When I first began my career, an aspiring trader could not lease a seat
on the exchange. A membership on the exchange had to be purchased,
which created a very large barrier to entry into the business.
Eventually, the exchanges spun off associate memberships that were
priced at a substantial discount to the “full” memberships, but only
allowed you to trade the less liquid contracts. My first membership was
an AM membership on the CME in 1976, which cost me $20,000 and allowed
me to trade lumber and eggs. While I had no desire to trade either of
these contracts, the membership granted me access to the floor, and
allowed me to partake in member commission rates. However, instead of
physically trading in either of these pits, I chose to trade bellies and
cattle from a desk on the floor, running my own orders into the pit,
and keeping track of the market on my hand made point-and-figure charts.
When the price of my seat quickly doubled, I sold it and made the jump
to the CBOT, where I leased a seat for $3200 per month from Bill
Eckhardt, co-founder of the Turtles.
The CME and the CBOT reflected the diversity of Chicago. They were the
same animal, but completely different breeds. The Merc was the young
upstart exchange made up of North-suburban Jews and West-side Italians
wearing $300 slacks, diamond rings and gold Rolexes. They drove Rolls
Royces and Ferraris, got high and partied with hookers, and rooted for
the Cubs. The Board of Trade was the venerable old exchange comprised of
Southside Irish who drove Lincolns and Cadillacs, smoked stogies and
drank scotch at 10:30 in the morning, and went to White Sox games.
Members of the Merc had family money and bought their way onto the
exchange, while members of the Board had been there from the beginning
or had their memberships passed down to them. The exchanges were only
blocks apart, but culturally they were miles apart. Yet the members of
the exchanges had one thing in common, and that was their
entrepreneurial lust.
I had always wanted to trade soybeans, because of their volatility and
my belief that they were the perfect vehicle for a technical trader.
Having never traded in a futures pit before, I was under the impression
that floor traders were exactly what their name implied - traders. In
reality, they were actually market makers. The market makers’ alleged
raison d’etre was to make a two sided market for the brokers, taking
the other side of both retail and institutional orders. Without the
local independent trader, there would not have been sufficient
liquidity to facilitate the customer order flow. The “real” traders,
either put their orders in with floor brokers, or came into the pit,
only when they were putting on or taking off their positions.
Buying or leasing a membership on the exchange allowed the member
trader: access to the floor and the pits, drastically reduced
commissions with a yearly cap, the ability to buy-the-bid and sell
-the-offer, and to varying degrees, a look at the order flow. Of course,
this created an extreme advantage for the local trader and created a
very un-level playing field. But this was quickly rationalized as
benefits owed to the locals, for taking the risk of providing liquidity,
and aiding in the process of price discovery and risk transference.
Where you stood and whom you stood next to, had more to do with how much
much money you made, than how good of a trader or market maker you
were. Groups of traders congregated around various brokers (order
fillers) forming little cliques within the pit, yet the pit as a whole,
still functioned as an efficient marketplace. Customer orders flowed
form outside the exchange into the pits, where a market was made and
fair value was determined through the process of price discovery, price
information then flowed back out from the exchange, and back to the
customers. But, not before the locals had a chance to "pick-off" off
the customers' orders.
In theory, all trading was to be executed by open outcry, and all
customer orders were to be kept secret until they were executed. In
practice this was seldom the case. While the ball belonged to the
brokers, they needed the locals to take the other side of their orders.
The local needed the brokers to get the “edge “ on their trades and
information about the order flow. It was this interdependence that
forced a bond of trust and a doctrine of integrity between the locals
and brokers. While it both empowered and enriched the pit’s inhabitants,
it was also the dominant reason why the pits functioned so
efficiently.
In general, there were two kinds of orders that came into the pits -
retail and commercial. There was a relatively steady flow of retail
orders throughout the day, while the hedgers and funds came in less
frequently, albeit at the same time, in the same direction. By design, I
always stood next to a broker with a retail order deck. Obviously, you
didn’t want to be on the other side of a big institutional orders -
you wanted to be in front of them. Conversely, you wanted to be on the
other side of the retail orders, especially stops, as they were more
likely to be wrong.
By necessity, I quickly made the transition, from what I had always
thought was a trader, to market-maker. I made enough money trading
beans, to buy a membership that allowed me to trade the relatively new
financial futures contracts, and made the move to the Bonds. The
business in the Bond pit was just beginning to grow, and was soon to
explode exponentially into the busiest and most volatile futures pit in
the world. The bonds were the beans on steroids. The transition to the
bond pit was like leaving the PGA circuit, strapping on a pair of
skates, and joining the NHL. In the bean pit, traders actually said
“thank you” after a trade. In the bonds, it was more likely to be “
f**k you”.
When 30yr bonds first began trading on the floor of the CBOT, no one
could envision how successful the new contract would become. The pit was
situated in a small annex connected to the main trading floor referred
to as the South room, summarily placed there as an afterthought,
adjacent to the members bathroom. To encourage traders to make a market
in this new contract, a financial futures membership was created that
could be purchased or leased at a relatively affordable price, which
meant the pit was populated by a very young and inexperienced crowd.
The bond pit might as well had been in another country and not in the
South room, because the grain traders never ventured into this foreign
land. Part of the reason was logistics - there was not any room in the
pit, and the existing “spots” that each trader had laid claim to, were
defended as if the trader’s survival depended on it. Bond pit real
estate became so coveted that traders would arrive at the exchange 3-4
hours before the market opened, just to place one of their trading cards
on the floor of the pit, in order to reserve a spot.
The success of the 30 year and the financial futures complex created the
need for more trading space, and in response the exchange built an
addition contiguous to the CBOT building. The grain pits moved onto the
new trading floor, while the financial futures complex moved into the
old grain room. The bond traders were finally able to
spread
their wings, as they relocated to the old soybean pit.The move to
bigger quarters couldn’t have come at a more opportune time. It was
1983 and the U.S. economy was plagued by double digit inflation. Fed
chairman Volker was determined to slow the rate of growth of the money
supply and dramatically raised interest rates. The fed funds rate which
was about 11% a few years earlier, rose to 20%. The prime rate and
short term rates skyrocketed to 21.5% and the long bond was yielding
around 14%. The demand for price protection in the bond market had
reached critical mass, and the bond futures contract provided dealers
with the optimal vehicle to hedge their risk.
The word quickly spread in the financial world, and in the Chicago
neighborhoods. The bond pit was the last bastion of pure capitalism and
entrepreneurship, and a place where you didn’t need a college degree or
an MBA as a prerequisite for entry. It was also a place where you
could make a small fortune. While the memberships had appreciated
almost 10X, leases were still relatively affordable.The “golden dream”
was still available to anyone who could pay the price of admission,
which resulted in a continuous flow of new traders, in and out of the
pit.
The traders who had begun their careers in the South room were among
the pioneers of financial futures. They had taken a chance, and had
ventured into a new, unknown territory and were now like modern day
gold miners who had struck it rich. A great many of them were now
multimillionaires, and this fact was not lost on the “full members” who
were still trading the relatively low volume, low volatility, grain
contracts.
The grain traders wanted a piece of the pie, but the bond traders
felt that the bonds belonged to them. They were the ones who had taken
the fledgling bond contract from nothing and developed it into the
largest futures contract in the world, and they weren't going to let an
old bunch of grain traders take that away from them. The grain
traders however, felt it was their exchange; after all they were full
members, and even though the financial complex was generating more
revenue than the grain complex, the majority of the bond traders were
only associate members.
Nevertheless, many a grain trader had attempted to grab a spot in
the bond pit, only to fail in their attempt, and return back to the
grain room with their tail between their legs. The grain traders’
answer came in the form of 40 y.o. George Edward Seals; the 6’3”- 260lb
ex-offensive/defensive lineman for the Washington Redskins, Kansas
City Chiefs, and the Chicago Bears. I had stood next to George in the
bean pit, in my early days at the Board, and found him to be one of the
most polite and even tempered guys in the pit, yet there was no
denying that his appearance was rather intimidating. After all, this
guy played with Dick Butkus, the toughest and most feared Bear of all
time.
George walked into the bond pit one afternoon, after the grains
closed, determined to squeeze into a spot - which he did. However, once
firmly ensconced in his space, he soon found out how different the
bond pit was from the bean pit. The bean pit was not only a boy’s club,
but it was a gentleman’s club. In the beans, orders were split-up
among the locals in a fair and equitable manner, and the brokers didn’t
jam you with size you couldn't handle. The guys in the bean pit
wanted to see the guy standing next to him make money, and would
actually let you out if you were stuck, and they were the right way.
If you wanted to trade with the brokers in the bond pit on a
consistent basis, you had to take whatever they gave you. If you
turned them down, they would not trade with you again. Trading bonds
entailed a great deal of risk, and required it’s participants to
readily adapt to an intense local environment if they were to survive.
George didn’t even last to the end of the week, and a grain trader
never tried securing a spot in the bond pit again.
The pit would best be compared to a locker room in both odor and
mentality and was not the place for sensitive types. In my first week in
the bond pit, I contracted conjunctivitis from getting spit on so
often, and was called a “kike”. The few women who ventured into the bond
pit did not last very long, although the attrition rate for men was
not much less. It was often said, that the temporal nature of trading
was the reason there were revolving doors on the CBOT building. It was
estimated that there were as many as 700 traders in the bond pit on
unemployment Fridays. We were so packed into the pit on those days,
that you could lift your feet off the ground and remain upright in
place. Even the act of carding your trades was difficult, so imagine
trying to concentrate and trade under these conditions.
The first Friday of the month, when the employment statistics are
released by the BLS, was either a trader’s favorite day of the month or
their least favorite day. Inevitably, it was your best or worst day
that month. For the brokers in the bond pit, it was overwhelmingly
their most dreaded and feared day. While the pit’s volume was almost
guaranteed to be the largest of the month, the attendant volatility the
report generated, disproportionately increased a broker’s risk. Many a
broker’s career was ended on “unenjoyment” Friday, while there were
also many personal best and personal worst P&Ls, experienced by
traders on that day.
Probably the biggest loss I personally witnessed a trader incur in the
bond pit, was shortly after a payroll number was released. Tom Baldwin,
the largest trader in the pit, and arguably one of the largest traders
in the world at the time, took a 5000 contract long position into the
number. In a matter of seconds, the bonds were limit down in the front
month, and Baldwin was looking at a $10 MM loss. As he tried to spread
out of his position in the second month, representatives from the
clearing association were literally pulling him out of the pit, so that
he could write them a check to cover his losses - which Tom reluctantly
did, quickly returning to the pit to continue trading out of his
position.
In the bond pit, size mattered - not physical, but the quantity you
traded. The bigger you traded, the better your spot. The better your
spot, the more money you could make. The big traders and the big brokers
all stood on the top step of the pit, and traded across the pit with
other top step traders and brokers. The rest of the pit was comprised of
“pits-within-the-pit” that (like the bean pit) synergistically
functioned as a whole. Once again, I stood next to a retail broker, and
once again the relationship between local and broker was quid pro quo.
The more a local helps a broker fill his orders, the more edges the
local gets on trades. If a broker makes a mistake that costs him money,
and the local “eats” his error, the local will usually get it back
two-fold.
While trading on the floor, commissions and execution
slippage
were not issues, so you could trade as much as you liked. In addition,
you could “feel” and see what was happening. I could easily tell if
the pit was long or short, and I could clearly determine what the
commission houses were doing, and if there was any institutional buying
or selling. If I wanted to know where there was support or resistance
or where the stops were, all I had to do was ask the broker standing
next to me. If he received a large
market order to either buy or sell, I could easily step in front of it, and then lean or get out against his order.
Regardless of these advantages and other edges the local enjoyed, if one was not disciplined and practiced good money management, one could
still get his ass handed to him. It still boiled down to limiting your
losses, pressing your winners, and adding to your winners. Scalping was
merely a numbers game. If you traded a large enough sample, let’s say a
1000 a side on the day, and you scratched half of them, lost a tic on
150 of them and made 1-3 tics on the remaining 350, you could easily
make $15000.00 after commissions and exchange fees, yet this would have still
placed you, in only one of the mid to lower P&L quintiles in the pit.
Steve L.'s last job before making his way to the bond pit was bagging
groceries at Jewel. In many ways, Steve was the archetypal bond trader.
He was a tall, athletic, Southsider, stuck in a low paying, dead end
job, who had a friend or relative who was making a lot of money, at one
of the exchanges. He did not have a college degree, nor any prior
knowledge of the bond market, trading, or technical analysis. Yet, he
was made for the bond pit. Steve was a gregarious person who quickly fit
in with the other traders and brokers in the pit, and along with his
physicality and willingness to “take size”, it allowed him to scale his
success in a dramatic fashion. He quickly grew from a 1-10 lot trader,
to one of the biggest traders in the pit, routinely trading 1000-5000
contracts at time, and experiencing seven figure intra-day equity
swings.
After suffering a serious hit one day, a visibly upset Steve was sitting
on the top step of the pit after the close, having just learned from
his clerk, what his P&L was for the day. The legendary Charlie D,
who was an even a larger trader than Steve, happened to walk by and ask
Steve’s clerk why Steve was so dejected. The clerk shared Steve’s
P&L with Charlie who was then overheard to sarcastically say, “
F++k, I thought he could handle dropping 2Mil, better than that!”
Superstition gave rise to a very ritualistic behavior among traders. If a
trader suffered a bad day he would look to avoid certain “abstract
behavior” or “random physical” items that he had identified or imagined,
would have caused or contributed to his bad luck. Conversely, if a
trader had a good day, he would look to recapture, repeat and reinforce,
the events that led up to his good fortune, and assign significance to
certain items he felt contributed to his success, in order to preserve
and perpetuate his luck.
If a trader was running late one morning, and neglected to shave and
then had a good day, the odds were that he was now growing a beard, and
just perhaps his boxers weren’t making it to the laundry hamper for a
while. Certainly he wasn’t getting rid of the pen he used to card his
trades that day, nor was the tie he wore that day coming off his neck
anytime soon. Most likely he was going to park in the exact same spot
the next day, follow the same route into the building, and walk into the
pit the very same way he did on that lucky day.
But most important of all in this perverse protocol, and the place where
the preciseness of your behavior mattered the most, was the veritable
“womb” of the CBOT - the members bathroom. It was the trader’s
sanctuary, a place where you could get away from it all, and find some
peace and quiet, if only for a "fleeting" moment. It was of paramount
importance you realized where you had sat, on any given trading day. If
you had a bad day, the stall you used that day was to be avoided at all
cost until further notice. If you were lucky enough to have “killed
‘em” that day, it was imperative that you claimed “squatter's” rights
to that stall in perpetuity. If it meant that you had to wait for the
third stall from the end on the North bank of johns because it was
occupied, and you missed your window or the opening bell, then this was
the price you were going to have to pay.
I had begun my career aspiring to become an astute, independent thinking
trader, yet had somehow devolved into this momentum chasing, blue
collar, bond gladiator. I had morphed into a predatory algorithm
programmed to take advantage of my knowledge of, and access to, the
customer order flow, and trade in front and all around it. This was in
fact, the real and accurate description of a floor trader. Yet somehow, I
felt lucky that I had been tenacious enough to secure and hold onto, a
valuable piece of bond pit real estate for the viable duration of the
contract.
Futures exchanges had sprung up to fill a need for producers to hedge
their risk, but it had become questionable if a genuine service was
being provided, or if the exchanges and traders were just redistributing
the wealth for the benefit of themselves. Not that I was complaining
mind you, because I was making an inordinate amount of “easy” money. But
like any inhabitant of any welfare state, I had become content, and
was not prepared for the inevitable move to screen based trading. I
underestimated the disconnect between the floor and the screen and it
wasn’t until I accepted the reality that I didn’t know anything about
electronic trading, was I able to begin to learn how to trade again.
Everything I knew as pit trader had to be eliminated from my mind as I
began anew, tabula rasa.
The majority of successful floor traders could not transfer their human,
pit based “skill set” onto a human-less, computer screen. Being honest
with myself and letting go of what had previously worked for me, and
had been responsible for my success in the past, was the most difficult
part - but it was a start. It was the greatest psychological hurdle I
had to overcome on the road back to becoming a successful trader.
However, it was a necessary prerequisite if I wanted to provide myself
with the best chance for success. In the final analysis, electronic
trading has made me a smarter and better trader. No longer playing with
the "house edge", it has forced me to relearn my craft, adapt, and
re-invent myself. And, it is in the ways, in which we adapt to change,
that ultimately defines our success.
