Zero Is a Clenched Fist
- Out of the Pits: Traders and Technology from Chicago to London by Caitlin Zaloom
Chicago, 224 pp, £18.50, November 2006, ISBN 0 226 97813 3
The new financial trading floor of the Chicago Board of Trade is a striking sight, and Caitlin Zaloom describes it well. Opened in 1997, it occupies a ‘huge stone block’; the trading floor itself is ‘the size of Grand Central Station’, and has no windows or even a public entrance. The walls are ‘unadorned granite, shiny, cold and imposing’, with huge electronic displays of prices, index levels and interest rates running across the top. ‘Diffuse, bright, fluorescent light comes from the fixtures four stories above . . . There are no internal walls to break up the space.’
The stepped amphitheatres – the pits in which trading traditionally takes place – are the floor’s dominant feature. In November 1999, when I visited, the pits were crowded with well over a thousand people – nearly all men, although there were a few women who survived, even thrived, there. The crowd that day wasn’t in the frenzy one is accustomed to seeing on television or in films. Indeed, nothing much seemed to be happening, and I felt a little let down. I hadn’t yet learned that there are extensive dull spells in any market, when no big orders arrive and prices seem hardly to move.
A young woman was showing me around, braving the odd wolf whistle from the steps of the pits. She probably noticed my disappointment, and when a huge roar came from another part of the floor, we quickly made our way to its source, the largest of the pits, which dealt in futures on ‘long bonds’, the long-maturity – up to 30-year – debt of the US Treasury. A ‘future’ is a standardised contract, equivalent economically to the two parties having undertaken to trade a given quantity of assets at an agreed price at a set time in the future. None of the usual market-moving factors had caused the excitement. Alan Greenspan hadn’t said anything; neither the dollar nor the stock market had suddenly plunged or soared. Instead, a trader had started using the lid of a large plastic tub as a frisbee.
The lull of that morning in 1999 was temporary: the markets were quiet because they were waiting for the unemployment rate to be published the following day, a number that moves markets because of its potential impact on decisions about interest rates. When I visited Chicago again the following year, its ‘open-outcry’ pits were still thriving. At the Board of Trade, orders were still often carried to the pits on pieces of paper by runners and clerks, and then shouted out by traders or ‘flashed’ to others in the pit using the hand-signal language known as ‘arb’ – an abbreviation for arbitrage, the exploitation of discrepancies in prices. If a discrepancy is spotted, there isn’t usually time to dispatch a runner. Palm outwards signals an offer to sell; palm inwards, a bid to buy. Fingers indicate quantities and the final digits of prices; everyone knows what the leading digits are. Zero is a clenched fist.
As I stood and watched, contracts worth huge sums were agreed by shouts, or by eye contact and hand signals. In November 1999, buying a single Dow Jones futures contract was roughly the equivalent of buying shares worth $110,000 – and if you dealt only in single contracts you weren’t considered much of a trader. When trading futures, you don’t have to pay the full purchase price, but only to maintain an appropriate level of ‘margin’ deposit; that’s a crucial part of what makes futures attractive. The potential for gain or loss, however, is just as big as it is in trading the underlying asset.
Chicago’s open-outcry trading, a way of life stretching back to the grain-futures pits of the 19th century, was on the brink of disappearing when I visited the Board of Trade in 1999 and 2000. There were already signs that technology was encroaching: headsets were increasingly used instead of runners to communicate between the pits and the booths where customer orders arrived, and a few traders carried hand-held computers. Since 2000, Chicago’s pits have emptied, and those who still stand in them focus less on the people around them than on their computers, which are no longer an adjunct to trading but essential to it. Chicago remains central to the world’s financial markets – its recent merger with the Chicago Mercantile Exchange has made the Board of Trade part of the world’s largest exchange – but as the hub of electronic networks, not as a set of huge rooms crowded with bodies.
Despite the role it has played in shaping today’s world, there are few observational studies of financial trading to complement the thousands of econometric studies of price fluctuations. Zaloom’s superb book is a double-site ethnography. She first worked as a runner on the Chicago Board of Trade, like any good anthropologist learning the local language – she’s proficient in arb. Then she moved to London, where open-outcry trading has now vanished (except in such niches as the London Metal Exchange’s venerable ‘ring’), and where she was trained in and then practised the very different skills of the electronic trader.
At first, a busy Chicago pit looked like bedlam: hundreds of people jumping up and down, gesticulating, shouting and jostling each other, every now and then even throwing a punch. Yet the appearance of chaos hid a complex social order, which Zaloom delineates beautifully. Pit traders faced each other day in, day out, year in, year out. Friendships, cliques and hostilities abounded. You quickly learned who ‘did size’ (traded hundreds of contracts at a time) and who traded only in ‘five-lots’ or less – contracts amounting to a mere $500,000 or so.
Where you stood in a pit reflected your economic and social status, with the top rung reserved for the brokers who brought large customer orders and the experienced, well-financed traders who could accommodate them. No formal rule barred a neophyte trader who didn’t yet ‘do size’ from the upper rungs, but someone who tried to stand there before having earned the right to do so would have been shoved back into the lower-level ‘soup’ in which he belonged.
Open-outcry trading is a continuous double auction, a market mechanism well regarded by economists, in which traders competitively quote not only their bids (the prices and quantities at which they will buy) but also their offers (the prices and quantities at which they will sell). Even a very large order from an external customer, whether to buy or to sell, could be accommodated quickly by a Chicago pit; the broker who handled it would often divide it up among a number of traders. There was no need always to find an external buy order that matched a sell order (or vice versa), because pit traders were ‘market makers’. They took on some of the risk on their own or their firm’s account, hoping to make money by successfully predicting short-term price moves, or simply by buying, on average, at the prevailing bid price and selling, on average, at the higher offer price.
Ties of reciprocal obligation could easily form in a pit. Unless you ‘blew up’ (became bankrupt), you might stand in the same pit for years, even decades. Some of those who blew up found a way back in. Traders might, for example, take on a position that they knew would probably cause them to incur losses in order to help a broker fill an external customer’s order at a reasonable price. They would be confident that the grateful broker would bring them a healthy share of attractive orders in the future. According to the formal rules of pits, if several traders are quoting the same bid or offer, the broker must strike the deal with the first whose shout he hears or hand-signal he sees. But as anyone who has tried to attract the attention of a busy waiter knows, it’s easy to avoid hearing or seeing someone when you don’t want to.
Pit trading was a hard skill to learn, requiring a specific, disciplined emotional attitude: the capacity to set aside money’s ordinary referents, to avoid being unduly influenced by having lost, or being in danger of losing, the equivalent of a car, a child’s college education or a house.
Furthermore, traders obviously needed money. Even a pit trader who didn’t ‘do size’ had to be able to maintain margin deposits and absorb at least modest losses. The capital required went beyond the resources of most working-class or middle-class people, and Chicago’s pits didn’t attract large numbers of the already privileged. Since an inexperienced trader wasn’t a plausible applicant for a large bank loan, traders usually had to find others prepared to back them financially. Hence the importance of an informal apprenticeship, working as a poorly paid clerk or runner. Such a job helped you not only to learn practical skills such as arb, but also to witness the exercise of self-discipline. Traders could assess whether a clerk or runner who wanted to start trading was the kind of person it might be worth backing financially.
Chicago’s tightly-knit neighbourhoods seem to have helped, by providing recruits who would already be known through family and friends. It’s common to find traders whose fathers or uncles had also been in the pits, and even in the 1990s there were still traces of an ethnic divide. The Board of Trade had been the province of Chicago’s Irish community, while its rival, the Chicago Mercantile Exchange – originally Chicago’s junior exchange, trading futures on butter, eggs and onions rather than grain, but more successful as a financial market in recent years than the Board of Trade – was often thought of as dominated by the Jewish community.
In a pit, a degree of trust between nominal competitors was needed. Once a deal was struck by voice or by hand-signals and eye contact, each party recorded the details on a trading ‘ticket’, and their clerks then reconciled the two tickets. I was told that on the Board of Trade in the late 1990s the clerks typically found discrepancies in as many as 5 to 10 per cent of cases – in open-outcry terminology, these are known as ‘out trades’. The system of separately recording trades was vulnerable to opportunism. If it became clear that a trade would cost you money (and that could become clear in seconds), you could deny having entered into it and discreetly discard or fail to fill in the trading ticket.
Out trades and opportunism could have crippled open-outcry trading, but they didn’t. Out trades were typically settled quickly and efficiently on a rough-justice, split-the-difference basis, and opportunism was very rare. Perpetrators would be frozen out from subsequent trading: who would catch the eye of a known opportunist? Chicago’s pits were places of repeated interaction between people who knew each others’ identities and reputations, not places where atomistic economic agents confronted each other anonymously.
Open-outcry pits were also places of the body. Pit traders tell stories of the voice coach who taught them how to shout repeatedly without becoming hoarse; of the need for bladder control; of knees giving way in middle age from the strain of standing all day, every day; of shoes with platform heels to give an economically crucial extra inch or two in height, and the inevitable accidents then caused by tripping on the steps of a pit; of being showered with spit from a shouting neighbour; of the fear of being stabbed in the eye with a pencil, and realising that that fear means it’s time to retire; of catching a glimpse (contrary to etiquette) of a large order being flashed to the pit, and taking instant, profitable action; of noting the arrival in the pit of a broker who worked for a big, predictable customer; of a friendly broker being prepared to indicate, via a discreet hand movement, whether the balance of customer orders he would seek to fill in the frantic last seconds of a day’s trading was to buy or to sell; of the information conveyed by the level of noise in a pit; of watching for the uneasy fidgeting that indicates fear, or listening for a voice making the fatal transition that Zaloom describes from ‘controlled loud’ to ‘panic loud’.
It’s not surprising that external customers and pit traders often have sharply conflicting attitudes to electronic trading. It gives customers direct, low-cost market access, while making the pit traders’ bodily skills redundant and at least part of their networks of personal relationships irrelevant. Across the world, pit traders fought to preserve the pit – most fiercely in Chicago, where the open-outcry pit was born – but electronic trading has triumphed.
Pit traders typically find the transition to electronic trading hard. In place of the rich sensory information provided by a pit, the market is represented to an electronic trader of futures as two coloured bars dancing up and down the screen: red for offers, blue for bids. The bars are subdivided according to the allowable prices at which deals can be struck (for each type of future a rule specifies the ‘tick size’, the minimum price increment), and each subdivision contains a constantly changing number indicating the quantity of bids or offers at each price. Next to the bars is a box indicating the price at which the exchange’s computers have most recently been able to find both a bid and an offer, and have thus been able to conclude a transaction.
The bids and offers on the screen are anonymous, and unlike a human body or a voice they never directly convey confidence or fear. Getting the best access is essentially a matter of being prepared to pay for it, for example by buying membership of an exchange. You don’t have to punch someone who is trying to push you off the top rung, or prove that you are worthy of standing there.
So has an individualised, atomistic, asocial market finally been created? Zaloom’s answer is ‘no’. Her fellow electronic traders struggled hard, and sometimes successfully, to turn the impoverished information on their screens into a meaningful cast of characters. You couldn’t any longer see a clerk flashing an order or notice a broker walking towards the pit, but you could see when the total bids or offers at a particular price suddenly jumped or fell by a large amount, especially a large round number: for example, from 471 to 971. That was taken as the typical sign of the arrival or departure of a big player.
Special attention, Zaloom notes, was placed on spotting a ‘spoofer’, someone who places a large number of bids just below the prevailing market price, or offers just above it, hoping to convince others that demand outweighs supply, or vice versa, and that prices are about to move accordingly. A spoofer doesn’t want the bulk of his bids or offers to turn into trades, and indeed might not be able to meet the margin demands if they do. He will want to remove the majority of the bids or offers before the computers’ order-matching algorithm can turn them into trades, but to profit in the meantime from doing a smaller number of trades at temporarily favourable prices. If another trader detects the electronic traces of a spoofer, he can profit by ‘riding the spoofer’s tail’, also trading at favourable prices. A brave and well-financed trader can even call the spoofer’s bluff, ‘selling into his bid’ or ‘buying his offer’, and waiting for the spoofer’s nerve to fail or for his capital limitations or management-imposed position limits to be reached.
Few markets are in reality entirely anonymous and electronic. Especially when very large trades are concerned, people typically want to know who they are dealing with before quoting a firm price. The pervasive fear is of trading with someone who knows something that you don’t. You’ll often get a better price if you can convey convincingly that you don’t know anything – if, for example, you can make it clear that you are an index-tracking fund and are buying or selling shares simply to ensure that your portfolio continues to match the composition of the index.
In some supposedly anonymous electronic markets, participants sometimes signal their identities by offering to buy not 10,000,000 shares, but 10,000,467, or bidding at $92,700,059: the ‘467’ or ‘59’ is like a codename. More commonly, however, electronic trading is supplemented by telephone broking or ‘voice broking’. Voice brokers help to handle orders so big that they would have an undue, costly impact on prices if they were placed wholesale into the electronic trading system, and they facilitate the trading of products that are more complicated than standardised futures.
Brokers don’t only find buyers to match to sellers and vice versa. They’re also repositories and conduits of information. Broking is ‘a relationship business’, traditionally cemented by extensive, and expensive, entertaining. (I’m told that as both brokers and their clients have aged, there’s less drinking and late-night entertainment than there used to be.) A good broker has at least a rough idea of what his clients (most brokers are men) are trying to do, and what they would do if offered a particular quantity of a product at a specific price or an inter-bank deposit at a particular interest rate. There’s an etiquette that governs broker-client conversations. You’re not allowed to pass on what Deutsche Bank, for instance, is doing, but a euphemism such as ‘a big German’ is sometimes acceptable.
As Zaloom emphasises, the ideal of the anonymous, atomistic market is a powerful one, but it’s probably destined to remain just that – an ideal. I’ve spoken to lots of professional traders, and found few who think of themselves as individuals confronting an impersonal market. All the markets I know well are full of gossip about who is doing what and why, and this gossip is often consequential in terms of what is done and when.
Traders’ culture is rich and reflexive. The new academic specialism of ‘behavioural finance’ uses experimental evidence and price data to identify psychological biases that affect the way traders behave, but traders already understand at least some of those biases. A common one, for instance, is the reluctance to realise a loss by liquidating a loss-bearing position. Even professional traders will often avoid selling securities in a situation in which they would never dream of buying them, because to sell them would turn a paper loss into a real one. Traders call being attached irrationally to a position being ‘married’ to it. In the pits of the Chicago Board of Trade, Zaloom says, traders could sometimes be heard humming the wedding march in mockery of each other.
With their gossip, their rich cultures, and their social bonds (still important, even in the epoch of electronic trading), financial markets are asking to be studied by the methods of social anthropology or qualitative sociology. But getting access, especially for observational work, is difficult. You’re often ‘studying up’, as anthropologists put it: researching those higher in the socio-economic scale. As a professor at a well-known university with a few letters after my name, I don’t usually have trouble persuading people to let me interview them, but it’s noticeably harder in financial markets than elsewhere.
Zaloom got lucky. Friends in Chicago offered her a place to live in their basement apartment, and they had a son who traded futures on the Chicago Board of Trade. When she asked for an exploratory interview, he said: ‘I can’t tell you anything. It is just something that you have to see for yourself . . . Can you be at work on Monday?’