haven’t, they may or may not be cut out for VC but when that happens it’s their first punch in the mouth.

The other thing is just like when I was running, then clerking to get into the pit, everyone told me that I wasn’t right for VC or early-stage investing. Hence, I have never worked for a VC firm. I invested my own money and then had to find a partner so we could start our own. But, I ain’t sitting in my house in Las Vegas because of trading. Trading allowed me to take another chance. Anyone who knows me well knows that the years 2009-2016 were brutal for me. But, I was a survivor.

Pit trading was one of the hardest occupations on earth to be successful at. It was lonely. Isolating, even with the camaraderie. It started with a belief in yourself. But, you had to hew to the iron laws of economics and statistics. You had to know how to make instant decisions on risk/reward, and then react accordingly. If you were Frosty the Snowman, you melted. The strongest law was 90% didn’t make it.

Would you have been the 10%?