An Ethnography of Making Markets in Chicago a DISSERTATION

NORTHWESTERN UNIVERSITY

Working at Risk: An Ethnography of Making Markets in Chicago

A DISSERTATION

SUBMITTED TO THE GRADUATE SCHOOL IN PARTIAL FULFILLMENT OF THE REQUIREMENTS

for the degree

DOCTOR OF PHILOSOPHY

Field of Anthropology

Gail E. Eby

EVANSTON, ILLINOIS

JUNE 2008

ABSTRACT

Working at Risk: An ethnography of making markets in Chicago

Gail E. Eby

This dissertation examines the role of market makers in making markets for options and futures on Chicago’s derivatives exchanges. Recent institutional and technological changes in the ways that financial products are traded have given rise to the possibility of markets without market makers, raising the question of how these developments alter the relationships between market participants, and the effects of those alterations. This dissertation draws upon ethnographic fieldwork with a group of market makers in options and in futures trading across Chicago’s derivatives exchanges. The research methods include interviews and participant observation, as well as gathering secondary data. I address first changes in the institutional setting of trade, drawing out the historical context of the acquisition of the Chicago Board of Trade by the Chicago Mercantile

Exchange, looking at how the market itself is made. I then turn to the ways in which market makers experience their participation in their markets, and find that they confront four principal challenges. The first challenge is that of maintaining behavioral standards within a market. The second challenge is that of mastering the skills required to manage risk. The third challenge is that of self-management. The final challenge is that of changing technology, whether on the trading floor or in an electronic system. I found

4 that markets do not arise effortlessly, but are instead the outcome of a process of ongoing effort, negotiation and re-negotiation on the part of participants.

ACKNOWLEDGMENTS

This dissertation has benefitted from the support and generosity of many people.

I was fortunate to have an outstanding committee. Timothy Earle has been a wise and generous intellectual guide and mentor over two continents, two universities, two centuries, and over projects spanning the Neolithic to the present day. It seems appropriate that our final project together is one that looks toward the financial future.

Helen Schwartzman has shared generously of her experience and insights, and kept both me and the project grounded and focused, seeing possibilities even when I did not.

Robert Launay’s work on traders without trade helped me to understand the world of traders with trade; he also reminded me that anthropology should be serious, but it should also be fun. Northwestern has been a stimulating and collegial place to be a graduate student, due in no small part to the leadership of Bill Leonard; I owe him my thanks as well.

At UCLA, my thinking about money and markets was shaped and sharpened by conversations with Jean-Laurent Rosenthal and with Stephen Munzer. At Northwestern, this project had its genesis in a class taught by Annelise Riles; I thank her and Hiro

Miyazaki for introducing me to new ways of thinking about anthropology and financial markets.

Thank you to Chris and Gwynne Attarian, Rob Beck, Maria Bidelman, Douglas

Bolender, Marian Caudron, Beth Fulkerson, Patricia Hamlen, Kristina Kelertas, Josh

Kellman, Elise Levin, Anne Lovelace, Belinda Monahan, Karen Poulson, and Kara

Reichart for your friendship. In the course of this project, I benefitted from the surgical skills of Dr. Edwin Kaplan and Dr. Ivan Ciric; I cannot thank them enough for their roles in making this work possible. My family has been extraordinarily supportive, emotionally and financially, throughout this rather lengthy process; this is as much their achievement as it is mine. I also benefitted from University Fellowships I received from

Northwestern University.

Finally, none of this would have been possible without the extraordinary participants. I owe you all an enormous debt of gratitude for introducing me to your craft, and for sharing your time and skills and wisdom and experience. I learned more from you than I could ever fit in a single dissertation, and I hope that this work has captured a small part of the reality of your lives and work.

For Jocelyn, Charles and William, with love

TABLE OF CONTENTS

ABSTRACT ...... 3

ACKNOWLEDGMENTS ...... 5

CHAPTER 1: INTRODUCTION: WORKING AT RISK ...... 9

CHAPTER 2: EVENTFUL EXCHANGES ...... 39

CHAPTER 3: THE PRODUCTION OF VIRTUE ...... 72

CHAPTER 4: LES JEUX SONT FAITS ...... 102

CHAPTER 5: DISCIPLINE AND PROSPER ...... 137

CHAPTER 6: LIQUID MARKETS ...... 169

CHAPTER 7: CONCLUSION: FUTURES AND OPTIONS ...... 204

BIBLIOGRAPHY ...... 212

Chapter 1: Introduction: Working at Risk

A central trope of the recent Western past has been the idea that markets work.

Markets are commonly portrayed as natural, positive and powerful, as occurring inevitably wherever the fetters thought to constrain them are removed. If humans could be said to have a natural state, this line goes, it would be the Smithian propensity to truck and barter. This project arose in response to this trope of effortless, natural markets. The project sought to answer several questions: “How do markets work?” “How do they arise?” and “How are they maintained?” This project is far from the first to ask these questions and others like them, but they were asked of a setting that is relatively novel for anthropologists, the heart of contemporary finance, the derivatives markets of Chicago.

There the questions were asked of some of the people most qualified to answer them, the actors who bring markets into being and maintain them, the category of economic actor known as market makers. The research was carried out at a critical period in the history of the exchanges in Chicago, between 2001 and 2003, with traders who made markets in both futures and options (and options on futures) in a range of markets across all of

Chicago’s derivatives exchanges. This dissertation is an account of the ways in which those traders participated in making the markets that they traded, the challenges that they faced and the lessons that they learned, and imparted in turn, about the sum of their experience in how participants shape and are shaped by the economic action.

The global market

This research was conducted across four contexts – the global derivatives market, the city of Chicago, the exchange trading floors of the city, and among market makers.

The first of these contexts is the global market for derivatives. Most broadly, derivatives are financial instruments that change in value in relation to price movements in an underlying instrument (such as a stock). They derive their value from the underlying product, ergo the term derivative. In practice, the majority of derivatives traded on exchanges are futures contracts and options contracts. A futures contract is an agreement between two parties, a buyer and a seller, to exchange a particular good for a particular price at a particular date in the future (ergo “futures”). An options contract is similar to a futures contract except that the buyer pays to buy the contract, and has the right, but not the obligation, to take delivery. The buyer has the option to use the contract, but not the obligation (ergo “options”).

The global market for derivatives is enormous and growing. In 1997, the value of traded derivatives was a staggering $360 trillion (Levin 2004:1) In 1998, the average daily turnover in the foreign exchange derivatives market was $1.5 trillion (Knorr Cetina and Bruegger 2002:906). In 1999, the notational value of derivatives traded in Chicago alone was $217 trillion; for comparison, the notional value of contracts traded on the

New York Stock Exchange in the same period was $7 trillion (Bass 1999:13).

MacKenzie and Millo report that “By June 2000, the total notational amount of

11 derivatives contracts outstanding worldwide was $108 trillion, the equivalent of $18,000 for every human being on earth” (MacKenzie and Millo 2003:109). Notational value of contracts tells part of the story; the other part of the story is the volume of contracts, which is the primary venue in which exchanges compete. As of May 2007, the volume of contracts traded on all exchanges worldwide reached 5.8 billion (Burns 2007:10-13). The leading exchange between January and May 2007 was the Korea Exchange, with

1,155.15 million contracts traded (up 1.38% from the year before), and the second largest the Frankfurt-based Eurex, with 774.28 million contracts (Burns 2007:10-13). The

Chicago Mercantile Exchange was third with 650.75 million contracts (up 19.57%), the

Chicago Board of Trade fourth with 393.38 million contracts (up 19.21%) and the

Chicago Board Options Exchange was seventh with 351.63 million contracts (up

27.65%). Together, the Chicago exchanges traded an overwhelming 1395.76 million contracts (Burns 2007:10-13).

The market in Chicago

The second context for this research is the city of Chicago. High finance has been identified as driving the contemporary global city (Sassen 1991) though Chicago is rarely, if ever, on the list of cities constituted by high finance in the sense that New York,

London or Tokyo are understood to be nodes of global trade. However, as Abu-Lughod points out, the exchanges of Chicago “constitute central nodes of the higher circuit of arbitrage and currency trading” that comprise the new global economy (Abu-Lughod

1999:327). The exchanges are relevant not only in terms of their present-day status, but in terms of their role in the development of trade in derivatives. The Chicago Board of

Trade was founded in 1848; though not initially founded as a futures exchange, modern futures contracts came into being on the exchange, making it the first true futures exchange. In the early 1970s, the Chicago Mercantile Exchange essentially invented modern financial futures trading when the established traded in futures on currencies. At about the same time, the Chicago Board of Trade inaugurated the first exchange-based trade in options, founding what would become the Chicago Board Options Exchange.

Though the Chicago exchanges do not dominate global derivatives trading in the same way that they once did, they nonetheless maintain a formidable presence.

The modern history of derivatives – and particularly exchange-traded derivatives

– is closely intertwined with the history of the city of Chicago. Though the Chicago

Board of Trade was not founded as a futures exchange – it was founded in 1848 as a sort of Chamber of Commerce for the city – innovations in the trade and transport of grain into Chicago on rails and out of Chicago on ships, as well as the needs of militaries fighting the Crimean and Civil wars quickly transformed it into an exchange for the trade of the first futures contracts to be traded on a large scale (Cronon 1991; Falloon 1998;

Lurie 1979). The Chicago Mercantile Exchange followed suit, founded in 1874 as the

Chicago Produce Exchange and undergoing a series of institutional shifts before emerging as the Chicago Mercantile Exchange in 1919 (Tamarkin 1993). The two exchanges gradually added (and subtracted, when a contract either lost significant

13 volume, or in the case of the Merc, was banned) contracts and products, and grew at a steady but unspectacular rate over the years.

All of that changed with the introduction of financial futures in the early 1970s.

On the Merc, the end of the Bretton Woods agreement, which allowed foreign exchange rates to fluctuate relative to one another, permitted the Merc (with the assistance of

Milton Friedman, then a professor of economics at the University of Chicago) to introduce futures pegged to exchange rates for various currencies (Tamarkin 1993). On the Chicago Board of Trade (CBOT), the first interest rate products were developed, and the Chicago Board Options Exchange was formed, first within the CBOT, and then spun off as its own exchange, for the trade of options. The creation of the CBOE was also assisted indirectly by the University of Chicago, when Fischer Black and Myron Scholes

(Black and Scholes 1973) published an equation for the valuation of options which soon made possible the relatively rapid and straightforward pricing of options by non- specialists. The development of financial futures and options lead to a nearly exponential growth in the volume of derivatives trading, the vast majority of it on Chicago’s three exchanges. Though the Chicago traders soon exported their skills far and wide, participating in the formation of exchanges in Sydney, London and elsewhere, Chicago remained the heart of derivatives trading. Both exchanges established electronic trading systems in the mid-1980s, but the bulk of their transactions, and thus the bulk of exchange-traded derivatives in general, remained in open-outcry floor trading.

By the end of the 1990s, the Chicago exchanges began to cede their dominance to other exchanges. The CBOT, which had been the undisputed volume leader (the Merc had long been the leader in dollar terms, but the competition between exchanges is measured in terms of volume – of the number of contracts traded, as opposed to their value) lost their crown first to the London International Financial Futures Exchange

(LIFFE) and then to the Frankfurt-based all-electronic exchange Eurex. Even the Merc, the perennial runner-up to the CBOT, overtook them, though they were unable to overtake Eurex. The CBOT attempted an alliance with Eurex which would shift the

CBOT’s electronic volume from their existing electronic system to Eurex’s electronic platform, a plan which quickly drew fierce opposition from many CBOT members, and played a role in a shift in leadership from the chairman who had spearheaded the alliance to a chairman who promised to cancel the agreement. Following the election, the alliance was off, then back on, then attenuated, and finally dissolved following the announcement by Eurex that they planned to open a US-based exchange which would compete directly with the CBOT in many of the CBOT’s benchmark products. At the same time that the

Merc and CBOT lost volume to LIFFE and Eurex, the options exchange, CBOE, lost volume to an all-electronic New York-based exchange, the International Securities

Exchange (ISE), volume they have yet to regain. Both the Merc and the CBOT demutualized and their stock began trading. In 2007, the Merc made an offer for the stock of the CBOT; the Atlanta-based Intercontinental Exchange (ICE) sought to take over the CBOT as well, but after the Merc sweetened its terms, the CBOT shareholders

15 voted to accept the Merc’s offer. Following the merger, the CBOT will be somewhat subsumed, becoming a part of the CME Group. The new entity will be a force to reckon with, with an enormous market capitalization and large and deep markets in all of their benchmark products. The combined exchanges will pose a significant challenge to

Eurex, and any other exchange that cares to challenge them. It is likely that the CME

Group will make further acquisitions; the CBOE is a possible candidate for acquisition, which would further cement Chicago’s consolidation as the once and future capital of derivatives exchanges. At the same time, few would have predicted the events of the past ten years, which may be instructive when looking ahead toward the next ten years.

The floor and the screen

The third context for this research has been the trading floors and offices of

Chicago’s exchanges. All three exchanges were founded as, and have remained, open- outcry exchanges. In open-outcry trading, a trade originates with a customer off of the floor, who communicates the order to his or her broker. The order is then send to the brokerage desk on the floor, where it is either given to a runner or signaled into the pit, where the floor broker in the pit exposes the order to the crowd. The market makers in the pit then compete to give the broker the best price for the order, the transaction is made between the broker and the wining market maker, and the order is then communicated back to the desk and from there back to the customer. On the trading floors, each product has a pit (also known as a crowd), and the pit (or crowd) is the entire market in that

16 product. I was able to observe the trading pits both from the visitors’ galleries and from the floor.

On exchanges, futures and options are traded within two technologies – open- outcry trading and electronic trading. In open-outcry trading, participants gather in a single physical location (usually a trading pit) and bids and offers are indicated by shouting, hand signals, or a combination. In electronic trading, trades are entered into the system by customers who use a front-end trading software application and are then processed by a matching engine using one or a combination of a number of types of matching algorithms. Open-outcry trading was the predominant method of trading until the mid-1990s; since then, electronic trading has accounted for a steadily increasing amount of trading volume, to the degree that trading floors of many exchanges have ceased operation. Floor trading is far from anonymous for the direct participants, since they must meet every trading day in order to conduct business, while screen trading is largely anonymous – one knows the identity of one’s counter-party to a trade only once a transaction has been completed.

During the period of my research, the floors were undergoing a shift from open- outcry to screen trading. Options occupied an interesting position with regard to this shift

– while most institutional options (the majority of those traded in on Chicago’s exchanges) were, and still are, traded in open-outcry markets on the trading floors, the futures markets were in the process of shifting with increasing rapidity to screen trading.

That meant that while the traders were trading their primary product on the floor, they

17 were trading the underlying product (since many options, and all of those in the markets that I observed, are options on futures) on the electronic markets. In this way, I was able to observe trading in both electronic and floor technologies, and solicit observations as to how the markets worked from traders who had experience in both technologies, and who could compare their experiences across technologies.

The market makers

The fourth context of this research has been the market makers who inhabit the pits. Each trade in a pit is carried out between a broker, who brings the order to the pit, and a market maker (also called a local), who takes the other side of the trade. A market maker stands ready to be the buyer to every seller, and the seller to every buyer. For example, if a customer decides to buy an option to purchase Google stock at a particular price six months in the future, the market maker for Google stock is ready to step up to take the other side of the trade. Unlike brokers, who simply convey the order from the public to the pit, the market maker makes the market – a market maker takes the other side of every order that comes to the pit. If a customer decides he or she wants to buy an option to buy Google stock in six months, he or she does not have to wait until another customer enters the market who wants to sell an option to buy Google stock. The market maker takes the other side so that the customer can execute the trade without waiting for an offsetting trade. Market makers bring three things to the market: depth, liquidity and instantaneity. They bring depth in that they make it possible to trade a wide range of

18 products – not only options on Google stock, but options on lesser-known, smaller and more thinly traded stocks and other products. They bring liquidity in that if a customer decides that he or she wants to get out of a Google option, he or she can sell it back to a market maker, so the customer is not forced to stay in a position he or she does not want.

They bring instantaneity in that the customer does not have to wait for a buyer to enter the market when he or she wants to sell, or for a seller when he or she wants to buy. In that sense, they make the market. While that isn’t as necessary in a product like Google stock that is actively traded, it is very important in a more thinly traded or uncertain product.

Economic ethnography

The fieldwork for this dissertation was done with a group of traders who worked together and backed one another to trade a range of products on the futures and options exchanges of Chicago. Within the trading group, the traders traded on both the trading floors and on the electronic platforms. For purposes of maintaining the confidentiality of the traders, I have used a pseudonym for any individual trader, and have not identified any specific products that they trade. Where details are given (for example, the size of a contract or the nature of interactions within a pit), they have been altered such that they do not correspond to the features of any specific product or trading pit or environment.

Any resemblance to any individual, product or pit is entirely accidental. Where market conditions are discussed, they cannot be taken as precise descriptions of actual market

19 conditions (e.g., the price at which a contract was trading as a particular time, or the size of the contract). I do discuss the exchanges in their particulars where appropriate, but no relationship may be assumed between any exchange, firm, product, pit and/or individual.

The group of traders that I interviewed was comprised of market makers, traders who provide liquidity to the market, who had formed, as many market makers do, a partnership group for purposes of trading across a range of products. I chose to focus on options traders for two reasons – first, the ‘mathness’ of options, which are valued using complex mathematical formulas, increases the ‘marketness’ of the transactions – that is, the delineations between luck and skill are more clearly drawn, and then lines between commodity and culture are likewise easier to detect. Secondly, options are less easily conducted on electronic trading systems, making the transaction from floor trading to screen trading a different, and more gradual, one than the transition taking place in futures markets. Though more ‘rational’ than futures, options are also more relational.

My research was somewhat different from that undertaken with brokers. On the trading floor, brokers bring order flow to the trading pits, and within the rules of a given pit, floor and/or exchange, may choose to direct – or not direct – that order flow to a given market maker. On the floor, orders come to the floor from customers through the broker, and the broker exposes them to the pit, and allocates them to the competing market makers in the pits within strict parameters. Within those parameters, however, the broker has enough latitude that a market maker must remain on good terms with the

20 brokers near him 1 if he wants to get order flow. That means that working under the aegis of a broker nearly automatically alters any interactions that a researcher has with market makers. For this reason, I chose to work directly with the market makers themselves.

The group of traders was largely, though not entirely, male. They were also, but not entirely, options traders. In many cases options traders are also de facto futures traders. That is for two reasons - first, many of the options traded on exchanges are options on futures, so traders participate in both the options and the futures markets in the products that they are trading, as the price of the options changes with each change in price of the options, meaning that traders must receive a constant flow of information from the futures pits, whether hand-signaled by an arb (short for arbitrage) clerk standing at the edge of the pit, or by some type of data feed. Second, much of the skill of options trading, particularly for options traders, who are prepared to take the other side of any order that comes to the pits, is in the hedging of the risk of the resultant market position, hedging that takes place in whatever product the trader uses to hedge his exposure, whether those be futures, other options, interest rate products, and so on.

My research was comprised of formal interviews with the traders, as well as participant observation on the trading floors. The interviews took place in 2003, and were conducted in the trader’s offices. Of the traders, 86% were men and 14% were woman. It was not possible to determine how accurately that reflected the gender makeup of the floor in general. Half were Chicago natives. All of the subjects had

1 Because the vast majority of floor traders are male, I will use the masculine pronoun for all general references.

21 completed college, about half in finance-related topics, and half attended a college or university located in Illinois. Their degree of experience varied from relative beginners to traders with over fifteen years of trading experience. Some had been market makers in only one product in their career, and others over as many as four different products. All began their careers as clerks on the floors of the Chicago exchanges.

This is the context in which I carried out my fieldwork – in a period of uncertainty, populated by uncertain actors – actors who are accustomed to having to predict risk, and make a living from their predictions, but less accustomed to pervasive insecurity. My fieldwork lies within the small (but growing) group of ethnographic studies of open-outcry exchange floors. This group includes two studies of trading on the

Chicago Board of Trade (Abolafia 1996b; Miyazaki 2003; Zaloom 2006), one on the

Chicago Mercantile Exchange (Glick 1957), one of the Chicago Board Options Exchange

(Baker 1981; Baker 1984),2 and one identified only by a pseudonym (Levin 2004).

Zaloom and Levin both carried out fieldwork on open-outcry exchanges and with screen traders working in settings other than open-outcry exchanges; in Levin’s case, banks and boutique firms in the interbank market and in Zaloom’s case, a proprietary trading group based in London. Miyazaki carried out work with Japanese floor traders working in

Chicago and in Japan.

2 Though Baker does not identify his research site in his work, it has since been identified by MacKenzie, Donald, and Yuval Millo 2001 Negotiating a Market, Performing a Theory: The Historical Sociology of a Financial Derivatives Exchange. In European Association for Evolutionary Political Economy. SienaMacKenzie, Donald, and Yuval Millo 2003 Constructing a Market, Performing a Theory: The Historical Sociology of a Financial Derivatives Exchange. American Journal of Sociology 109:107-145.

This is far from an exhaustive summary of those who have done ethnographic work with derivatives traders – there are a number of studies of traders on bank and investment house trading floors (Buenza and Stark 2004b; Knorr Cetina and Bruegger

2000), and the number is increasing rapidly as interest in global finance grows. There are unlikely to be many more studies of open-outcry trading floors, however, as the exchanges depart their traditional floors in favor of dispersed sites linked by networks and servers. Thus, my fieldwork at times had the distinct flavor of rescue ethnography with subjects whose culture, that of open-outcry trading, is rapidly disappearing.

Theoretical concerns

Exchange-traded derivatives markets are of interest not only for their size, but also for their status within economic and financial theory. Derivatives markets satisfy the conditions for a perfectly competitive market: numerous participants, homogeneity of product, freedom of entry and exit, and perfect information. Thus an introductory economics textbook opines, “The farmer who sells his corn through an exchange in

Chicago must accept the current price his broker reports to him. Because there are thousands of farmers, the Chicago price per bushel will not budge because Farmer Jones decides he doesn’t like the price and holds back a truckload for storage” (Baumol and

Blinder 1991:539). The futures commodity markets are considered by economists to be the markets freest of the confounding variables of preference, inefficiency and culture.

Not only are they perfectly competitive markets, and thus the most amenable to economic analysis, they are in their open-outcry form, and in some cases their electronic form, auction markets, and thus susceptible to another level of theorizing. At a technical level, an auction market is one “in which the buyer of an item and the price that is paid for it are chosen after a number of different potential buyers has each made some declaration of their willingness to pay for the item” (Bannock, et al. 1992:19-20). In the case of the pits, the broker exposes the order to the crowd, and the market makers compete to buy or sell at the best price.

Exchanges and exchange

How is one to understand these markets within an anthropological perspective?

Anthropology has a long tradition of engagement with markets and exchange, a tradition with its roots in the work of Marx, of Weber, and of Simmel. What these theorists share is an approach to markets that is grounded in a view of markets and economic action as the outcome of social, political, cultural and historical contexts and processes.

Marx’s focus was on the commodity form, on commodity circulation, and on the fetishization of commodities. He made a distinction between goods produced for use, and those produced for exchange. Goods produced for use are those produced to meet the needs of the individual, family, and/or community. That is in contrast to goods produced for exchange, goods which enter the market, and are thus considered commodities. In a market economy, goods acquire the social form of commodities, and

24 are exchangeable with one another. It is this understanding that conditions the distinction between gift exchange and commodity exchange.

Simmel’s focus was on the development of money (Simmel 1990). Like Marx, he perceived exchange as changing over time, conditioned not by the shift from use to exchange value, but by the introduction of money, a development which increased individual autonomy at the same time that it lead to impersonal and objectified relations between people. He addressed the introduction of money not only as an economic process, but as a social and cultural process, a process thought which objects become, as they do for Marx, commodities, and relations between people are monetized.

Weber sought and found the genesis of the modern western capitalist system in the rise of the Calvinist world-view, a view that he argued not only arose contemporaneously with, but gave impetus to the rationalization and increasing bureaucratization emblematic of capitalism (Weber 1996). While the degree to which the concept of predestination was central to the development of what Weber calls the

Protestant ethic, his assertion that it was the cultural and historical context that was the crucible of economic change, and not the reverse, has proven a critical one.

Closer to anthropological home, the work of Malinowski and of Mauss bring the nature of commodities and exchange as intertwined with culture and society into even sharper focus (Malinowski 1961; Mauss 1990). As Earle outlines, “In his 1922 ethnography Argonauts of the Western Pacific, Malinowski challenged scholars to understand human economies in cross-cultural perspectives. Attacking simple notions of

“economic man,” he emphasized that economies are highly variable both in exchange relationships and in systems of value. The role of anthropologists, as he saw it, was to document and explain cultural variability that, by observing only Western societies, was invisible to Western scholars of human nature” (Earle 2002:81). Malinowski, in his study of the Trobriand islanders, had found that the trade in the islands was not limited to strictly economic spheres. The islanders participated in a system of exchanges called the kula ring. In the kula , shell necklaces are exchanged for arm-shells in exchanges that encompass the Trobriands and nearby islands. The items are held for a time by the recipient, who then exchanges them for other items, with the condition that shell necklaces go in one direction and arm-bands in the other. The system of trade is intertwined with practices of magic, prestige, and accompanies but is separate from the contemporaneous barter trade.

Mauss took up Malinowski’s description of the kula ring in his landmark work on non-market exchange, The Gift. Surveying a broad swath of ethnographic material, he argued that the gift was in many ways the inversion of the commodity. Unlike the commodity form, which Marx and Simmel argued lead to alienation, the gift created a bond between the giver and the receiver. The offer of a gift gives rise to the obligation to receive the gift, and from there, to reciprocate. The gift establishes a bond between persons, and by extension between groups, in opposition to the commodity, which severs the ties of family and community. Unlike the commodity, which alienates, the gift is inalienable (see Weiner 1992)

Anthropologists have tended to contrast ‘gift exchange’ and ‘commodity exchange’ – gift exchanges being the exchange of inalienable objects between people who thereby establish a relationship of mutual dependence, and commodity exchanges being the exchange of alienable objects between people who do not thereby establish a relationship of mutual dependence, their independence being preserved by the relative anonymity of market exchange (Gregory 1982). While there may be many circumstances and contexts in which that dichotomy is maintained, it has become apparent that there are also many circumstances and contexts in which the division is not as neat or complete.

Others have found that the sphere of gift exchange and commodity exchange are not always neatly divisible, and each type may also contain elements more commonly associated with the other type of exchange, prompting a re-evaluation of the nature of the gift and of the commodity as constituted of both the economic and the social (Douglas and Isherwood 1996; Gell 1992; Humphrey and Hugh-Jones 1992; Parry and Bloch 1989;

Sahlins 1972; Sahlins 1976).

The task of explicating the nature of exchange, both economic and social, has entered the realm of markets. There are studies that address the boundary between non- market and market spheres, studies that address the ways in which that contact transforms exchange, trade and commodities (Gudeman 1986; Henrich, et al. 2004b; Plattner 1989).

There are also an increasing number of studies that address the nature of systems that are more fully market-based and market-oriented. In these analyses, the consideration is of the nature of the social and cultural context of markets, and of the relationships which

27 arise in such settings. Anthropologists have explored exchange as both socially embedded and as ideologically conditioned, attending to the market as a conceptual model, analyzing not only how actors practice markets, but how they think about them

(Carrier 1997; Carrier and Miller 1998; Dilley 1992; Dumont 1977; Miller 2005).

Conceptual models of markets vary culturally as well as historically. Hirschman

(Hirschman 1982) has drawn attention to the varied historical understandings of markets.

He points out that markets can be, and have been, understood historically variously as forces for good and virtue; as forces for destruction, and as too feeble to bring about either virtue or destruction. Fourcade and Healy (Fourcade and Healy 2007),in their review of morality and the market, point out that much recent work in the social sciences on exchange – particularly financial exchange – falls into a fourth category of thought about the market, a view of the market which acknowledges that the market may act upon culture and that culture may at the same time act upon the market, such that the influence of the market is not unidirectional.

The move from studies of exchange, to studies of trade, to studies of markets has lead finally to research in financial markets, and to the increasing realization that the factors, the bonds and relations which defy a neat categorization between the gift and commodity, are as present in the world of financial exchange as they are the traditional societies that until recently formed the bread-and-butter of anthropological study.

There are four major categories of study within the theme of studies of financial exchange – three sociologies of exchange, and an anthropology of exchange. The first of

28 these is what has been called the new economic sociology, and which embraces a number of scholars advocating for a range of approaches (Abolafia 1996b; Abolafia 1998; Baker

1984; Carruthers 1996; Fligstein 1994; Granovetter 1985; Smith 1989; Zelizer 1985).

Central to this approach is Granovetter’s influential advocacy of embeddedness as a primary concept in the study of economic phenomenon. This idea of embeddedness asserts that economic activity takes place within the context of “concrete, ongoing systems of social relations” (Granovetter 1985). Thus, economic action is contingent on, rather than separable from, social relations. Collectively, this group of scholars comprises a network approach to studying markets. These works highlight a critical yet under-specified problem in the study of markets. While economic theory suggests a model of markets in which supply meets demand, and individuals are atomistic, real- world analysis of markets do not bear these models out.

A particularly instructive example of this category of approach – and the example that is most explicitly a social network approach – is Baker’s study of options traders. He found that market structure, including the size of pits and the number and density of trading partners one had, directly affected price volatility. In contrast to the economic view that a greater number of traders would lead to a reduction in price volatility, Baker found that larger groups of traders resulted in a fragmented trading arena. Volatility was actually reduced in a small, dense network of traders.

The network approach has given rise to a series of accounts of the markets – of the nature of the relations within which economic action is embedded. While Baker

29 advocates for an account of markets that behave as networks, Smith (Smith 1989) has argued for an understanding of markets as primarily mental entities, offering a cognitive account of markets. Fligstein (Fligstein 1994), and Carruthers (Carruthers 1996) adopt a view of the market as a site of political negotiation, suggesting that economic action is a form of political action. Finally, Abolafia (Abolafia 1998) argues that markets are best understood as cultures. This range of approaches raises the potential for a critique.

Despite this empirical direction, network research has largely failed to answer the question of why a particular set of relationships are either embedded or not embedded.

Often, network analyses leave untouched the relationships that themselves structure how economic activity is embedded in society. As Carruthers notes, “[Granovetter’s] programmatic declaration (1985) left unresolved how and why [italics in original] economic behavior was embedded in social relations, or in which social relations it was embedded” (Carruthers 1996:21).

Finally, as Levin (Levin 2004) notes, while it insists on including social relations as central to the conceptions of the market, the vision of markets within this tradition is very similar to the approach taken by the neoclassical tradition (see Miyazaki and Riles

(Miyazaki and Riles 2005) for a version of, and a discussion of, this critique of social studies of finance). Despite seeking to avoid positing a separate economic actor (separate from the realm of non-economic action), embeddedness research frequently leaves the idea of a separate market relatively untouched. For example, the idea that there are

“stronger” and “weaker” ties affecting the networks connecting participants in economic

30 exchanges (Callon 1998a; Chwe 2001; Uzzi 1996) tends to imply that actors function within two separate spheres, an economic sphere and a social sphere, rather than in a single sphere that implicates both the economic and the social. There is an implicit assumption in the network views of the market that those ties that are “stronger” are ties generated and maintained within the non-market realms, while “weak” ties are those unencumbered by relations of family or friendship – those ties that are more similar to the ties assumed to operate in contemporary markets. Embeddedness becomes, then, an alternative economic view, one in which social interaction is simply another factor to consider in the course of economic analysis.

The embedded/network approach has also been a feature of anthropological and sociological studies of knowledge, particularly scientific and technical knowledge.

Within science and technology studies (STS), the central insight has been actor-network theory, or the actor-network approach (ANA), a social constructivist approach developed by Bruno Latour (Latour 1987; Latour 1993) and Michel Callon. Central to this approach is the idea that actors and networks create one another. Also central to this approach is the idea of “black boxes,” in which scientists attempt to promote their own contributions and turn them into “black boxes” – that is, into knowledge that is accepted and used on a regular basis as a matter of fact (Yonay 1998).

Practitioners of science and technology studies have recently ‘discovered’ markets as sites of knowledge production, giving rise to the area of social studies of finance (SSF). Chief among the practitioners embracing SSF have been Callon (Callon

1998a), MacKenzie (MacKenzie 2006), and Knorr Cetina (Knorr Cetina 2004; Knorr

Cetina and Bruegger 2000), in particular MacKenzie, whose programmatic 2001 statement called for analysis of the Black-Scholes equation for options testing and the events surrounding the Long-Term Capital Management debacle (MacKenzie 2001). Of particular interest within this sub-set of literature are works that attend to questions of cognition, emotion and gender. Buenza and Stark investigate distributed cognition on a the trading floor of a firm in New York (Buenza and Stark 2004a), while Hassoun focuses on the role of emotions and emotional expression on trading floors in Europe

(Hassoun 2005). Czarinskawa looks at literary and journalistic depictions of women in finance in Europe (Czarniawska 2005).

Up to this point, there has been relatively little discussion of an anthropology of finance – in part because it is a very small group. Zaloom (Zaloom 2006) and Maurer

(Maurer 2002), and to a much lesser degree Miyazaki and Riles (Miyazaki 2003;

Miyazaki and Riles 2005) operate more strongly within the general SSF approach to finance than with traditional anthropological approaches to markets. Maurer in particular has examined the theological content of the Black-Scholes model, arguing that the

‘violence’ of derivatives is due in large part to its theological unconscious, repressed by the assumptions of the general equilibrium model, adopting an ANA approach.

Within the anthropology of finance, there are pioneers – most notably Appadurai

(Appadurai 1986), Hertz (Hertz 1998), Carrier (Carrier 1997), O’Barr and Conley (O'Barr and Conley 1992) and Gunningham (Gunningham 1991). Appadurai noted the degree to

32 which commodity trade resembled the speculative tournaments of value first described by

Malinowski. Hertz carried out a study of the nascent stock market in China, which was the first anthropological ethnographic study of a stock market. Carrier examined the various meanings of the market, while O’Barr and Conley carried out a study of the ways in which fund managers make investment decisions. They found that fund managers relied less on economic and financial analyses in creating investment strategies than they did on a host of social and cultural cues. Finally, Gunningham carried out a study of the role of informal controls in self-regulation on the Sydney futures exchange and on the

CBOT.

In more recent work, Miyazaki and Riles (Miyazaki 2003; Miyazaki and Riles

2005) have done fieldwork with Japanese traders, following them in their work in

Chicago and then in their work in Japan. Their work is an important contribution, particularly to the understanding the regimes of belief implicated in the pursuit of arbitrage opportunities, as well as an important critique of approaches to the anthropology of finance. Lee and LiPuma (Lee and LiPuma 2002; LiPuma and Lee

2004) have sought to re-connect contemporary considerations of finance with the long- term concern within anthropology with what they call “cultures of circulation.” There have also been contributions by Ong and Colllier (Ong and Collier 2005), and by Holmes and Marcus (Holmes and Marcus 2005), to the study of global formations which include finance. As noted above, Zaloom (Zaloom 2006) and Maurer have also contributed to

33 anthropological studies of finance, though from a stance that is more explicitly pursued within the context of STS and SSF.

There is another broad theme within anthropology, one with important differences from, as well as important commonalities with, the above approaches. Into this theme fall studies that are influenced by game theory, and studies that are influenced by cognitive and evolutionary psychology, and some that overlap. Game theory has some serious limitations – see Taylor (Taylor 2004) for a brief discussion – but at the same time, a great deal of potential. Within anthropology, game theoretic approaches were first advocated by Goffman (Goffman 1969) and by Levi-Strauss (Levi-Strauss 1963).

Levi-Strauss suggested – somewhat prematurely, it turns out – that game theory ushered in a new epoch of closer cooperation between economists and anthropologists. He based this on two features of game theory – first, that the approach dealt with concrete individuals and groups in relations of cooperation and competition (an approach which he noted converged, due to its formalism, with certain aspects of Marxian thought) and second, that it promised to introduce rigorous models. Perhaps even more surprisingly, he points to Kroeber as inaugurating a concern with play. Levi-Strauss argues that this study has as a further advantage a concern with rules, as opposed to a concern with the nature of the players. Goffman went so far as to write an entire book considering game theory, one that drew on studies of spies and spying. Though Goffman speaks of strategic interaction as face-to-face, it is important to note that his theory is not limited to

34 face-to-face interaction. However, despite the clarion calls, game theory was not initially taken up with any enthusiasm in anthropology.

Game theory has recently been rediscovered by anthropology in the work of

Henrich et al (Henrich, et al. 2004b) . Henrich’s group has expanded the work of experimental economists to small-scale societies. Working in an inter-disciplinary group of economists and anthropologists, they carried out a series of classic games with groups drawn from small-scale societies in which they had expertise (Ensminger 2002;

Ensminger 2004; Henrich and Smith 2004). The results fell outside of the values that have been reported for market-based societies (in which the majority of experiments have been carried out with university students), and showed greater variation between groups than expected. The strongest predictor of the values reported in each society appeared to be the degree of market integration of the group tested. The results also suggested that the human dispositions assumed in theoretical game theory modeling are not as universal as assumed. These findings have also formed a basis for co-evolutionary theories of behavior. In this context, game theory performs as games, as evolutionary theory, and as an experimental approach.

The work of anthropology in experimental economics and the work of anthropology in the analysis of financial markets highlights strands within anthropology which are both complementary and convergent, and which speak to an enduring tension in the analysis of markets and exchange, one between the market as fact and the market as idea. This is a tension with a long and varied history, and one which has been

35 addressed in varied ways (Hertz 1998:21-22). The work by Henrich et al is work that is very much of economics; work by others, such as Maurer (Maurer 2002) and Miyazaki

(Miyazaki 2003) is very much about economics, though as Chibnick points out, experimental economics is very much continuous with fundamental anthropological insights (Chibnik 2005). Riles and Miyazaki have reflected on the nature of anthropological knowledge about and of markets, a nature which is confronted anew in the consideration of finance (Miyazaki and Riles 2005). They argue that contemporary work in the social studies of finance shares the pervasive view of anthropology that there are limitations to standard economic views of the market – as evidenced by arguments as to the nature of exchange, the possibility of exchange beyond commodities, and the interpenetration of the social and the economic that pervade not only non-market, but also market exchange. They argue that much of contemporary work in social studies of finance, while acknowledging the limitations of economic theory, seeks not to critique, but to complete. They argue that this dimension of the work of some social studies of finance is not ultimately fruitful, since it denies the necessary limitations of both anthropological theory, and of economic theory. They suggest that if this is indeed the goal of social studies of finance, it is likely to have the same result that they perceive their subjects have experienced – a profound engagement with the ultimate failure of knowledge, and the necessity for a re-orientation, such as that suggested by Marcus and

Holmes (Holmes and Marcus 2005), of the work of anthropology. Whether that will prove to be the case is open to discussion; certainly, however, it points to the

36 anthropology of finance as a site of significant negotiation of both knowledge of the subject and knowledge as to the nature of contemporary knowledge itself.

The order of the book

The thesis proceeds in Chapter two to discuss the intersection between markets and marketplaces. The Chicago Board of Trade has, since its founding, identified itself closely with its physical setting, its landmark building at the foot of LaSalle Street, and with its role as a landlord and architectural trendsetter. In contrast, the Chicago

Mercantile Exchange lost its landmark-quality building early in its history, and has since avoided the role of landlord, or extensive investment in real estate beyond what meets their trading and administrative needs. The two exchanges have also taken divergent electronic paths, the CME establishing a single address early on, while the CBOT took a more peripatetic electronic path. Their approaches to their physical and electronic environments are virtually reversed mirror images of one another, a feature that I suggest set their electronic paths early on. As a result of their divergent electronic paths, the

CME has merged (effectively taken over) the CBOT, creating the CME group, combining the CBOT’s landmark building and the CME’s electronic address, and restoring Chicago, at least for the present, to its position as the preeminent location for derivatives trading.

Chapter 3 is a discussion of the ways in which traders manage the risks inherent in trading – and how, in managing those risks, the activity of trade generates ethical behavior. Floor trading, as futures traders used to practice it, and as options traders

37 continue to practice it, is an intensive, face-to-face interaction. The close proximity of the actors gives rise to a sort of informal oversight by traders of one another. This intensive oversight minimizes the risks that come with the mechanics of trade – the risk that a trade will be entered or not entered in error, and so on.

Chapter 4 addresses the ways in which the risks inherent in trading can be managed – and the ways in which they cannot be managed. Traders refer to themselves as players, and many of them bring experience in games to their trading. In this context, games offer a way in which traders can practice the strategic features of trading. Games, however, do not provide as full a replication of the strategic features of trading as gambling does. The chapter addresses the ways in which trading is gambling in the practical, as opposed to the moral, sense.

Chapter 5 is about the pervasive narrative of discipline in trading. The narrative functions differently at different stages of a trader’s career; for early-career traders, discipline is about learning the mechanics of trading, and learning dispositions like confidence and equanimity. At this stage, discipline is a highly codified set of instructions found in books and on trading cards and passed on from trader to trader. For mid-career traders, discipline becomes about maintaining a sense of oneself as a successful trader, regardless of how one’s trading is going. Finally, for traders in the maturity of their careers, discipline is about not only one’s sense of self as a trader, but one’s sense of self as a person. For a mature trader, discipline is about being able to cope with the vicissitudes, not only of trading, but also of life.

Finally, chapter 6 is about the liquidity of markets – not only the liquidity of markets for commodities like soybeans and Eurodollars, but also the market for market makers. In both futures and options, the market maker has always been a commonplace of the market – for a liquid market, one needed a standardized commodity, a format for trading it, and market makers to make the market – to buy when there were few buyers, and then sell when there were few sellers, thereby providing immediacy to the market.

However, with the advent of electronic trading systems, the role of the futures market maker has changed. In many futures markets, the volume of trade is such that a simple matching program can meet the needs of many, if not most market participants. In options markets, market makers find that the pressures of a maturing market and technological change have gradually made their services a commodity, much as soybeans and Eurodollars. However, the transition to electronic markets has been more gradual, and it still remains to be seen whether the market for market makers becomes extremely liquid, as in futures, or extremely illiquid, as in European options markets.

Chapter 2: Eventful exchanges

The four chapters following this one will address four different views of the market – the market as a force for good, the market as a destructive force, the market as a feeble force, and the market as both affecting and being affected by culture. This first chapter addresses the market not only as a force, but also as a location. While there is a great deal of work on markets, there is relatively little work on marketplaces. 3 The location in which exchange takes place is largely marginalized, and considered a developmental or evolutionary stage in the maturation of a market, one long ago bypassed by contemporary markets (Rothenberg 1992). There are a few notable exceptions, such as work by Wayne

Baker on the effects of trading floor configurations and trading crowd size on options volatilities on the Chicago Board Options Exchange (Baker 1981; Baker 1984).4 Baker’s work establishes the importance of the marketplace to the operation of a large, sophisticated, mature market such as a national securities market. With the shift from floor trading to screen trading, the marketplace has been to some degree re-discovered as a site for research and analysis. Research has primarily taken the form of comparison of floor trading with screen trading across institutional contexts, such as comparing the

3 See however Plattner, Stuart 1989 Markets and marketplaces. In Economic Anthropology. S. Plattner, ed. Pp. 171-208. Stanford: Standford University Press. 4 Baker identifies his research site as “a national securities market;” see MacKenzie and Millo for the identification of the site as the CBOE. MacKenzie, Donald, and Yuval Millo 2001 Negotiating a Market, Performing a Theory: The Historical Sociology of a Financial Derivatives Exchange. In European Association for Evolutionary Political Economy. Siena.

40 experiences of traders on the floor of a Midwestern futures exchange with those of screen traders in a range of boutique and banking firms (Levin 2004), or comparing the experiences of traders on the Chicago Board of Trade with those of traders at a proprietary trading firm in London (Zaloom 2006). While these approaches, particularly the former, yield valuable insights as to the nature of the technological changes confronting the derivatives industry, the range of comparative contexts also serves to obscure certain features of the nature of the technological transition. Traders on an exchange may act individually, as when they trade, or as a unit, as when the members act collectively to enact policies and so on. Traders at a firm act less like individual traders, and more like employees; while an exchange is a more-or-less democratic organization of members, a firm tends to operate more hierarchically, such that the line between individual and group actions is far more difficult to draw in a firm than in an exchange. 5

In this chapter, rather than comparing individuals across institutional contexts, I compare two institutions which have been in the process of making the transition from floor to electronic, or screen, trading, the Chicago Board of Trade (CBOT) and the Chicago

Mercantile Exchange (CME). Comparing two exchanges, and thus two marketplaces, which are both experiencing the same transition, limits extraneous variables, and highlights the relevant features of the transition from floor to screen, and from face-to- face to electronic trading. The focus on the two Chicago exchanges and their differing

5 Levin points out that much of what has been described as a technological change is in fact an institutional change. Levin, Peter A. 2004 Engendering Markets: Technology and Institutional Change in Financial Futures Trading. Ph. D. dissertation, Department of Sociology, Northwestern University.

41 approaches to and experiences of the shift from floor to screen also reveals that the transition, rather than having its origins in recent events, has deep historical roots.

Until very recently, the standard story of the transition from floor to screen has been that of a Titanic struggle between the forward-thinking and technologically advanced electronic exchanges of Europe and the tradition-bound, floor-based, largely open-outcry exchanges of the United States. There were only a few contestants, a few pivotal events, and it looked like the European electronic exchanges were coming up the winners. Until the late 1990s, the Chicago Board of Trade and the Chicago Mercantile

Exchange dominated derivatives trading. Exchanges are compared on the basis of volume, and the CBOT and the CME had the lion’s share of the volume year after year after year. The CBOT always led the pack, and the CME was always somewhere behind them. The CBOT had big products, and they had a lot of them, so there was no reason to think that they would ever be passed up. The number of exchanges grew, both floor- based and screen-based, American and European, but none of them looked like they were going to challenge the CBOT’s dominance. Some had one product that had good volume, some had a few products with decent volume, but none of them added up to the kind of volume that the CBOT produced month after month, year after year. That was, until the late 1990s. As the European markets matured, so did the volume in their benchmark products, led by the German bund products traded on the open-outcry London

International Financial Futures Exchange (LIFFE). On the power of the volume in the

German bund products, in 1997 LIFFE actually surpassed the CBOT’s volume to take top

42 spot. The message seemed clear – the Chicago exchanges were vulnerable. However, since both LIFFE and the CBOT were open-outcry, technology was not yet an issue. At that point, the battle lines were drawn between Chicago and London.

LIFFE’s triumph was to be short-lived. Soon after they overtook CBOT, they were overtaken by the Frankfurt based electronic exchange Deutsche Terminbörse

(DTB). In 1997, DTB managed to trade one-half of the volume in the German bund futures, the product that had allowed LIFFE to overtake CBOT. Soon after breaking through the fifty percent barrier, DTB merged with the Swiss Options and Financial

Futures Exchange (SOFFEX) to form Eurex. DTB had already aggressively gone after

LIFFE’s bund volume, dropping fees and placing their trading screens in as many locations as they possibly could. By late 1998, the onslaught was paying off; Eurex lured away most of LIFFE’s volume away, enough that by 1999, Eurex surpassed CBOT to become the largest futures exchange in the world. LIFFE responded by eliminating their trading floors almost overnight; the CBOT responded by forming an electronic trading alliance with Eurex. The message seemed to be clear – the future belonged to the electronic Europeans, and it was simply a matter of time before the CBOT would shutter their floors as well. 6 The key event seemed to be the point at which LIFFE’s volume migrated to DTB – which eventually allowed Eurex to overtake the CBOT. Fast forward, however, and the events and lessons are not as clear. Despite their best efforts, including

6 The account of the movement of volume from LIFFE to Eurex is drawn from the account in Young, Patrick, and Thomas Theys 1999 Capital Market Revolution: The Future of Markets in an Online World. London: Pearson Education Limited.

43 going head-to-head in their benchmark products in the US, Eurex was unable to lure the

CBOT’s volume away like they were able to lure LIFFE’s away. The CBOT did not have to shutter their floors. And, in 2007, the CME and CBOT merged, creating a behemoth of an exchange that at least for the time being dwarfs Eurex. Under those circumstances, the shift of volume from LIFFE to Eurex looks less eventful. What, then, are the events that define the negotiation between floor and screen, and between Europe and the United States?

Eventful analysis

A closer analysis of the events surrounding the transition from primarily floor- based, or open-outcry, trading to primarily electronic trading on the world’s exchanges suggests that its roots lie considerably before the shifts in volume between CBOT, LIFFE and Eurex. To locate the defining events, it is necessary to address the nature of events, and their relationship to their environments. Sewell has proposed a theory of social change centered on the event; for Sewell, events are “sequences of occurrences that result in the transformation of structures” (Sewell 2005:227). He further defines an historical event as, “…(1) a ramified series of occurrences that (2) is recognized as notable by contemporaries, and that (3) results in a durable transformation of structures” (Sewell

2005:228). For Sewell, those structures are “sets of mutually sustaining schemas and resources that empower and constrain social action and that tend to be reproduced”

(Sewell 2005:141). They tend to be reproduced, but they are not inevitably reproduced; thus, an event may transform structures.

In formulating and applying his theory of the event, Sewell points in particular to the case of capitalism, where structures are deep and pervasive (Sewell 2005:149). He points to the case of currency futures markets, a market that was pioneered by the CME with the creation of the International Monetary Market in 1972 (Tamarkin 1993:154).

For Sewell, the currency futures market is a language game, but one that is played out on a certain type of playing field, or eventful space. As he notes, “what makes the currency traders different is that the technologies that they work with enable them to operate on a vastly greater spatial scale and that their activities happen to involve resources – they may trade hundreds of billions a day – that are beyond the imaginations of even the most avid middle class … saver” (Sewell 2005:344). For Sewell, events are not limited to texts, or to language games; rather, they are spatial processes, such that the language game of currency futures is played out within a physical environment.

However, as Beck et al. (Beck, et al. 2007) point out, “Sewell limits his consideration of spatial context to the fact that events occur in spaces; of more significance… is the fact that events transform [emphases in original] spaces. Space is not simply where structural transformations happen. Instead, structural transformations create novel opportunities for making, inhabiting, and reshaping space” (Beck, et al.

2007:835). Their concern is with the application of eventful analysis within archaeology, where there is a dearth of texts, such that the structures of the built environment must

45 therefore function in a manner corollary to texts. In the context of currency futures markets, and derivatives markets in general, however, there is a surfeit of texts, such that the sheer volume of textual material may serve to obscure, rather than reveal, the events and structures. Thus, I will focus, in a sort of social archaeology, on the built environment of trading in Chicago, comparing the ways in which events have transformed spaces, with real and enduring consequences. When one looks at the histories of the built spaces in Chicago – widening out the definition of a built space to include not only the architecture of buildings, but the newer architecture of computer systems, a world that is as constructed as any other – it becomes apparent that some of the central events of the transition from floor to screen occurred not only in London in

1997, but in Chicago in 1930. I will argue that the experiences of the CBOT and CME with real estate in 1930 established schema and transformed structures that resulted in the consolidation of worldwide derivatives volume on the screens headquartered in Chicago in 2007.

The Chicago Board of Trade as marketplace

The Chicago Board of Trade has enjoyed a remarkably stable relationship with their built environment – a relationship so close as to blur some of the distinctions between its role as an institution and as a location. The CBOT has been, for most of its life, as much a marketplace as it has been a market. As a visitor’s brochure notes, “Since its inception, the Chicago Board of Trade has been an integral part of and vital link in to the city’s

46 commerce. Accordingly, the exchange has always taken great pride in the architecture of its buildings” (CBOT n.d.:1). As William Falloon ably outlines their history (Falloon

1998), the CBOT had its origins in the meeting of a group of 83 Chicago businessmen who met in the offices of one of the men to found a type of chamber of commerce for the city in 1848. One of their first actions as a chamber of commerce was to rent offices over

Gage and Haines flour store at 101 South Water Street, at the time was at the center of the produce markets, where members could meet, as the city of Chicago grew and prospered, so too did the Board of Trade. By 1852, they rented larger quarters at Clark and South Water streets. Continuing to grow, they moved again in 1856, renting offices at South Water and LaSalle streets. By 1860, they had outgrown that location, and rented offices in the Newhouse Building on South Water, though with the move to this location, the Board of Trade began to plan for growth, allowing for expansion of the trading floor even as they moved into the building. The trading floor measured 95 feet by 47 feet, and was decorated by frescoes which were described as “in a style and on a scale which entirely placed in the shade all other institutions of the kind in the United States” (Falloon

1998:47).

By 1865, the CBOT moved again, this time renting from the Chamber of Commerce.

The building was destroyed by the Chicago Fire in 1871, but rebuilt immediately afterward. Like the Newhouse building trading floor, the Chamber of Commerce trading floor was both functionally and aesthetically impressive. As an 1872 Chicago Tribune article described the 1871 building, frescoes on one end of the floor depicted Mercury,

47 and Ceres, the goddess of commerce and agriculture, while frescoes on the other end of the room depicted the fine arts in the persons of Apollo and Minerva. On the ceiling were the coats of arms of the state of Illinois and the United States (Falloon 1998:47).

By 1881, the Board of Trade was ready to build its own building. They purchased land on Jackson Boulevard, at the foot of LaSalle street, which has been their location ever since, and solicited bids. Two contenders emerged, W.W. Boyington and the firm of

Burnham and Root. The winner was Boyington, who had designed a 10-story tall building with a 300-foot tower, the tallest building in the city at the time. The building was completed in 1885, and atop the tower was added an electric light display which shone both night and day. At 40,000 candlepower, it was the brightest lighting in the city

(Falloon 1998:176-177). Though the tallest and the brightest building in Chicago, it was apparently far from the most attractive; Frank Norris describes it in The Pit: A story of

Chicago as “black, grave, monolithic, crouching on its foundations, like a monstrous sphinx with blind eyes” (Norris 1994:39). As it turned out, it was problematic in other regards as well. It had cost $1.8 million to build, far more than the Board had anticipated. It turned out that the clay underneath the building was unstable, and the building began to settle. The Board decided to remove the tower and repair and reinforce what remained, at least for the time being (Falloon 1998:178-179).

By the late 1920s, the Board had outgrown the 1885 building, and decided to level it and build a new building – though on the same site. In 1928, they commissioned

Holabird and Root, a leading architectural firm in the city to design and build a new

48 building. The result was a landmark Art Deco structure, a “striking symbol of the Board of Trade’s historical importance in local and international business” (CBOT n.d.:4). The building, which was completed in 1930, was built of limestone. It has a nine-story base and a 36-story tower, and covers an entire city block. There are 13-story wings to either side of the tower, the result of a zoning law requiring that buildings occupy decreasing floor area as the height increased; the wings, “additionally underscore the building’s dominance over adjacent structures at the top of the “commerce canyon” of LaSalle

Street” (CBOT n.d.:8). The structure is topped by a cast aluminum statue of Ceres which stands 31 feet tall and weighs 6,500 pounds, harkening back to the fresco of Ceres on the wall of the Chamber of Commerce building. Both the exterior and interior of the building are striking examples of Art Deco, leading to the building being named an historic landmark in 1967. The Board’s building was consistent with the tradition of architectural innovation that had come to be associated with the city. As Chicago’s iconic mayor, Richard M. Daley, noted in a letter to visitors to the CBOT, “The progressive vision of our great architects is exemplified by their works on display all over the city. Bold and creative, Chicago’s buildings are a break from the designs of the past

– a variation on a theme” (CBOT n.d.:i). The CBOT was not only a futures exchange, it was an architectural innovator – and a landlord as well. The tallest building in the city at the time, it housed not only the trading floor, but also exchange offices and rental space for those who did business on or related to the floors. When the building was still in its planning stages, the CBOT even offered to rent space to the CME – for a rather hefty

49 price, perhaps a reflection of the $17.5 million that it had cost to build, money the CBOT expected to recoup at least in part through rents. The CME declined their kind offer

(Tamarkin 1993:50).

In 1978, the Board of Trade celebrated their 130 th anniversary with a cake that was five feet high, weighed 300 pounds, and was shaped like their building (Tamarkin

1993:98). By 1979, they realized they outgrown the circa-1930 facilities. In 1979, they commissioned the architect Helmut Jahn to design and build a 23-story addition to the existing building (CBOT n.d.:10). The building, completed in 1982, contained a 32,000 square foot trading floor, the largest in the world at the time. The addition was constructed immediately behind the original building, and designed to mirror it, combining the desire to capture historical referents to the original building with the use of modern building materials, such as glass and aluminum. In the 12 th floor atrium of the addition is a painting of Ceres, which was commissioned by the Board in 1930 and hung for forty years over the trading floor. The floor was divided in 1974 to create more space, and the painting put in storage (Falloon 1998:205). The work was restored, mounted in a frame designed by Jahn, and placed on display (CBOT n.d.:11).

Though Ceres retained her position at the peak of the roof of the 1930 building, and gained a place of honor in the atrium, a newer symbol of the Board was elevated to prominence on the roof of the addition – the new addition is crowned by a peaked roof, at the top of which is an octagonal steel representation of the trading pit (CBOT n.d.:10).

When the Board was primarily an agricultural exchange, Ceres was a fitting and

50 comprehensive motif of the Board’s activities. With the advent of financial futures – the products that had led the surge in volume and memberships which resulted in the growth that made the addition necessary – the Board became far more than a grain exchange.

They became a place – a complex of trading pits – where a dizzying range of products were traded. In the early days of the exchange, traders simply gathered in groups to trade. Soon, as the groups became larger, it became difficult to see and hear, to the degree that a committee was formed in 1870 to experiment with various solutions to the problem. A variety of raised platforms was constructed, culminating in a nearly octagonal set of steps split by a walkway (Falloon 1998:73). The CBOT eventually adopted an octagonal, tiered pit, a design that had been patented by an enterprising

Chicagoan by the name of Reuben Jennings. In 1878, the CBOT paid Jennings for the use of his device, securing it for their own use (Falloon 1998:75-77). The design of the trading pit has remained essentially the same to the present day, making it possible for the

CBOT to adopt a depiction of the octagonal pit as their logo. For the CBOT, the market and the place have gradually become in a number of regards nearly indistinguishable.

The construction of the addition, just over one hundred years after they first built at

LaSalle and Jackson, and just short of fifty years after they built their landmark Art Deco building, served only to confirm their sense of themselves as solidly planted in both the architectural and financial worlds.

Finally the CBOT outgrew their trading floors yet again. When the agricultural markets had moved into the 1982 addition, the financial products had inherited their

20,000 foot trading space, which had met and then exceeded its capacity. The exchange retained the architect Gerald Johnson of Fujikawa Johnson to design their largest and most advanced floor yet. The new trading facility, four stories high, included 60,000 square feet of trading floor, and even provided room for further growth. Completed at a total cost of $182 million, the addition gave the exchange a total of 92,000 square feet of trading areas, and allowed for expansion of up to 2,000 booths, and the addition of another full floor above the existing floor (Falloon 1998:263-270). With the addition of the new floor, the CBOT seemed confident that they would be the marketplace of choice for the next 150 years, just as they had been for the previous 150 years. For the CBOT, their buildings are not simply places to transact the business of trading; they “stand also as impressive representatives of the city’s international reputation for fine architecture”

(CBOT n.d.:11) For members of the Board of Trade, those who observed their markets came away, “impressed by the world’s foremost example of free markets in action. In passing through the building, they are equally impressed by the architecture which showcases these markets in a magnificent environment” (CBOT n.d.:11).

The Chicago Mercantile Exchange as marketplace

The history of the Chicago Board of Trade has been one of pride of place, of over

160 years in one location, as proud owners, stewards and landlords of their markets and their marketplace. For the Chicago Mercantile Exchange, the situation has been somewhat different. The organization that became the Merc can be traced back to 1874,

52 when a group of Chicago produce dealers founded the Chicago Produce Exchange, and opened a hall at Clark and LaSalle Streets, hoping to create a new market for cheese, eggs and poultry. Despite attracting 300 members, the Produce Exchange was defunct by

1878 (Tamarkin 1993:24-26). By 1882, however, interest revived, and the Exchange was reopened at the corner of Clark and South Water Streets, in the heart of the produce markets. In 1894, the Exchange expanded its scope to include all of Chicago’s wholesale butter and egg dealers, who in 1895 formed the Chicago Produce Exchange Butter and

Egg Board. By 1898, the butter and egg dealers quit the Produce Exchange and formed their own organization, the Chicago Butter and Egg Board. That May, the new exchange rented quarters at Lake and Wells, where they paid $27 a month for two rooms, with an initial two-year lease (Tamarkin 1993:26-29). In 1919, the Butter and Egg Board was reconstituted and renamed the Chicago Mercantile Exchange. In 1921, they relocated to the Marine Building at the corner of Wells and Lake Streets, where they remained until

1927 (Tamarkin 1993:290).

In 1925, the exchange learned that their building was slated to be demolished, and they would have to find a new home. One option was to rent space in the planned new

Board of Trade building, for $150,000 per year in rent and incidentals. Though the Merc considered the offer, they declined it. According to a biographer of the Merc, one of the reasons the offer was turned down was,

… The matter of character. Each exchange had evolved with its own distinct personality, shaped by the different backgrounds, businesses, and trading styles of its respective members. The Board of Trade was run by the descendants

of predominantly Irish Catholic and German farmers, many of whom were still landholders. The tone of the Exchange was perceived by outsiders as stubborn and autocratic. There was indeed a strong influence among the Board of Trade elders to control membership as if the Exchange were an exclusive club for which acceptance was based on the proper pedigree, which made for a certain arrogance and snobbishness on the part of the Board and its members. Over at the Mercantile Exchange, most of the butter-and- egg men had gotten their starts with pushcarts instead of plows, hawking their goods from door to door. A larger number were Jews who came from Eastern Europe. There, too, was a more humble air of being second-best among the Chicago exchanges. With this in mind, the Merc officials kindly refused the Board of Trade’s offer to become tenants. (Tamarkin 1993:50).

Rather than move into the CBOT’s new building, the Merc decided to build their own building. They purchased a lot at the corner of Franklin and Washington for $500,000, and prepared to build. The 16-story structure was to cost $9 million, 65 percent of which would be financed through the Prudential Insurance Company and the remainder to be paid from Exchange funds and the rents of tenants who would lease 14 of the 16 floors

(Tamarkin 1993:51). The Beaux-Arts building was designed by Alfred Alschuler, who also designed the London Guaranty Building and a number of synagogues, including the

KAM Israel synagogue in Hyde Park. Initially called the “Butter and Egg Building,” it was decorated throughout with motifs of agricultural life, such as feeding chickens and churning butter (Chase 1926; Grossman and Ford 2002). The lower floors featured multistoried arches, the upper floors five Greek columns; when it was finished, the exchange celebrated its dedication with a reception and dance on the trading floor hosted by the humorist Will Rogers (Tamarkin 1993:56). Considered historically and

54 architecturally significant, the building was given special status by the city of Chicago

Planning Department in 1996, but was never named a landmark (Madhani 2002).

Despite protests by preservationists, it was demolished in 2003 (Sadovi 2004).

When completed, the trading floor measured 75 feet by 125 feet, with a 30-foot high ceiling. Unlike the Board of Trade’s pits, the Merc used a blackboard system of trading, with all bids and orders entered on blackboards on the walls of the trading floor.

The members had considered moving to a pit system when the new floor was built, but decided to remain with the blackboards; they did not begin to use pits until 1945

(Tamarkin 1993:54-56). By 1930, both the Board of Trade and the Merc were ensconced in architecturally significant buildings, prepared to move forward.

Unlike the Board of Trade, however, the CME soon fell on hard times. As the

Depression deepened, the Merc struggled to keep the doors opened, cutting staff and salaries. They were soon in default on their mortgage – on the first mortgage, and then on the second mortgage. Once in default, they were forced to sell the building back to

Prudential, and become renters again; even as renters, they were forced to bargain for reductions in rent in order to remain solvent. Though the Merc eventually returned to profitability, by that time it was too late, as the building was too costly to repurchase. In the late 1940’s, Prudential sold the building to Henry Crown, who remained their landlord until they moved in 1974 (Madhani 2002; Tamarkin 1993). At the beginning of the 1930’s, it looked like both the CBOT and the CME would thrive as both markets and marketplaces. By the end of the 1940’s, the CBOT had come to see itself as both a

55 market and a building, but not so the CME. The split in their institutional histories would have long-term repercussions.

Despite extensive remodeling and a 40 percent expansion of the trading floor in

1969, by the early 1970’s the Merc was outgrowing the building at Franklin and Wells.

In a meeting in June of 1970, the membership voted 320 to 30 to look for a new location.

The exchange formed a committee that evaluated a possible 145 sites in downtown

Chicago, finally choosing a site at 444 West Jackson (Tamarkin 1993:165-166). They retained Skidmore Owings and Merrill as the building’s architects, the firm of Perkins and Will to design the new trading floor, and placed an advertisement in newspapers and magazines throughout the country that featured an architectural rendering of the planned structure under the headline, “Building” (Tamarkin 1993:175). When it was completed in 1973, the new building had cost $6 million. The six-story steel and glass building echoed SOM’s design for the John Hancock building, virtually replicating the first six floors of the Hancock, where “the exposed diagonals were tied into the steel exoskeleton at strategic intersections” (Skidmore Owings Merrill 1983:107). It included 43, 655 square feet of floor space, over half for the trading floor, the remainder for the gallery and the administrative offices of the exchange. The number of trading pits was increased from five to more than eight (Tamarkin 1993:175, 209). It is worth nothing that unlike their previous building, and unlike the CBOT building, the Merc did not build an office building – they only built quarters for trading and administration. It appears that they

56 were not interested in going into the real estate business in addition to the trading business.

Though they had provided for expansion, the Merc quickly outgrew its new facility. The only way that they could increase the size of the building was to cantilever it out over the sidewalk on Clinton Avenue, along one side of the building. In order to do that, they had to request the permission of the mayor. The then head of the Merc, Leo

Melamed, requested the change from Mayor Richard M. Daley, who asked what the proposed change would do for the city. Melamed replied that, if the Merc continued to grow at its current rate “…it will move the center of gravity of finance in the country a couple of feet west of New York” (Tamarkin 1993:167). Pleased with the answer, the mayor gave his consent for the change, and the addition was completed.

Even with the expansion, the Merc soon needed more space. By 1980, a new building was in the planning stages. It would have two 40-story towers, with a 40,000 square foot trading floor, and the capacity to construct a second trading floor over the first, should the need arise. The administrative offices of the exchange would be housed in the south tower of the building (Tamarkin 1993:267). By this time, the Merc had opened an office in Washington D.C, and one in London. They had begun to regard their offices not only as administrative, but as headquarters of an expanding empire – an identity suitably expressed by their logo, a stylized octagonal globe. However, that empire still did not include real estate management. The new building at 10 and 30 West

Wacker, designed by the firm of Fujikawa Johnson, would include 1,000,000 square feet

57 of office space, but would be only 10% owned by the CME. The project itself was a joint venture between Metropolitan Structures and JMB Realty. It would cost $350 million, and the Merc would raise their stake by developing new products to trade and selling new memberships (Tamarkin 1993:288).

The entire project was brought in $200,000 under budget, the CME signed the first three leases for office space in the new towers, and the whole thing opened in 1983.

The new trading floor was the largest trading floor in the world at the time. For the Merc, it was an important statement; as Leo Melamed commented, “The Board of Trade has always been an image, it’s a landmark. We expected our building to be equal to, if not more of, a landmark” (Tamarkin 1993:289). In 1984 the Merc established a link with the

Singapore International Monetary Exchange (SIMEX), and in 1987, they opened an office in Tokyo (Tamarkin 1993:303-4). The exchange continued to grow, adding memberships and staff, leading the Merc to lease more space in the office towers, taking floors two through ten in the north tower. By 1993, the exchange decided to build a second trading floor above the existing floor at a cost of $26.6 million. While a significant investment, it was far less than the $182 million that the CBOT would spend just four years later for their new floor. The new floor added 16 new trading pits and 770 new booths, as well as a visitor’s gallery, and made the Merc the largest trading facility in the world at the time (Tamarkin 1993:415). With the addition of a New York office, the

CME concluded their expansion – at least their expansion in terms of office and trading space.

The CBOT, then, developed as an institution for which the market and the marketplace were nearly indistinguishable. They established their location early on, and it became part and parcel of what they did, as a financial institution and as an architectural institution, a part of the geographical and architectural heritage of the city of

Chicago as the gateway to the Great West and later, as the hub of commodity trading for the nation and for the world. At the center of that hub was always their location, where they sat: “As though LaSalle were a boardroom table, the Chicago Board of Trade building presides over the financial district from its position at the head of the street”

(CBOT n.d.:5). In contrast, following the loss of their building, the Merc seems to have been far more conservative when it came to their role as a marketplace, either building relatively conservatively or leasing or both, such that their investment in their location remained a lesser feature of their institutional existence. The two logos both echo and contrast – though both feature the octagonal shape of the trading pit, the CBOT’s logo begins and ends with the pit. The CME’s logo, on the other hand, features the pit superimposed on the globe – a reflection of their global ambitions.

From marketplace to market-space

The last major building project by a Chicago exchange was the new trading floor constructed by the CBOT in 1997. However, even as the exchanges were building floors, they were beginning to venture into a second type of architecture – systems architecture.

As computers and computing power became more and more accessible, the possibility of

59 electronic or screen-based trading systems became a reality. The first electronic exchange, the NASDAQ, was established in the 1970’s, and other exchanges gradually began to explore following their lead, including the CBOT and CME. As marketplaces, the path of the CBOT was virtually seamless – they established their marketplace and grew it at the foot of LaSalle, a solid and enduring presence in the world of trade. In contrast, the Merc followed a rather messy and peripatetic path across the margins of the

Loop. But, when it comes to establishing an electronic presence, the situations have been reversed. The CME has had a single electronic address, Globex, since their initial foray into computerized trading systems. The CBOT is the one that has followed the peripatetic path, seemingly bedeviled by their strong ties to their identity as a market place . While the CME has developed Globex, the CBOT has had five electronic addresses – Aurora, Globex, Project A, a/c/e and e-cbot. Some of the difference may be due to the CBOT’s embrace of the local trader, in contrast to the Merc’s interest in the broker population, but nonetheless, it appears that the CBOT’s identification with its physical surroundings, with the environment of pit, floor and building, may have hampered its development of an electronic environment, while the CME’s relative lack of identification with the pit, the floor or the building, and its emphasis on expansion beyond the floor and the city may have significantly facilitated its development of an electronic trading environment. As Beck et al (Beck, et al. 2007) point out, it is not just that ruptures, like the Merc’s loss of their building (or the lack of ruptures, like the

CBOT’s development of their pride of place), occur in space, but that they have the

60 potential to transform spaces – and not just the traditional spaces of built environments, but the newer spaces of electronic architectures. 7

The Chicago Mercantile Exchange as market-space

Beginning in the mid-1980s, the Merc began to sense that the days of open-outcry were potentially numbered. In 1987, they began to consider the possibility of creating an automated trading network to complement their existing open-outcry trading. There were a number of reasons to develop an automated system. Open-outcry was a largely

American phenomenon that had failed to thrive elsewhere. Most exchanges outside of the Unites States were either partially or fully automated, and they were beginning to challenge the dominance of the American exchanges, even if only gradually. At the same time, more and more traders in the US were “going upstairs” to trade from their offices using electronic market information systems and executing trades by phone (Tamarkin

1993:378). Rather than develop their own system, the Merc negotiated with Reuters and

Telerate to partner in creating an after-hours system. They chose to go with Reuters, and with six months had developed a agreement to develop a global automated transaction system which would be called Post Market Trade, or PMT. The agreement gave the

Merc exclusive use of the Reuter Dealer Trading System (RDTS), developed for cash

7 See also the discussion of screen architectures by Knorr Cetina. Knorr Cetina, Karin 2004 How Are Global Markets Global? The Architecture of a Flow World. In The Sociology of Financial Markets. K. Knorr Cetina and A. Preda, eds. Oxford: Oxford University Press.

61 markets, for futures and options for the next twelve-and-a-half years (Tamarkin

1993:370-380).

After the agreement was inked, it had to be sold to the membership. Even though trading was going to be after-hours, it was regarded as a potential threat by pit traders who were concerned it would undermine trading in the pits, possibly siphoning off volume and liquidity in the daytime trading sessions. Traders relied on volume; without that volume, their living was in jeopardy. The Reuters agreement had to be approved by the membership, and most of the membership was comprised of floor traders. Prior to the vote, the management of the Merc made a presentation for all voting members on the upper trading floor; over 1,000 members attended, the largest turnout ever recorded. In addition to the presentation, the Merc produced a 25-page booklet, “The Future of

Futures,” which was handed out to every member. Perhaps the most important selling point for the new plan, however, was the decision to distribute the profits from the new venture directly to the members, rather than to the Exchange, as had been done in the past. Seventy percent of the profits from PMT would go to members, and twenty percent would go to clearing members, who would also earn a commission for business conducted by their customers on the new system. The members voted on October 6,

1987 to adopt the PMT system, 3,939 for, and only 526 opposed (Tamarkin 1993:380-

382).

The new system turned out to be easier to adopt than it was to develop. In 1988, the name was changed from PMT to Globex, which stood for “global exchange.”

Though initial estimates placed the cost to develop the system at $30 million, a series of technical issues pushed the cost to over $70 million, and repeatedly postponed its launch.

Though far from complete, Globex was unveiled at the Futures Industry Association meeting in Boca Raton, Florida in 1989 (Tamarkin 1993:383). In an article in Futures magazine, Globex was described as a “computer dating service” that guaranteed anonymity and objectivity for users (Futures Futures 1989). The Merc envisioned a system with a truly global reach, in which anyone associated with a clearing member would have access to a Globex terminal. The user would simply input the contract, desired price and amount, and the system would execute the trade and report the fill.

Orders were pooled anonymously, and given preference by time of arrival (the first in, first out, or FIFO algorithm), and a trader could trade up to 28 different standard markets, and could even make a special request for markets not on the standard list. Finally, the system could handle large block orders, allowing a user to enter all of his accounts’ orders at one time, rather than separately (Futures Futures 1989). The system was very different from that used in open outcry, and at that point it remained to be seen whether first, it would ever actually see the light of day and second, whether users would adopt it.

In 1990, Globex terminals were approved for installation in Japan; the Marché

Terme des Instruments Financiers (MATIF) joined the system, as did the Sydney Futures

Exchange, but the system was still far from fully operational. It was not until June 25,

1992 that Globex finally actually launched (Tamarkin 1993:414). It was far from an instant success, and for a long time, the much smaller MATIF accounted for more of the

63 volume on the system than the Merc did. It looked like Globex was at best a “damp squib” or at least “a dog” (Young and Theys 1999:22-23, 31). Volume on the system grew only gradually, and the lion’s share of trading continued to be done in the regular, open-outcry sessions until the introduction of the e-mini S&P contract in 1997. The

CME had traded a futures contract on the S&P index for many years, which because of its size was used primarily by institutional investors (the value of a futures contract is

$250 times the present value of the S&P) (CME n.d.-b:89). The e-mini S&P futures contract was one-tenth the size of the standard size S&P futures contract, and was traded exclusively on Globex, while the standard contract was traded exclusively on the floor during regular trading hours. The new contract was a huge success very quickly, setting volume records as soon as it was launched (Feder 1997). The e-mini contract made three things possible that had not been possible before its introduction – first, it made a very popular contract accessible to the retail trading market; second, it made it possible for options traders to hedge their options more precisely, and third, it created arbitrage opportunities, since the two markets, while related, were separate products, so traders could arbitrage the two. Once the e-mini contract was in place, Globex volume surged.

In 2000, the average daily volume of contracts traded on the CME was 917,000, with

Globex accounting for about 100,000 contracts. By 2006, the average daily volume of contracts was 5,302,000, with Globex accounting for about 3,250,000 contracts (CME n.d.-a:7). Despite its slow start, Globex has become an unqualified success for the CME, an electronic landmark property.

The Chicago Board of Trade as market-space

In sharp contrast to the CME, the CBOT has struggled to find its electronic location. At about the same time that the Merc began to develop Globex, the CBOT started work on an electronic system dubbed Aurora. Unlike the Merc, who did not want to generate a system from scratch, the CBOT was interested in putting together their own system, bringing together experts from a range of fields to assemble a cutting-edge platform, combining the Apple graphics, Texas Instruments artificial intelligence and

Tandem hardware (Tamarkin 1993:383). The result was a system that, unlike Globex, sought to replicate the environment of the pit on the screen. The Aurora screen displayed a virtual aerial view of the pit, with each trader represented by an icon, sellers in red and buyers in blue, and transactions represented by an arrow between the two icons making the trade. Each trader’s icon was identified, as was his clearing firm, unlike Globex, in which only the order information was displayed; for Aurora developers, this was a strength of the system. Each market had a separate screen, so that a trader could only monitor one market at a time, similar to the situation on the floor, and each screen could fit up to 150 icons. Unlike Globex, which planned to disseminate terminals as widely as possible, Aurora terminals would be restricted to CBOT members (Futures 1989). The contrast between Aurora and Globex demonstrates the difference between the ways in which the CBOT and the CME viewed their role as exchanges – for the CBOT, it was the open-outcry marketplace, the location (and the local trader), that drove trading. For the

CME, their role was more diffuse – to bring buyer and seller together, regardless of the environment.

It soon became evident that the technology was not advanced enough to do everything that the CBOT wanted Aurora to do; the CME had been negotiating since

1989 to unify Globex and Aurora, and so in December 1990, the CBOT decided to abandon Aurora altogether and join Globex (Tamarkin 1993:370, 386). The association was short-lived however, since the CBOT was almost immediately unhappy with the cost of developing Globex, which was ballooning quickly, and the costs of maintaining it once it was up and running, projected to be $20 million per year. Under their agreement with the CME, the CBOT was permitted to develop a local-area network system for use for new and low-volume contracts trading during daytime hours, which they decided to do in case Globex did not reach fruition (Falloon 1998:279).

In Project A, the CBOT again attempted to reproduce the open-outcry pit setting on the screen. As one member of the Project A development committee explained, “Although existing technology did cause us to make sacrifices, our system reflects a belief that it is important to provide opportunity for all types of market participants. So there are these subtleties in market making built into the system, although none of those design features are an accurate, 100 percent replication of what occurs in the pit. We just don’t have the technology to do that. But Project A is our best attempt to replicate what happens in a trading pit, and it’s been successful. To the extent that you diverge from what made the floor successful, you undermine your chances of being successful electronically” (Falloon 1998:280).

The project appeared to be a resounding success, particularly when compared to

Globex, which was falling short of its volume projections. By 1994, there were only 350

Globex terminals in use, located in Chicago, New York, London and Paris; MATIF accounted for 80 percent of the volume, while CBOT volume accounted for only about 5 percent. In April, Reuters and the Merc altered the terms of the Globex governance, leading the CBOT to pull out in favor of concentrating on further developing Project A

(Feder 1994). By 1997, Project A appeared to be an unqualified success. It had cost only

$2.6 million to develop, and had already generated a profit of $2.8 million. There were

200 Project A workstations in use, generating an average of 200,000 contracts a day, and volume was trending steadily upward (Falloon 1998:280-281). They had a brand-new trading floor, Project A was humming along, and the future looked bright – until the

CBOT was forced to cede their volume dominance to LIFFE.

Early in 1998, the CBOT and Eurex announced that they planned to form an alliance. The alliance would have two stages; the first stage would be a common communications network for Project A and Eurex, and the second stage would allow

Project A and Eurex users to access both markets from a single screen. The idea behind the alliance was to increase the global distribution of Project A and give members access to Eurex products while at the same time increasing order flow to the trading pits (CBOT

1998). In July of 1998, the CBOT board voted to expand the Project A system, listing their major contracts on the system for regular session trading side-by-side with the open- outcry session beginning in September. Though they did not anticipate that much volume

67 would move to the screens, they wanted to head off any potential electronic competitors

(Burns 1998a).

By autumn of 1998, the membership was becoming unhappy with the proposed alliance with Eurex, unhappiness that was being reflected in the politicking surrounding the upcoming election for chairman of the Board. Two candidates were slated, the incumbent chairman, Patrick Arbor, the man responsible for the new trading floor referred to by traders as the “Arbor-etum” and for the proposed alliance with Eurex, and

David Brennan, a local in the soybean futures pit. Those who backed Arbor argued that the alliance with Eurex was synonymous with progress, particularly technological progress, and reviled Brennan as a “flat-earther,” a reference to his position on the design of the trading pits in the new trading floor. Brennan, a local, had favored the shallower design desired by most locals, while brokers at desks had favored a steeper design that favored their sight lines. The brokers carried the day on that issue, but it was less clear that they would carry the election. In contrast, those favoring Brennan, while not necessarily against the alliance in principle, were against the provision of the agreement that specified that the shared system would run on the Eurex platform, as opposed to the

Project A platform (Burns 1998b). Some traders who opposed the alliance on the basis of opposition to the Eurex platform reported that their opposition was based not on a desire to remain in the pits, but rather on their experience on the Eurex system, which was notoriously slow and prone to system outages. Among users, Globex was considered the most reliable, followed by Project A, with Eurex a distant third. Given a choice, those

68 traders saw no reason to give up Project A for a technologically inferior platform. When all the votes were counted, Brennan won the race, leading to questions about what the next step would be for the CBOT.

Once he took the helm, Brennan initially cancelled the agreement with Eurex, then did an about-face and announced that it was back on. As it moved forward, it became clear that there were significant issues with a number of features of the new platform. A/c/e, did not seem to be an improvement over either Project A or open-outcry.

It had cost more than expected, was going to require more downtime than Project A (six hours per day), the fees would be higher than open-outcry (25 cents to make a trade on a/c/e, as opposed to 1.2 cents to make a trade in the pit), it routed trades less effectively, and the CBOT was going to have to pay $2.8 million a month to Eurex to run the new system (Allison 2000). The new system finally launched on August 28 th , 2000, the exchange’s third system in twelve years.

By the beginning of 2001, cracks were already appearing in the alliance, as Eurex charged that the CBOT was not living up to their end of the agreement. According to

Eurex’s parent company, Deutsche Bourse, the CBOT was failing to bring new products to market, was not contributing financially to planned platform upgrades, and was not making timely payments to the Bourse (Haffenberg and Marek 2001). In January 2003,

Eurex stunned the CBOT by announcing that they planned to open an exchange in the US that would compete directly with the CBOT, listing the same futures and options contracts as those traded by the CBOT (New York Times 2003b). The CBOT responded

69 to the news by announcing the day after Eurex’s announcement that they would be switching to their fourth electronic system, the LIFFE Connect platform, developed by the LIFFE unit of Euronext, a European exchange (New York Times 2003a). The launch of competing exchanges quickly doomed whatever remained of the alliance between

CBOT and Eurex. With their fifth system, the CBOT appeared to have found a reasonable fit. It had been far from smooth sailing, a sharp contrast from the path taken by their cross-town (or more accurately, cross-Loop) rival. The CBOT appeared to be as lost in cyberspace as they were secure in physical space. The schema that had served them so well as an open-outcry exchange and as an architectural landmark and landlord appeared uniquely unsuited to navigating the unfamiliar landscape of screen-based trading.

Even as they struggled to find an electronic location, the movement from floors to screens placed the future of their buildings in some question. In 2001, rents accounted for 11 percent of the exchange’s revenue, but as electronic networks meant that traders were less tied to the exchange, forecasts suggested that rental revenue would begin to drop as early as 2003 (Chicago Tribune 2001). In contrast, in 2002 the Merc renewed their five-year lease for 10 and 30 S. Wacker Drive, increasing the space it had in the buildings by about 10 percent – a very different type of commitment to a marketplace than the one the CBOT had forged, one that meant that they could move far more freely both financially and physically (Chicago Tribune 2002).

The merger

In the period in which they were building their electronic presences with varying degrees of success, both the CBOT and Merc had made the transition from not-for-profit partnerships to for-profit, shareholder-owned corporations. With the transition, the Merc was free to look for acquisition targets, and the CBOT became just such a target. While the two exchanges had contemplated merger in the past, once they were shareholder owned, many of the impediments of the past were immaterial. At the same time, the pressure from other exchanges – both competitive and acquisitive – began to drive the two exchanges closer together, leading them to combine clearing and back-office functions. In October 2006, the CME and CBOT announced that they planned to merge; though referred to as a merger, it was in fact the planned acquisition by the CME of the

CBOT. In a surprise move, the Atlanta-based Intercontinental Exchange (ICE) also made an offer for the CBOT, one strong enough that for a time it was not clear that the CME would prevail. The CME eventually sweetened their bid to the point that CBOT shareholders voted to approve the merger, which was complete as of July 2007 (Manor

2007). The new entity is known as the CME Group, A CME/Chicago Board of Trade

Company, and its logo is the CME logo of an octagonal globe. The CME has sold its trading floors, and will transition floor trading to the Board of Trade, while electronic trading will transition to Globex – in effect combining the best of the CBOT with the best of the CME in a Chicago-based trading behemoth (Diesenhouse 2007).

In negotiating space, the CBOT and CME have managed to defy geography. The

Board of Trade/CME building sits at the head of a very different boardroom table than they once did. At one time, Chicago was a financial center, home to the CBOT and the

CME, as well as to the headquarters of money center banks that sat in a row along

LaSalle as though the directors seated around the boardroom table. When the CBOT was an undisputed number one, and the CME number two in the world in derivatives volume,

LaSalle was home to Continental Illinois National Bank, Harris Bank, First National

Bank, LaSalle Bank and Northern Trust. Today, only Northern Trust remains headquartered in Chicago; all of the others have been taken over. Continental Illinois failed, and was eventually acquired by Bank of America. Harris Bank was taken over by the Bank of Montreal. LaSalle Bank was acquired by ABN Amro, and First National, after a series of mergers, eventually became a subsidiary of J.P. Morgan Chase (Barboza

2004). As ruptures transform the space around them, the CBOT and CME have apparently successfully negotiated their own spatial transformations, coming together at the end of their divergent paths to transform Chicago, and from Chicago, the world of derivatives.

Chapter 3: The Production of Virtue

Can markets produce virtue? According to traders, the answer is yes. This chapter is about the ways in which traders understand the market as producing virtue. In this chapter, I review theories of the interplay between markets and morality. I then describe the mechanics of floor options trading, highlighting the ways in which a trade is made. I then discuss norms of behavior that emerge in the course of repeated trades, and how those norms are enforced through reputation and cooperation in the context of a trading community, resulting in the production of virtue.

Hirschman (Hirschman 1982) has asked how market society has been regarded throughout history. He found that the market was initially understood to have a civilizing impact on society, an impact mediated most primarily by the importance of reputation to the smooth functioning of a market. Markets are by their nature cooperative institutions, and that cooperation has a civilizing effect. Hirschman quotes Montesquieu, who argued that, “it is almost a general rule that wherever manners are gentle ( moeurs douces ) there is commerce; and wherever there is commerce, manners are gentle” (Hirschman

1982:1464). Montesquieu was not alone in his views; a number of early theorists of the market suggested that markets resulted in a higher value being placed on traits such as honesty and fairness.

Not too surprisingly, it is the view of most contemporary economists as well that market interactions yield the most positive outcomes possible at every level. Economists have argued that markets give rise to a range of traits and dispositions associated with

73 personal virtue, such as responsibility, trustworthiness, honesty and so on (McCloskey

2006). The precise relationship between the virtues and the market is not always entirely clear; it has also been argued that pre-existing habits of thrift, hard work and trust may also lead to more successful markets (Barro and McCleary 2003; Guiso, et al. 2003; La

Porta, et al. 1997).

Recent work has suggested that the direction of causation may indeed be from the market to the behaviors. A team of anthropologists conducted a cross-cultural project, carrying out economic experiments with fifteen small-scale societies around the world

(Henrich, et al. 2004a). They found that “people appear to be more fair-minded and cooperative than predictions based on Homo economicus would lead us to assume”

(Ensminger 2004:356). Specifically, the greater the degree of market integration of a society, the greater degree of fairness players exhibited in their behavior in the experimental games. In societies with more market exposure, players were more generous with their partners in the game than were players in societies with less market exposure. This generosity is consistent with the offers made by players in western market societies 8.

The market as envisioned by economists tends to be one of many anonymous trading partners whose sole basis for discriminating between goods is price. “In the new classical model firms are assumed to be perfectly competitive “price takers” with no control over the price. This approach may describe farmers producing goods sold on an

8 See Chibnick (2005) for a discussion of experimental economics in the context of anthropological theory.

74 auction market, like wheat or corn sold on the Chicago Board of Trade” (Gordon

1990:215). In practice, many markets defined as markets fall somewhere between purely market-driven and completely non-market. Most exchanges are at least in part social relations as people interact repeatedly or within socialized contexts. Anthropologists studying local markets have long noted that people are inclined to address the challenges of trade by personalizing the interactions. The classic example is that of the bazaar, in which partners utilize small groups of trustworthy relatives (Geertz 1978). Recent sociological studies of contemporary markets have made similar findings (Uzzi 1996;

Uzzi 1997). These point up the degree to which a market may not operate at arm’s length; reputation and cooperation are social processes, and they are social processes that appear to have a ‘civilizing’ effect.

Most of the arguments for the positive effects of market participation are arguments about participation in ‘the’ market, rather than about participation in a specific market. This chapter is an argument about the effects of participating in a particular market, the market for exchange-traded options in Chicago. It has been argued that financial markets may give rise to moral accounts by participants (Hertz 1998).

Researchers focusing specifically on derivatives markets have suggested that they may be regarded as moral communities which act in restraint of opportunistic behavior (Abolafia

1996b; Abolafia 1998). Some have even gone so far as to propose that derivatives markets are not only moral communities, but that their creation is itself a moral project, arguing that there is an “articulation between the financial markets and moral concerns of

75 a wider culture… markets are moral communities, as well as articulating with moral concerns” (MacKenzie and Millo 2001:5) . This chapter does not go so far as to suggest that markets are moral projects; rather, while allowing that markets may form moral communities, I also argue that they may rise to specific, morally valent dispositions among participants through processes of reputation and cooperation in the context of community.

The context of community

The action in the pit

The heart of the market in open-outcry options trading is the trading pit. Trading in every open-outcry product (such as, for example, options on wheat futures, or options on stock indexes) takes place on a trading floor, in a designated area, the pit. Only one product is traded in each pit, and trading in the product can only take place within the pit.

That is not a casual rule – trade in the product is completely contiguous with the boundaries of the pit, such that one a trade made even a foot beyond the pit would not be legal. There are two main types of options pits. In the case of pits in which options on futures are traded, the options pit must be placed such that the options traders can see into the pit, since a price change in the futures means an immediate change in the price of the option. Though traders can in most cases can see into the futures pit, in many cases they also employ clerks, known as arb (short for arbitrage) clerks, who stand at the edge of the futures pit (they are not allowed to stand in the pit), using hand signals, or arb signals, to

76 signal the futures prices to the options traders. In pits in which the underlying is not traded on the same exchange, traders are updated on price changes by terminal screens placed in the pit.

Around the pits are rows of workstations, or desks – this is where orders arrive by phone or computer routing system. The pits themselves are tiered, much like tiers of seats in an arena. They are either octagonal or horse-shoe shaped, built either up and then down, or simply down in to the floor, and of varying heights and sizes depending on the number of traders in the pits – itself a function of how much interest there is in the product. They are designed to allow traders to see one another, as well as their order desks and neighboring pits. They are built for heavy use, covered with non-skid matting and surrounded in many cases by waist-high bars, rather like a low jungle gym, to prevent traders from falling out when the action becomes intense. In a crowded pit, a trader can have very little space, and be forced to stand pressed up against his (or much more rarely, her) fellow traders for hours at a time.

An empty floor is relatively unremarkable – a broad landscape of gray, pits surrounded by desks like an enormous, quiet, business-like amphitheater, which by the end of the trading day is littered with a layer of discarded paper. Filled with traders, however, walking on the floor is more like walking onto a football field that has just been charged by emotional fans. It’s loud, and to the untutored eye and ear, confusing, chaotic, and overwhelming. With some time and experience, the chaos sorts itself out, and some order asserts itself. The first level of order is that the colorful jackets that the

77 traders wear correspond to their firm and role – members wear one type or color, either the generic ‘member jacket’ or one identifying their clearing firm, or one of their own design. The clerks all wear the same type and color jacket, so they are easily distinguished from the trading members.

Within the pits, the action is divided by contract month. Traders trading the contracts that expire the soonest, the “front months,” stand in one part of the pit, which those trading contracts that expire further out, the “back months,” stand in another part of the pit. This distinction is most apparent in the futures pits. In the options pits, traders tend to stake out places with good sight lines, and guard them jealously, with varying degrees of institutional support. In some pits, a trader’s right to his spot is protected by the rules of the exchange; in others, it’s just a matter of debate, suasion, and mild intimidation. Within the pits, the brokers tend to stand on the higher tiers, where they are able to see their desks and are accessible to their clerks, as well as being visible to the locals. The locals tend to stand in the lower tiers, where they can see the brokers, and be seen by the brokers. The pit is the most immediate context of trade, the arena in which the action takes place.

The personnel at work

As noted, there are two primary categories of market participants in the pits.

There are brokers, and there are market makers (also known as locals). Every trade in the pit is made between a broker and a local. Brokers do not trade with one another, and

78 locals do not trade with one another (though a local can place an order – but he must do so through a broker, which makes the local a customer for the purpose of that trade).

Both brokers and locals are known as floor traders, to distinguish them from members of the exchange who choose to place their orders from off of the floor through the floor brokers. Floor brokers are traders who handle orders from others, and who, depending on the rules of the exchange on which they trade, seldom or never place an order for themselves. Brokers act as agents for a brokerage firm’s customers. They take orders from customers outside and beyond the pit, and make the trade within the pit on behalf of the customer. They provide this service in exchange for a commission on each trade that they make. They may work primarily for a single brokerage house, or they may take orders from a range of brokerage houses. The desk managers for brokerages can place their orders with any of the brokers working in a given pit, though in practice they tend to favor specific brokers; within a pit, a broker can be identified not only by his jacket, but also by the large stack of paper slips he holds in his hand (or which is held for him by his clerk). The slips are customer orders, and the stack of paper is known as a trader’s

“deck.” A broker does not make money beyond the commission or fee that he 9 makes for each trade, but, by the same token, he does not lose any money beyond the commission or fee.

In contrast, a local may make or lose money on each and every transaction he makes. A local can potentially earn far, far more than a broker (though a good broker

9 Though there are both men and women working as floor traders, the vast majority are male, so for simplicity’s sake, I will use masculine pronouns in reference to floor traders.

79 with steady order flow can make a very comfortable living), but he can also make far, far less than a broker, or even wind up owing more than he makes. Locals do not make a fee on their trades; rather, they trade for their own accounts, expecting to profit on their trades. Brokers bring the orders to the pits, and locals take the other side so that the orders can be filled. It is their job to ensure that every buyer in the market has a seller, and every seller has a buyer. This is a particularly important function in product that are thinly traded, or that are experiencing shocks. In a market in which everyone wants to sell, locals may be the only buyers. The locals provide immediacy to the market, so that a customer who wants to sell does not have to wait for a customer who wants to buy.

Instead, the local buys from the customer who wants to sell, anticipating that at some point in the future, he will be able to sell to the customer who wants to buy. As one local described his job, “My job is to provide liquidity and make a living. And what that means is, I’m supposed to be in the pit, I am supposed to be an active member of the pit community, in other words, give customers a chance to get in and out, always give them an in and out. On a day-to-day basis, that is my job.”

There are three primary ways in which an options market maker makes his living.

The first is the premium that he charges to write (sell) the option. The premium is the price of the options, and varies with the risk of the option. Options are essentially a form of insurance against loss. So, an option premium is similar to the premium charged for life or health or homeowners insurance – the greater the risk, the higher the premium.

The market maker also expects to make money on what is called the bid-ask spread. The

80 bid-ask spread is the difference in price between where a trader will buy the contract (the bid) and the price at which he will sell it (the ask). Traders aim to buy low and then sell high, and retain the difference. The bid-ask spread is considered the local’s compensation for maintaining an orderly market. Finally, traders hope that they will be able to profit beyond the bid-ask spread, and that wider price movements will benefit them, such that they are able to make more than the basic bid-ask spread, which tends to be narrow. Unfortunately, however, while a big swing in prices can enrich a trader, it can also move against him, making this potentially the least consistent source of income.

Together, the locals and the brokers cooperate to create a viable market. Though they are competing – the brokers are competing to get the best price for their customers, and the locals are competing to get the order – they cooperate to generate and maintain order flow for their product. The brokers bring the orders to the pit, and the locals make sure they get filled.

How a trade is made

Every trade begins outside the pit, with the customer – either retail (an individual trading for his or her personal account) or institutional (producers or wholesalers in the case of a commodity contract, or a pension or hedge fund, for example). Retail customers place the orders with their brokerages, which send the order to the floor by telephone or computerized order-entry system. Institutional customers may route their orders similarly, or they may maintain a desk on the floor where they send their orders.

They may have their own floor broker, or route their orders to an independent floor broker. Once the order reaches the floor, it is written up on an order slip, and time stamped, and either ‘flashed’ to the clerk in the pit using hand signals, or given to a runner to take to the pit. When the order reaches the broker’s clerk, he either shows it to the broker, who decides whether to either execute it immediately or have his clerk hold it in his ‘deck’ until the market conditions are right to fill the order. 10

Once the market conditions are right, the broker executes the order. This is a deceptively rapid process – in a fast market, experienced brokers and locals can be executing a trade every thirty seconds or so. In its most basic form, a trade is fairly straightforward. The broker asks for a market – “what’s here, Dece thirty-half calls?”

Meaning, I have an order for call option contracts expiring in December, where the price of the underlying is 30.50, and I want to know where locals are pricing the options. A broker may ask for a one-sided market (only the bid or only the ask) or a two-sided market (the bid price and the asking price). A local must be ready to quote a market if asked by a broker. The locals call out their best bid and/or offer and quantity, such as “40 bid, 200 up,” meaning the local will buy 200 contracts at 40. All of the locals who want to be in on the bid trade call out their best bid and/or offer – the best bid and offer automatically silence all other bids and offers. The local who calls out the best bid or

10 Orders can be, and increasingly are, routed directly to the pit using handheld computers, such that the communication of the order and its execution are almost fully electronic. However, the interactive process remains similar – it’s the paperwork that has been transformed

82 offer first has the right to the trade. The broker and local agree on the trade, and then the trade is done and binding.

Once they have agreed on the trade, they ‘card it up’ – the broker fills in the order slip and the local fills in a trading card – with the contract, price, quantity, the acronym of the other party (all traders are identified by acronyms, which they wear on large badges on their trading jackets), and the time. The floor reporter (an employee of the exchange who stands at a terminal in the pit) then records the price for immediate entry into the exchange’s computerized price reporting system. The information is posted for traders in the pit, and sent out to subscribers to data feeds. If the local employs a clerk as a trade- checker, the trade checker takes the card and finds the broker’s clerk and confirms the trade. If there is any discrepancy, they try to resolve it. At the same time the broker’s clerk returns the completed order to the broker’s desk, where it is time-stamped and confirmed with the customer. The order slips and cards are then routed to the appropriate clearing firm, which enters the trades in their system, from which they will route the information to the clearinghouse. At the end of the trading day, all trades are matched and all accounts are settled, in a process in which the clearinghouse takes the opposite side of each trade, ensuring that all trades will be filled, even if a member is for some reason unable to fulfill his obligations.

What can happen in a single trade?

Many trades are as simple and straightforward as outlined above. The broker exposes the order to the crowd, a market-maker bids or offers, the trade is agreed upon, and carded up. However, there are a number of reasons that a trade might not follow that choreography, all of which reasons create conditions under which traders can and must use their discretion in deciding how to proceed. The first and most common occasion for the use of discretion is the allocation of a trade by the originating broker. Though the rule in most cases is that the entire order goes to the first local to bid, that is rarely what happens in practice. In practice, other traders may join a bid or offer, and the trade is usually allocated between locals. As one local explained, “The written rule is, if you bid, if you take out an order, you are entitled to all of it. I have never seen an options, not even a futures, market normally work that way. It will normally be split up by people who are roughly there at the same time. You can’t come in five minutes late, but if you’re there at the beginning, then you’re entitled to some of it.” A trader goes by who he sees and hears make a bid or offer, which creates conditions under which a broker may use his discretion in allocating the trade. There are also different levels of participation among locals, who may decide to bid on some things and not on others – though they must participate if asked.

The other area that creates conditions under which traders must use their discretion is errors. Mistakes are common on the floor. Traders are human; the pits are noisy and crowded. The pits can also be very, very busy; when there is a market

84 movement or supply scare or a report comes out, orders can come to the pit at a rate that is taxing to everyone involved. At times, a pit can even declare a ‘fast’ market, when the pace of trading exceeds the pace at which the market reporters can input the information to the price reporting system. At that point, the screens over many pits that normally record data simply flash FAST where price data would normally be displayed. As a trader describes it, “You try to stay bid, offer, try to make everything as clean as you possibly can. When it’s not like that, it’s really just because the stuff’s flying all over the place, and you have limited hours to get your trades in. We see times when you have people massed around the pit, and you just have to get it done. I’m surprised how well it really works.”

There is a range of mistakes that can be made by traders on the floor. Mistakes can be made before the trade is made, when a local makes a market. A trader can be asked for a quote and err in making it:

Somebody asks for a complicated spread market. I may hit eighty bid. I’m off by three dollars. If somebody tries to hit me, I’m not there because I’m clearly off my market. The reason why that happens is because otherwise no one could ever make markets, especially in options, all the time. You make five hundred markets a day, you’re not going to make five hundred correct markets. It’s impossible, and I don’t know what the rule is. What does off mean? I don’t know, but in a pit community, where everybody at times will make a market, there’s a general understanding that you actually have to be making the correct market. And obviously we are actually more at risk - if you’re mid- market, which is something that someone could say, then I’d honor it.

In this case, the trader is off his market, so if someone tries to make a trade at that price, either he will realize he is off and not make the trade, or in some cases, the broker or

85 another local will notice and tell him – saving the trader from making a trade he’ll wish he didn’t make. But, as he points out, if he’s only slightly off his market – that is, quoting prices that are only a little bit off given market conditions – he will honor his market – that is, make the trade – even if the price isn’t where he meant it to be.

There are other errors that arise as a trade is made. The broker can misquote, or be misheard by the local. This can result in errors like prices not matching, both parties thinking they’re selling, both parties thinking they are buying, quantities that don’t match, and writing up the wrong badge. These are the sorts of errors that are more common in fast markets, and that trade checkers are supposed to catch. But, not everyone has a trade checker, and not everything can be resolved. Once an error isn’t caught or can’t be resolved, it becomes what is known as an outtrade. If it hasn’t been caught before, an outtrade is usually caught by the clearing house when they reconcile the day’s trades. After a fast market, it is not uncommon to have so many outtrades that an outtrade session is scheduled for the next morning a few hours before the markets open, since all outtrades have to be resolved before the open of trading. When an outtrade session is called, all of the respective clearing firms send the cards and order to the floor, and either the traders or their representatives must be there to resolve the problems.

Outtrades are common enough that many traders have outtrade clerks, a clerk on their staff who has had extra training and passed an exam, whose responsibility it is to resolve outtrades when they arise. Normally, outtrade clerks and traders can identify the source of the problem and resolve it so that all trades are cleared before the open.

It’s a repeat game

Trades do not occur in isolation. Traders trade with one another over and over, all day, day after day, week after week. Over time, as interactions are repeated, traders develop a sense for one another’s behavior, and develop reputations. Thought there may be more to a reputation, it is fundamentally based on an assessment of the trader’s trustworthiness. As one trader puts it, “In floor trading, trust is substantial. You have to be able to look at someone and say, I’m making this trade with you, you’re making this trade with me, we both agree, and at the end of the day, you, win or lose, you’ll have turned your trading ticket in just as I have. That mistakes weren’t made. You check your trades often, right away.” Mistakes are a critical, though not the only, setting for the development of reputations.

Traders can develop good reputations, and they can develop bad reputations. A trader can develop a bad reputation by taking advantage of the routine around errors, and by abusing the role of discretion in trading. While traders recognize that everyone makes mistakes, making too many mistakes or using them for gain or to hide risk can form the basis of a bad reputation. Trading is risky business; trading with unreliable partners creates outsize risk. They watch for, as one trader puts it, “…someone constantly backing out of trades, telling you they were off. Things are always to their advantage.

Guys have a reputation for doing that. Suddenly every trade you make is in question.” A

87 trader who is not trustworthy may even create the appearance of a mistake where there was none in order to alter the appearance of his trades, in order to hide a risky position:

You put a trade in. [You say] I bought three hundred puts, and so now, the clearing firm is going to look, in terms of extreme risk, because they’re required to pay off, you don’t make them lose any money. Well, the next morning the person – first of all, if you say, I bought three hundred of these puts, you’re saying you bought them from somebody. Well, that other person is going to say, I never sold these to you. First of all, they’re going to be really angry that you put them up. There’s no real, reasonable reason as to why you did this. So, they’re not going to like that their name is showing up on a report that they sold something that they didn’t really sell.

In this case, the trader has both sullied his own reputation, by fabricating a trade and by sullying the reputation of a trader who did not do anything wrong.

Traders want, above all, to have a good reputation. One of the easiest ways to have a good reputation is to in so far as possible forestall mistakes. Then there is no question of whether discretion is being abused. Simply avoid any appearance of cheating another trader or not being honest with him. According to one trader,

It’s a repeated game. That’s huge. That’s where the trust, the integrity, all that comes into play. Trust and integrity are huge in trading. Part of it comes down to that whole getting along with people. You want people to want to trade with you. You want them, if they have a choice, to trade with you and not have any fear that you’re going to lie, you’re going to cheat, you’re going to whatever.

Another trader states it succinctly as, “Be honest, be honorable, stand up for the trades you make, operate a fair market as best you can.”

A good reputation isn’t simply a matter of avoiding malfeasance; it is also a matter of going the extra mile, making the extra effort, being a good citizen in the pit

88 community. Traders have long memories, and they remember both slights and favors.

One trader outlines his role in the pit thusly:

For example, we’re in the pit, broker asks for markets. Say I’m sixty bid at even, fifty up. And he says, sell fifty. And there were two guys right behind me, that were also fifty bid at the same time I was. Well, the broker didn’t hear them, but I did. I’m going to split up the order. And the reason is, that’s the honest thing to do. Or, I’m sixty bid at even, and behind me I hear a sixty-five bid, and the broker says, sell you fifty, and I say, well, no, Joe behind me was bid sixty-five. [He’s an] idiot [to bid sixty-five]! But Joe here was bid sixty-five, so, that’s another thing. You want to have a reputation for being straight up. And I think in the long run it pays off.

In the long run, a trader who plays it straight is one who does not add to the risks and uncertainty that either he or the traders he trades with experience. This may be in part an attention to abstract notions of goodness and fairness. It is also good business. The idea that a good reputation pays off in the long run is often literally true.

Generally speaking, traders with good reputations find that they are rewarded, while those with bad reputations are not. Within the pit community, “You want to reward everyone who does work. If you make markets, you’re there all the time, you deserve a piece of the trade.” Other traders are going to make sure that you are seen, that you are in on trades, and that you get a chance to be in on the action. It becomes a complex calculation of inclusion.

Our broker is much more likely to notice people in the front rows. He doesn’t have great hearing. He has fifty contracts to do. He will most likely give thirty to forty of them to the people right in front of him. If I hear Sam behind me was ahead of me, it behooves me to say well, no, actually Sam was ahead of me. I do that for two reasons. One is, he deserves it. The other is, I don’t want Sam to have to change the rules of the game, where he suddenly has to be two ticks better than everybody all

the time, because he feels he’s being cheated. So, as a large trader, you want to play by the rules that are fair, because it helps you, because it lets you sleep at night, but also because it will stop other people from deciding, oh my gosh, I never get a single trade, even though I’m in on every market.

A trader can both protect and enhance his access to trades by maintaining the behaviors that result in a good reputation. That is true of communication within the pit community and of communication with those outside the immediate pit community.

As one trader reports, “If you trade with someone, how do you communicate with them? Well, if I am telling this group [through their broker], if I am honestly saying, this is what is going on, they’re much more likely to trade size.” That is, customers who feel that they are not being led on about market conditions, and that they are being honestly told the prices in the market, are more likely to place large orders than customers who are not sure that they trust the reports they are getting from the pits. Traders prize large orders, and traders who routinely trade large orders are known as ‘size’ traders. But a trader has to earn the right to those orders by demonstrating first and foremost that he can be trusted with them. Once he can, those orders are likely to be more profitable than constantly trading small orders. Once you have successfully handled a few of those larger orders, “if you have a reputation for being a big trader, even if you stand in the back, brokers will get your attention, just to trade. After you’ve stood there a while and made some markets, and things like that, well, chances are you might get more of a chance to be on tickets that you wouldn’t ordinarily be in on, because you have provided liquidity and things like that.” The more tickets you are on, the more you are going to be

90 able to be in on, and the more you trade, the more money you are likely to make. You have to be trading in order to be making money trading. Over the long run, over many, many trades, a good reputation can indeed literally pay off.

By the same process of accretion, a trader may find that, regardless of his trading ability, a bad reputation will cost him in the long run. A trader may develop a bad reputation for backing out of trades that are losers, over and over, or for quoting a market and then not honoring it. He may pretend not to hear a better bid or offer if the broker doesn’t hear it. There is any number of ways that a bad reputation may be built up over time. That reputation will begin to cost a trader not only in terms of the regard of his fellow traders, but also more critically in terms of the access he is or isn’t given to trading. Once a trader has backed out of a trade, he is operating under a cloud. The rule of thumb on the floor appears to be the classic, ‘fool me once, shame on you; fool me twice, shame on me.’ A trader is allowed one mistake, but a trader who commits a second infraction should assume his fellow traders are watching him carefully for signs of another slip-up. Once he’s erred twice, according to a trader, “Guys have a reputation for that, and people say that they try not to trade with them, and they will do anything not to trade, because suddenly every trade you make is in question.” A broker may use his discretion to not ‘see’ or ‘hear’ an offender. Or, the errant trader may suddenly find that he is only getting very small quantities, one-lots or two-lots. Traders will suddenly hew precisely to the rules when they deal with him, trading in only what is strictly and absolutely required by the rules.

After the second infraction, the informal sanctions can be severe. “If you back out of a trade, if you do something, no one will ever trade with you, because there’s too much risk. People say it’s a cesspool and things like that. Well, there are bad people in all kinds of business, but if you cost somebody money because it looks like you’ve been dodgy, people aren’t going to trade with you. And it just gets weeded out so fast.” If you cost people money, they are not going to trust you with their money. In the long run, that behavior costs the offender money, in lost opportunities and lost trades. A trader who can’t be trusted finds himself marginalized, in some cases figuratively, and in pits where there is a lot of competition for good trading spots (spots with good sight lines, near a broker), literally, to the edges of the action. Under those circumstances, “most people are true to their word. And you have to be, because if you are not like that in the long run, you are gone.” The threat is a powerful one – one that causes many traders to quickly recognize the benefits of proper behavior.

In the end, a trader is either good or gone. A as a veteran trader described his pit,

“Even the scummy people bring their ethics in line because in the end they want to do what’s best for their business. And if you’re such a scumbag that no one wants to trade with you, you’re not going to trade very long. Therefore you have to start behaving more ethically in order to be able to have people trust you and trade with you.” It is possible to be redeemed from the edge of the pit, to show that you are reformed, that you have learned your lesson. But, when traders indicate that much of this happens over the long term, they are quite serious about it. Traders earn their reputations gradually, through

92 repeated interactions, with increasing amounts of risk – both ethical and financial risk.

That process is never really easy, but it is certainly easier if you are not fighting it on two fronts. If no one trusts you with more than ten contracts, you are not going to see any real financial success for a long, long time. In that sense, and in that way, though it is neither a perfect nor a foolproof process, the pit community tends to produce virtue in its members.

Beyond the pit

The reputational process has implications beyond the pit. The pit is an powerful and intimate arbiter of behavior, but it is not the only one. The clearing firm, the exchange, and the customer can all bring their influence to bear. As noted above, all futures and options trades are cleared 11 through a clearing firm, which then in turn clears their trades through a clearinghouse. For each options transaction, there is a buyer and a seller (also called a writer in the case of options). In the absence of a clearinghouse, each party would be responsible to the other. If one party defaulted, the other would be left with a worthless claim. The clearinghouse assumes the role of intermediary to each transaction, guaranteeing the buyer and seller that the contract will be fulfilled. The clearinghouse is composed of member clearing firms, who in turn keep monitor the long and short positions of their individual traders and member firms. All parties to

11 The full definition of clearing is, “The process of settling a trade – including the deposit of any necessary collateral with the clearing corporation and exchange of any cash payments between the parties”

Gastineau, Gary 1992 Dictionary of Financial Risk Management. Chicago: Probus Publishing Co.

93 transactions must have an account with a clearing firm, or with a firm that has an account with a clearing firm. The clearinghouse and clearing firms take on risk with each transaction; to offset that risk, they require that members maintain margin accounts with a balance sufficient to cover the amount that they have at risk. Their risk varies with their position – the contracts they have bought and sold each day. If they default, the money in their margin account is used to cover their losses.

Because the clearinghouse is the mechanism by which the exchange guarantees to its customers the performance of its financial obligations, in order to trade, a trader must be not only a member of the exchange, but also a have a relationship with a clearing firm.

When an individual decides that he wants to be a trader, he must do three things – first, come up with the capital to begin trading; second, establish an account with a clearing firm, and only then, third, apply for membership with the exchange on which he wishes to trade. Without a clearing account, he cannot become a member. That makes the clearing firm a key player in the maintenance of standards of behavior on the floor.

When an individual applies for a clearing account, his reputation is scrutinized.

According to one trader, “People have reputations sometimes, and clearing firms won’t touch them. You hear, if nothing else, you see who’s been fined, for what. You know, someone’s been fined for entering fictitious trades to mask their risk, you don’t want to touch them.” A trader who is losing money may get desperate, and make some big trades hoping that they go his way and put his trading account back in the black. However, those big trades are likely to carry more risk in the eyes his clearing firm, which will then

94 require that he put more money in his margin account. If he doesn’t have the money to put in the account, he might be tempted to make a “mistake” and submit a card that indicates that he made a trade that he didn’t make, a trade that, if he had actually made it, would offset some of his risk and reduce the amount he has to put in his margin account.

But instead of making the trade, he simply fakes a card, using another trader’s acronym as the counterparty, and hoping it will be regarded as a ‘mistake’ just long enough for his risky positions to pay off so he can cover his real risk. It is unlikely that he will get away with it more than once, if at all. As a trader pointed out, if you do that, not only is the other trader going to be furious with you, “your clearing firm is going to go, okay, so overnight you actually had ten million dollars worth of risk, and you have two million dollars in the account. We don’t allow that. Do it twice, it’s a reasonable thing to think that you’re being a scumbag, and trying to screw up the law.” The first time it happens, it could be a mistake. If it happens again, you are considered to have run afoul of your fellow traders in the pit community, the clearing firm, and the law.

The consequences of a bad reputation are severe. As a trader outlined the situation,

In the end, let’s look at it, let’s not even look at it as an ethics thing. Let’s look at it as a business thing. Why does a clearing firm want to expose themselves to ten million dollars worth of risk, when you don’t have the money in the account? So they’re, in the end, going to be responsible for it, so on a pure business decision, they clean your act up, or you clean your act up, and that’s why, in this particular industry, markets are driven by ethics, to a large degree. I mean, to be suspended from the floor is to not ever be able to trade again.”

Very soon, a trader who abuses his clearing relationship will find that he cannot get anyone to clear his trades, and without anyone to clear his trades, he cannot be a member, and finally, that he cannot be a floor trader.

In contrast, a trader who has maintained a good reputation has no trouble finding a clearing relationship. There are many clearing firms, so there is a fair amount of competition for business. That means that a trader whose reputation does not make him a risk may be able to negotiate much lower clearing fees (a fee that is charged on every trade, and can add up fast) than one whose reputation suggests that he is going to be at higher risk. It is not hard to see how good traders come to regard good ethics as good business. This is a setting in which virtue is not limited to being its own reward.

The exchange also plays a part in the creation and maintenance of reputation.

When a trader is fined or suspended, it is the exchange that does the fining and suspending, as well as posting a notice to the effect of who has been fined or suspended.

It is the exchange’s records that the clearing firms look to in order to see who has misbehaved. The exchange operates surveillance systems of various types such as cameras hung at strategic angles over some pits so that when a trade is questioned, the traders can view the trade as it happened. For the most part, the exchange provides an infrastructure for the informal mechanisms of the pit and clearing firm. According to traders, the primary role of the exchange is “Surveillance. The exchange watches that stuff and their ability to surveill [sic] that stuff is substantial.” Beyond that, “In terms of

96 the exchange, I think the exchange goes either when a customer complains big-time or there is an egregious problem. I haven’t been in a situation where I’ve seen much more.”

Finally, the customer brings influence to bear. For traders, the ultimate arbiter of reputation is the customer, who must think highly enough of the product and the traders to be willing to trade. It’s an interesting view, given that at this point, though this is gradually changing, most of the exchange-traded derivative products are held as monopolies by the exchanges that trade them. That means, for example, only the New

York Mercantile Exchange trades oil futures, only the Chicago Mercantile Exchange trades S&P index futures, and so on. So, if a customer wants to trade a given product, he has to trade it on the exchange where it is listed, regardless of his opinion of the pit.

Nonetheless, traders are very sensitive to the potential for a product to lose customers.

Once the customers are gone, they lose their opportunity to trade. The only way they can be making money is if the order flow is coming to the pit. As traders see it, customers decide to trade with them for the same reasons they decide to trade with one another – they are trustworthy. As one trader said, “You do what you can to keep the customer coming back, because that is repeat business. You screw somebody, they’re gone for good.” Another put it succinctly: “Our business is to get customers coming back. To get them coming back, you play it as straight as you possibly can.” In that way, the customer plays as important a role as any player in the maintenance of reputational norms among traders.

The role of the customer points up another interesting feature of reputation in the pits, the fact that traders operate not only to protect their individual reputations, they also attempt to protect their collective reputations. In a sense, reputations are already maintained collectively, since they are based not only on a single individual’s decision that a trading partner is trustworthy, they are also based on an individual’s decision to trust (or not trust) the opinion of another when they have not had direct experience of the individual (Guennif and Revest 2005). Thus, the process of reputation creation and maintenance is a cooperative one.

Competitive cooperation

Floor traders are competitors. At the same time, they cooperate to maintain the reputation and thus the viability of their product. They form what they refer to as a pit community. It’s a financial community, and also a moral community. Traders cooperate to protect themselves, each other, and their product from unethical individuals and unethical behavior. The idea behind trade on the floor, behind an open-outcry, auction market such as exchange-traded options, is that locals compete to make the best bid and offer, and the trade goes to the best bid or offer, and the customer knows that he or she has gotten the best price because it’s been arrived at through that competition. That’s the idea behind “price discovery,” the assignment of a price to a contract. And locals really do compete – their living is based on paying as little as possible for a contract, and selling it for more. They really are fierce competitors, who do not cede an inch, or a penny, to

98 anyone. So how does tooth-and-nail competition co-exist with in a cooperative community? According to a fifteen-year veteran of the pits,

The edge the traders get, it ebbs and flows. It ebbs and flows with market conditions, which makes perfect sense. But it also ebbs and flows with how the people in the pit get along with one another. You know, it’s not a perfectly competitive, and not a perfectly collusive arrangement. There’s no way a pit is going to be perfectly competitive. Of course you can see the actions of your competitors, of course you react to those. You’re making forty-point markets, they’ll make thirty-point markets. Well, you’re not going to make thirty-point markets anymore. You may make twenty-point markets. And just watching the different combinations of traders is like, teams is too strong, but who communicates with each other. 12

Between competition and collusion is cooperation – which maintains the important role of competition without allowing it to become corrosive. A trader can see who is making what markets, and respond to those markets, just as he can see who is taking advantage, or deserves to be rewarded, and he can respond to those behaviors. In the neoclassical model, anonymous buyers and sellers respond only to price. On the floor, buyers and sellers may be anonymous, but if they are large customers who utilize the product frequently, they are more likely to be well-known. In the same way, the brokers who bring the orders to the pit day after day, and the locals who make trades day after day become well known to one another. Price is important, and that arena is fiercely contested. But maintaining the viability of the pit is important too, and that is where cooperation becomes central. Traders find that they need to compete enough to stay on

12 See Baker for a discussion of the role of social structure in the formation of prices in an options crowd.

Baker, Wayne E. 1984 Floor Trading and Crowd Dynamics. In The Social Dynamics of Financial Markets. P.A. Adler and P. Adler, eds. Pp. 107-128. Greenwich, Conn: JAI Press.

99 the floor, but they also need to cooperate enough to stay on the floor. The result is the pit community with sets of norms and beliefs and sanctions, and an existence that stretches beyond the single trade to form an entity that is stable over the long term. In an industry in which, though estimates vary, at least forty percent, if not more, of the participants lose so much money that they are forced to leave the floor, institutional stability becomes crucial. It is achieved and maintained through the twin mechanisms of reputation and cooperation.

Conclusion

It is possible to distinguish between idea of the market as a source of the formation of ethical dispositions, and the idea of the market as the site of repeated interactions, within which it makes sense to and for the participants to strategically develop a reputation as part of an overall business policy. Traders, however, do not appear to make that distinction. They view the process as a continuous one, where conduct may be ethical in the abstract and good business in practice. They also appear to feel that that their approach is suitable not only to their needs, but to others as well.

Traders are aware that their industry does not always enjoy a sterling reputation itself, regardless of the conduct of the individuals within it. Many of them expressed frustration with what they saw as their relative good conduct, and the conduct of others who may be individually unethical, but operating within industries that were less stigmatized. As they saw it, traders paid appropriately paid heavily for the slightest infraction, while,

100

As opposed to a chemical polluter who gets charged a half-million bucks and they made a hundred million on whatever they were doing, in our industry, a lot of times, the [regulator] has rightly made the penalties so great that the original offense becomes not worth it to a lot of people. And so they’ve been legislated into behaving ethically. Which is great, because there are people in every industry, you see all over the place, that are problems. If there were fines for the kind of fraud that went on in 2000, when those companies committed fraud, if they had similar fines to what we face on the floor, chances are you’d never see those kinds of things going on. I’m not suggesting that we lower our fines. I’m suggesting that perhaps the rest of the industries, other industries, need to raise theirs.

If good conduct is good business for traders, then it should be good business for everyone else. As they see it, the reputational process, with concrete financial consequences, is one that works.

There are some questions about how much longer this process of reputation and cooperation will continue to operate. Technological change has impacted every derivatives exchange in the world. In Chicago, more and more futures are being traded on electronic networks every day. Pits that were once stuffed to the edges with lunging, sweating bodies are now virtually ghost towns. In the options pits, the shift has not been as dramatic. There are two major reasons for this – first, the complexity of options trading makes it more difficult to replicate on an electronic system than futures or stock trading. Second, much of the trading in options done on Chicago’s floors is done by large institutional traders, who are more interested in getting large trades done than they are in how the trades are done. However, it is becoming clear that even the options pits will succumb at some point. It is not clear whether the sense of community that has served the pits so well will make the transition to the world of the screens. Traders are

101 keenly aware of the role that the necessity of repeated interactions plays in maintaining behavioral norms. There is no real way, at this point, to know what role the fact of repetition plays in the reputational mechanism. However, there is the potential for technological changes to gradually empty the options pits in the same manner in which the futures pits have gradually been emptied. Once there are fewer people on the floor and less business being sent to the floor, it becomes clear to the traders who remain in the pits that the number of repeated face-to-face interactions is finite. Some traders speculated that at that point traders might begin to take advantage of the situation and begin to abuse the system, to make ‘mistakes’ and so on, with the idea that that informal sanctions would be impossible to enforce. It remains an open question until the business begins to move to the screen systems.

Can a market be considered civilizing? Options traders argue yes, their markets can be considered to produce virtue in their participants. There is no guarantee that participants will, as they say, bring their ethics in line, but if they do not, they are no longer participants. For most traders, the incentives for bringing their ethics in line, and the punishments for not bringing their ethics in line, mean that they seek to behave in such a way that they can develop and maintain a good reputation among their fellow traders. In short, traders cooperate to maintain their integrity and the integrity of their markets for the good of their business. In that way, these markets are sites for the production of virtue.

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Chapter 4: Les Jeux Sont Faits

The previous chapter portrayed a case in which the market was a positive moral force, with the prevailing direction of influence going from the market to behavior.

There are cases in which the market may be regarded as an influence for the worse, cases in which the influence of the market may be overtaken by other, stronger forces. Those cases are relatively clear-cut, but there are instances in which the influences flow both ways, both from the market and to the market. Work in this area, studies of the nature of markets, point to markets as both influencing and influenced. In particular, studies in this area points to the ‘moral work’ that goes on simultaneously in markets and is a product of markets (Fourcade and Healy 2007). These studies have much of their genesis in work on changing perceptions of the morality of life insurance in the United States (Zelizer

1979), from initial perceptions of life insurance as gambling on the death of a loved one, to the contemporary perception of life insurance as a moral and responsible response to hazard. Studies of morality have influenced studies of another kind of work, research falling within the broad aegis of social studies of science and technology. The two strands of inquiry have combined to foster research on the technological work on making markets, and in particular, markets as moral and moralizing projects. A number of projects have focused on how markets are made by experts – how expertise is deployed to not only make markets, but make markets in line with certain expectations of how markets are supposed to work, or “the performativity of markets,” the degree to which markets perform theories (Callon 1998a). Studies have evaluated the concept more

103 broadly, in its generalities (Callon 1998b), and in its specifics. It has been examined within the context of arbitrage (Buenza and Stark 2004b), and in the case of the development of options theory and consequent practice (MacKenzie 2006; MacKenzie and Millo 2003).

While these studies offer a much-needed examination of the intersection of economic theory and market practice, they have been critiqued as being engaged in consideration of the technologies to a greater degree than they are engaged in the consideration of the actors (Levin 2004). There are, however, studies that have focused not only on the work of the markets, but also on the workers who make the markets, placing their research within the broader studies of organizations and work. They ask questions about how work gets done in markets, and how that work reflects broader cultural environments. These studies have focused on novel form of interactions arising from changes in technologies (Knorr Cetina and Bruegger 2000; Knorr Cetina and

Bruegger 2002; Preda 2002). Thus, studies of markets as saturated with meaning include addressing not only the technologies, but also the use of technologies, the work of making markets.

It is possible, then, to look at markets as sites of work, and as sites of a particular type of work, which presupposes to some degree that economic actors, makers of markets, regard themselves as workers. In my interviews with traders, and particularly with locals, the preeminent makers of markets, however, they consistently described themselves using terms associated not with work, but with games and play, describing

104 themselves as “players” and trading as a “game.” While those are terms that workers can casually use for themselves across a range of occupational categories, it seemed to have a more profound meaning for traders than a simple, convenient metaphor. One local described his view of his work thusly, “To be honest, if I’m not providing good enough liquidity, then I’m a marginal player, or becoming a marginal player, and I won’t be successful long term in the business.” The local’s identification of his work with play is not his alone; in his essay on the German exchanges, Weber concluded that it was possible for observers of the exchanges to come away with the, he felt mistaken, impression that “the whole business has the character of unreality and even play ” [italics his] (Weber 2000a). This play he referred to as “the play of chance” (Weber 2000a).

Relatively little attention has been paid to this aspect of trading, of trading as play and/or as a game. Trading has been described as having a “agonistic, romantic, individualistic, and gamelike ethos that stands in contrast to the ethos of everyday behavior” (Appadurai

1986). In an ethnographic study of bond traders, Abolafia found that traders sought a type and level of rationality in their decision making consistent with that posited by game theoretic models (Abolafia 1996a). However, these studies are suggestive; they do not really grapple with the ways in which traders categorize work and play. Those are categories that have not necessarily been clear-cut in the past, and which are becoming less and less clear in cut in general, compounding the issue of their relationship to trading activities. Anthropologists have looked at play and culture, and understandings of work and play, and found that in many cultures, respondents do not differentiate between work

105 and play, even when prompted to do so (Schwartzman 1980). With the advent of electronic gaming and the internet, any line between work and play has been rendered even less certain than prior to those developments. The emergence of video and computer gaming has also meant that play and games have re-emerged as objects of inquiry. These inquiries into the nature of gaming have pointed to changes in ideas of what constitutes play and what constitutes work, and re-constitutions of ideas of productivity and leisure. Researchers have argued that categories such as ‘game’ and

‘play’ increasingly overlap with categories of work (Malaby 2007; Yee 2006) and that ideas of productive work versus leisure time have undergone similar transformations

(Binde 2005). To understand the traders’ descriptions of their working lives as constituted of ‘play’ and ‘games’, we must look at what their work is, and how it intersects these changing categories. How do traders play at work and work at play?

What traders do for a living

Traders trade for a living. The traders I interviewed trade futures and options.

Futures and options are both derivative contracts – that is, they are contracts that change in value along with, and/or derive their value (ergo the term ‘derivative’) from price fluctuations in an underlying security or instrument or index. The majority of traders I interviewed traded options on futures, and because options in futures can be hedged in the futures, traded futures as well. Options on futures can be traded on things as disparate as stock index futures, interest rate futures, and pork belly futures. Futures can be traded

106 on the same disparate range – stock indexes, interest rates, and pork bellies, to name a few. In some ways it is important to know what they are trading; in another sense, no matter what contract they are trading, no matter what the underlying, they are all trading the same thing – they are trading risk. They are buying risk, and they are selling risk, and they are buying it from people who don’t want it, and selling it to people who do. They are, at the heart of the matter, risk traders.

Futures contracts are a way to address in the present risks that are associated with transactions in the future. Though futures have been traded in various places at various times throughout history, in their modern form they have their genesis in Chicago in the mid-1800s on the Chicago Board of Trade, where they came into use as a way to trade the enormous quantities of grain flowing into the city from the expanding Great West, and being sold and transported back East and to Europe (Cronon 1991; Falloon 1998).

For most of their history in Chicago, futures were traded exclusively on agricultural commodities, but beginning in the 1970s, they were expanded first into currencies, and then into interest rate products and stock indexes (Tamarkin 1993). Though they were originally developed to offset the risks that come with agriculture, futures can now be used to offset risk in a wide range of products.

Agriculture remains, however, the canonical case for futures markets, as farmers face a wide range of risks in trying to bring their crop to market. Futures offer ways to manage, or hedge, some of those risks. For example, if a farmer is about to plant a corn crop, he or she incurs a number of costs, such as the cost of machinery, land, labor,

107 fertilizer, seed and so on. Those costs could add up to as much as, say, $3 per bushel. If the farmer plans to sell 50,000 bushels, he has invested $150,000 of capital. In order to break even, the farmer wants to ensure that he will be able to make at least $150,000 at the end of the season. However, that season is at least four months away, and the farmer has no guarantee that he or she will be able to sell the corn for $3/bu in three months.

There are two ways that the farmer can use the corn futures market to offset his risk. The first is to look at the price of the futures that are set to expire in three months, which will give the farmer and idea of where prices are expected to be in the spot market (the market for actual corn) at that point. If the price is too low, the farmer may decide to skip the corn altogether, and plant wheat. If the prices are high enough, the farmer may decide to sell futures contracts for the price he needs to get to cover his costs and perhaps make some profit. The farmer may decide that he or she wants to cover the costs of $3/bu, and make some profit as well, in order to pay for the inputs to the next crop, or expand production.

Having decided to buy the futures contract, the farmer places the order to sell contracts sufficient to hedge the risk for the entire crop of 50,000 bushels. The contract says that the farmer will sell a specified number of bushels at a predetermined price at a predetermined time. The farmer sells contracts for 50,000 bushels at $3.50/bu, with an expiration in three months. Here, the term “sells” is a bit of a misnomer, since no money actually changes hands until the contracts expire in three months. Instead, both the buyer and the seller of a contract deposit a performance bond to ensure that they will fulfill the

108 contract. So, the farmer has invested $150,000 in the crop, and has sold contracts worth

$175,000. In three months, he or she will have a crop ready for market, and the futures contract will expire. If the price of corn has gone up to $4, the farmer sells the corn on the spot market and makes a profit of $50,000, but loses $25,000 on the futures.

However, the farmer still has a profit of $25,000. If the price of corn has gone down to

$2.50, the farmer sells the corn on the spot market and loses money, but makes money on the futures.

That is the process from the farmer’s-eye view of things. The farmer has risk, and goes to the market to offset it. That does not entirely account, however, for where that risk is offset – where it goes when it is offset. That is where the local steps in. The local, in his role as market maker, stands ready to buy from sellers and sell to buyers. When the farmer comes to market to hedge his risk, he sells contracts, in essence selling his risk.

The local steps up to buy that risk from the seller. Once the farmer has sold his contracts, he is hedged. He does not need to worry about adverse price moves. But, he has sold that risk to the local, who has taken on that risk, and made it his problem. The local is now in the position opposite that of the farmer – if the price of corn goes up, the local loses money on the contract. If the price goes down, he makes money – but since he has no crop to take to market, he does not have the relatively insurance provided by owning the underlying commodity, if the price goes up, he loses money.

If we think of this as a market with only two participants, the farmer sells the local the contract, thereby offsetting the farmer’s risk. Three months later, the local buys

109 the contract back from the farmer, thereby settling the account. For the farmer, that is an adequate description of the process. The local, however, makes that kind of trade over and over, buying and selling risk many, many time in a single day. He buys contracts in the anticipation that he will be able to, in the least complex account, sell them to people who want to offset their risk by buying a contract, such as producers who want to offset their risk of higher prices. If he can’t buy or sell his contracts, he can try to hedge the risk in other ways. But, if he has a string of days in which everybody’s selling and nobody’s buying or vice-versa, he is left the owner of lots and lots of risk. With every single trade that he enters, a local has to ask – can I handle this risk?

The situation is slightly different for trade in options, though the essence of trade in risk still holds. Like futures, options are the right to buy or sell a given underlying at a given price (called the strike price) within a specified time. However, unlike in the case of futures, the buyer is not obligated to exercise the contract, while the seller (also called the writer) of the option is obligated to fulfill the contract. And, unlike futures, an options buyer must pay a premium (similar to an insurance premium) to the seller.

Finally, unlike futures, there are two types of options – put options, which allow the buyer to sell to the writer of the option at a given price, and call options, which permit the buyer to buy at a given price. Options, like futures, have a long history, though their contemporary history is relatively brief. The first modern exchange-traded options had their origin in the formation of the Chicago Board Options Exchange in 1973. The first

110 options were call options on stocks; since 1973, they have grown to include both put and call options on a wide range of underlying instruments, including futures.

Customers come to the market for options for the same reasons that they come to the market for futures – to offset risk. Unlike futures, which have a relatively limited number of permutations, the number of risk-reduction strategies that options make possible is enormous and bewildering. The farmer in the above example could decide that he wanted to buy options on futures on corn, rather than the futures themselves, and thus hedge both the risk of prices rising and the risk that they will fall. He could also decide to take positions in the underlying corn, the futures, and the options. But for sake of clarity, we will consider the case of a pension fund manager who wants to offset the risk of a change in the price of a stock. The pension manager has in her portfolio of stocks a large block of stock of an energy company. The energy company is about to complete a large drilling project. The fund manager believes that if the drilling project turns out not to have been successful, the stock price will fall. If, however, the drilling project is successful, the stock price will rise. The manager does not want to sell what might turn out to be a profitable investment, but also does not want to risk a loss if the stock price falls. In this case, she might decide to buy a put option, an option to sell the stock at a given price at a given point in the future. If the stock is currently trading at

$100/share, she may decide to buy a put option with a strike price of $100, and an expiration date after the date on which the results of the drilling project are known. She will have to pay a premium to the option writer (seller), but she will have offset the risk

111 of the price going down. If the results of the project are announced and the price goes up, she doesn’t need to do anything – she simply doesn’t exercise the option, meaning she doesn’t use the right to sell the stock at $100. If, however, the stock price goes down, she can exercise the option and sell her stock at $100 to the writer of the option.

As in the case of the futures, when the customer comes to the market to offset risk, the market maker is the one who takes it on. In this case, the market maker takes on the risk that the price will fall. While the buyer of the option can chose whether or not to exercise the option, the writer of the option, the seller, does not have that luxury. There are two ways in which the option writer can attempt to limit the risk that he is taking on.

The first is to hedge the option by taking positions in other, related instruments and the underlying, 13 and the second is to make sure that he charges a high enough premium to cover his risk. Even with a hefty premium, as with any insurance, the market maker is taking on risk. If the strike price is $100, and the stock falls to $5, if the customer decides to exercise the option, the market maker must buy the stock at $100/share. That means he has to come up with the money to buy what has become a block of virtually worthless stock that he will have to sell in the spot market at $5/share. Unsurprisingly, given that buying options involves less risk than selling options, market makers spend a great deal of their time writing options rather than buying them. Buyers come to the market, and market makers must decide how much premium they can charge, how much

13 The process by which options market makers try to hedge their risk is very complex. Most of the hedging strategies are based on the mathematical models of option price movement. In theory, a market maker can hedge a trade so that all of the risk of his position is offset. In practice, however, that is rarely the case.

112 they can hedge, how much risk is entailed by each trade, and how much aggregate risk they can handle. They do that trade after trade after trade, day after day, in a continuous, delicate balancing act. In each case, the futures local and the options market maker, every day brings customers seeking to offset their risk, and every day they must carefully calibrate their own exposure. Each day can bring significant profit – but it can also bring staggering loss.

Traders at play

The work of trading is serious and demanding. Given the risks outlined above, it does not immediately lend itself to a metaphor of play. To understand the relationship between the work of trade and trade as play, or trade as a game, one must consider the ways in which traders, particularly locals and market makers 14 play, and the games at which they play. The initial level at which one encounters the intersection of play and trading is the backgrounds that locals bring to their work on the floor. One of the preeminent backgrounds is a background in athletics. There are some immediate reasons for the prevalence of athletic experience on the floor: in the crowded pits, tall clerks are an asset because they can both see into the pit and see the desk, and they can be seen by the local in the pit and by his desk. That means that a desk can signal orders to the clerk, and the clerk can signal them to the local, and vice-versa, so a local with a tall clerk can

14 The terms ‘local’ and ‘market maker’ are to a certain degree interchangeable, though the term local is more commonly used for those who trade their own accounts (as opposed to brokers) in futures, and the term market maker is more commonly used for those in options.

113 get and send information faster than a local who has to write the information down and hand it to a runner, or simply do without the information. The competition for tall clerks is so great that in some pits, a clerk is paid by the inch of height. The result is that the population of clerks is skewed toward basketball, and to a lesser degree, football players.

Since clerking is one of the most direct routes to trading, that skews the trading population as well.

Floor trading favors not only height, but brawn. Locals have to be on their feet all day, and in a crowded pit, both height and width help. While actual direct out-and-out shoving is prohibited, traders can and do try to maximize their visibility relative to the other traders. That means that a trader with a large and commanding presence is often able to get in on trades that he would not be able to get in on otherwise. There’s also the issue of sheer stamina – in a fast market, a local might find himself in the pit for seven hours straight. That kind of environment favors those with some kind of bodily training.

The combination of physical labor and former athletes creates a particular type of environment; as one trader described it, the floor, “has a very male locker room environment, and I think it’s just easier being more physically large, helps out on the floor. You’re more noticeable, visible.”

The advantages of having a certain build and training are evident in large, crowded pits, particularly futures pits. But even in the smaller, less physical options pits, many traders are former athletes, many with backgrounds as amateur athletes, and a few with backgrounds as professional athletes. Options traders reported that trading options

114 requires, “a skill set unlike most skill sets you see anywhere. I think a sports background is helpful. Not necessarily being a great athlete, being used to competition. The sports background helps a lot.” Not all locals are former athletes, but “if they’re not athletes themselves, they’re intensely interested in sports.” While there is a strong element of competition, there are some important differences between competing as a local on the floor and competing as a player on a team. One trader put it succinctly: “People used to joke, trading’s not a team sport. Well, it’s really not a team sport now.” As the competition between locals becomes fiercer, it challenges any sense of team-like camaraderie.

A background in athletics isn’t necessarily unique to floor trading by any means.

But experience with play and games among floor traders isn’t limited to athletics.

According to traders, the first woman to floor-trade in Chicago was Carol Norton, who traded currency futures on the IMM beginning in 1972. As legend has it, she was a bridge champion who offered to teach the then-head of the CME, Leo Melamed, how to play bridge, if he would teach her to trade. At various points there have also been at least one Scrabble champion, a backgammon champion, a chess champion, and poker champions on the trading floor. For every trader who is a champion, there are many who are simply talented and dedicated players. When the financial futures and the options were first traded, a background in games was in many ways as good as a pass onto the floor; skill at games like bridge and backgammon was considered to endow the player with a corollary skill at trading. Over the years, that relationship has come to be regarded

115 as less direct – but, that has not meant that game players have become less common; it just means that it is considered a hobby, rather than a recommendation 15 .

As actual game playing has left the foreground to a degree, game theory has come to the fore. Locals not only practice games, they theorize games. In order to be a successful options trader, locals argue, one needs a few attributes. According to experienced locals, a prospective trader needs to be “reasonably quick in your head with numbers, be comfortable with statistics, be exposed to game theory.” The interactions in the pit are fueled by a range of factors; some of those are the familiar factors of supply and demand, while others are not. As one local put it, “a lot of it comes down to game theory. In a pit, everyone is keenly aware of what everyone else is doing. So we’re not totally price takers. And how that plays out is where pit dynamics comes in.” That is, the prices that locals receive are not entirely dictated to them; they can negotiate to a certain degree, compete for one another to determine price. And that negotiation takes on many of the features of a game – making it amenable, to those who are aware of game theory, to analysis.

The interest in games and play is evident in locals’ background, and it is apparent on the trading floor and in their offices. According to traders with long tenures on the trading floors, when trading got slow, traders played backgammon and chess. Those days are past; the market is rarely that slow, and the pits have grown more formal. But, the

15 Unlike bridge, Scrabble or backgammon, skill at chess seems to be taken as an indicator of general intellectual prowess. This seems to be true of traders in general, not just floor traders in Chicago. See Czarniawska, Barbara 2005 Women in Financial Services: Fiction and More Fiction. In The Sociology of Financial Markets. K. Knorr Cetina and A. Preda, eds. Pp. 121-137. Oxford: Oxford University Press.

116 traders still play games. The presence of terminals on the floors mean that some traders can go sit at their desks on the floor when things get slow, and surreptitiously (or not so surreptitiously) play games on their computers. They can play games with few rules, less equipment, and short timelines, like the ‘liar’s poker’ immortalized in Michael Lewis’ book of the same name (Lewis 1989). They play games in which a local, or more often a clerk, is bet that he will or won’t do something, like arrive the next day with a shaved head, or hair dyed pink, and so on.

Back in their offices, locals play some of the same games that denizens of offices all over the US play, like fantasy football and rotisserie league baseball. With the advent of online games, they have begun to play online chess and hearts and poker. Electronic networks mean that they can trade with partners all over the world on the floor, then go upstairs to their offices and play chess with partners from all over the world. Computers and electronic networks can make the transition from work to play more seamless than it is on the floor. In the offices of large locals, one can often observe traders who have a number of terminals in front of them, on some of which the local is trading with far-flung counter-parties, and on others of which he is playing a game, also with far-flung counter- parties, and he will move between them as the action – in the market or in the game – demands.

At first glance, the locals appear do not seem any different from workers in any office that is relatively informal and largely male. But on closer inspection, there is a difference. Traders do play to relieve monotony, which tends to rear its ugly head on

117 days that the market is waiting for a number, such as a potential interest rate cut or a durable goods order or whatever number is expected to move the market such that no one wants to put anything on the line until the official number come out. But they don’t play just to relive monotony. They bring an intensity to their play that is absent from other types and settings of play. The intensity and continuity with which they play creates the impression of athletes remaining warmed up for the big game, or soldiers preparing to go into battle. Their work is intense, and their play is intense as well. But why describe their work as play?

Working at risk, playing at risk

The key uniting work and play for traders is the experience of risk. Risk isn’t the first thing that one necessarily thinks of when one thinks of games. However, an insightful analysis of games and play suggests that for locals, the domains of risk and play are not so far apart. The metaphor of the game suffuses a great deal of talk about trading, so that when describing interactions in the pit, locals use descriptions that are oriented to general features of games, such as, “in a small pit, most traders will have on generically similar positions. So there’s a little ‘us against them’ going on at the same time. Now, I’m trying to beat them, but we’re going to benefit from some of the same things.” They also attend to more specific features of games, observing that,

The thing about a backgammon or poker game is that they are zero-sum. Trading in a pit community is non-zero-sum. With options, there’s a lot of ways to make money, there’s a lot of different angles to play, and so people aren’t in a

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zero-sum game. There’s no, ‘I bought these, I’m going to make this amount of money on them, and you’re going to lose this amount of money on them.’ That’s a naïve representation of the world that shows one entry and one exit. And the reality is that there are so many reasons that people are involved in this business. And it’s not a zero- sum game.

For locals, the question of whether games and trade, work and play, are continuous experiences is clear-cut – the two are continuous experiences.

To understand that continuity, it is necessary to understand what games and play bring to the table. Thomas Malaby has suggested a definition of games that opens the category out to make the kind of identification that the locals make comprehensible.

According to his definition, “a game is a semi-bounded and socially legitimate domain of contrived contingency that generates interpretable outcomes” (Malaby 2007). It is the element of contingency that is most relevant for understanding locals as ‘players’.

Malaby identifies four types of contingency that enter into games: stochastic, social, performative, and semiotic (Malaby 2007). Stochastic contingency is that introduced by randomness, such as a roulette wheel. Social contingency is the contingency that comes from being unsure of another’s strategy, such as in chess or poker. Performative contingency is the contingency that comes with the possibility of error or failure. Finally, semiotic contingency is the contingency of meaning that arises from differing interpretations of the results of a game. The term ‘contingency’ can be rendered with equal felicity as ‘risk;’ every game, then, is potentially the site of a range of risks. The risks, in the case of games, are contrived, but they are present. In fact, given Malaby’s

119 definition, without risk, one does not have a game. This, then, is the way that work and play can be understood to occupy a seamless space in the practices of locals.

Locals face all of the types of risk present in games in every trade that they make.

While there are other occupations that involve risk, they rarely encompass the range of risks present in trading. Operating a nuclear submarine, for example, can be risky, but unless one directly encounters an enemy vessel, the greatest risk by far is performative risk, the risk that one will make a mistake in, say, navigation or calculating fuel needs.

That is also the case for risky occupations like sky diver or surgeon. For locals, the risks are spread out across the range encompassed by the domain of games. Every one of the risks present in games is present in a single trade, and that experience is magnified by the sheer volume of trades a local makes in a day, week or year.

When a local makes a trade, like the trade with the corn farmer described above, he faces the full range of risks present in games. There is the stochastic risk, the

‘random’ risk that the weather throughout the grain belt will be perfect, and every single farmer will bring a bumper crop to market, causing prices to fall, and lowering the price at which the farmer can buy his contract back. There is social risk, the risk from competition from other locals, competition that may have caused the local to mis- estimate the price at which he could afford to buy the contract from the farmer. He faces performative risk – the potential for error described in the previous chapter, wherein a transaction made in a chaotic market may not turn out to be the transaction one or both of the parties thought they were making. Finally, he faces semiotic risk, the risk attendant

120 on interpreting the outcomes of actions. To one degree, interpreting the outcome of a trade is easy – if you made money, it was a good trade. In other ways, the outcome is less clear. Was it a trade that you should try to repeat? Was the gain due to conditions that are still present, or was it a one-time winner? Are you on a roll, or did you just get lucky that once? Finally, beyond the risks of the game and the trade, there is a simple shared feature. In a game, someone wins and someone loses. In the market, the situation can be very much the same.

Of the four risks, by far the most important to traders, the one that makes trading the most game-like, is social risk. Trading is by its nature immediately social, since in order to trade, one must always be trading with someone else. And, while contracts may have may have value independent of people’s opinions of what they are worth, they do not have a price independent of people’s opinions. In asking what a contract is worth to him, a local has to take into account not only what it is worth to him, but what he thinks it is worth to others. Social risk is particularly important in stocks, where issues of supply and demand are less binding than they are in a commodity like corn. The price of a stock is critically dependent on the beliefs of many people as to its value – so a local attempting to price an option must take into account not only his own beliefs as to the price of the stock and the price of the option, but the beliefs of others, and his beliefs as to their beliefs (Chwe 1999). As one trader describes addressing this risk,

You’re still playing a game, to a certain degree, there is still a [trading] crowd. If nothing else, if you have the ability, or realize you can hone a feel for, for lack of a better word, panic, or just being able to sense what the other liquidity

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providers are going to do, well, that gives you an edge of some sort, or certainly makes you on par with everyone else. Knowing what trips someone to make a trade, realizing you see patterns of behavior that indicate what’s occurring and who’s doing it. You can tell. And to that extent, I think game theory is still relevant.

A trader can hone that feel on the floor, and he can also hone that feel in chess, in backgammon, in bridge, in poker, in any game that requires that the player size up an opponent and the way he is likely to play.

Once that sense is honed, it can be put to use, and become a form of risk- management.

When I first started in this business, if the pit’s long, and the pit needs to sell something, somebody would come into the market, and you could, if you think it’s worth seven, you could say, ‘seven, eleven’ and be able to sell nines or tens. And what you’re doing is that, for whatever reason, your spidey sense is tingling, you fade a guy one way or another. And you’re right, you really won. You would be able to push those markets around for days.”

Being able to identify patterns in the play of others means being able to influence the play of others.

A local who played both football and baseball in college, and who still plays squash seriously describes his approach to competition thusly:

I play sports sometimes with people who are psychologically not predisposed to win. And I play fair, you do everything, but if they’re not willing to dig to get extra points, if you can say, ‘wow, you don’t look too good,’ suddenly they’re feeling faint, you’re to take advantage of that. And the market is the same way. Everybody has weaknesses. As long as it’s done fairly, that’s part of the game.

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More than semiotic risk, more than performative risk, more than stochastic risk, the local is always negotiating social risk. The preeminent way to practice social risk is the world of games. For these reasons, traders are players, and they are engaged in a game. They are constantly engaging contingency, with the primary difference between games as play and games as work is whether the contingency, or risk, is contrived. Beyond that, games and play offer locals a domain in which to learn risk, to engage risk, and to practice risk.

They carry those lessons into the arena of trade, where the risk is far from contrived.

A game, or a gamble?

While the experience of risk unites the domains of play and trade, there is one enormous difference – money. Games are not necessarily about money, while trade is all about money. That difference gives rise to the question of whether trading more closely resembles another type of game-playing, namely gambling. Trading has long been associated with gambling. Weber observed that in trading on the exchanges, “a certain element of hazard (a bit of gambling) resides in any attempt to profit from futures chances. But speculation on the exchanges shares this with each and every sort of commerce in general” (Weber 2000a:345). The impression of gambling was only enhanced by the sense that, “…not infrequently, “winnings” seem to be sought almost in the fashion of a lottery – and thus, that such winnings seem (relatively speaking) to be

“effortless”” (Weber 2000b:331). Though Weber argued that activity on the exchange only resembled gambling, and that it was not gambling, Germany passed a law in 1896,

123 forbidding all futures trade in grain (Teweles and Jones 1987:11). The law was repealed four years later, but the sentiment appears to have lingered.

The same process that took place in Germany was taking place in the United

States in the late 1800s. Futures trading had been established in Chicago and to a lesser degree elsewhere in the mid-1800s, and volume had grown by leaps and bounds, making it a more and more visible target for a range of groups, from farmers to regulators.

Farmers in the Midwest agreed wholeheartedly with the opinion voiced by Weber – the money made by speculators in grain futures were making money that did not arise from productive labor, money that should have rewarded the productive labor of farmers.

Trading in futures was not productive, so by extension, any gains were ill-gotten, and akin to gambling. While farmers took on real risk, the only risk faced by speculators, they argued, was entirely contrived (Cronon 1991; Falloon 1998; Lurie 1979). In response to these concerns and charges, in 1867 a law was passed in Illinois stipulating that futures contracts were indistinguishable from gambling contracts, and that anyone entering into a futures contract should be fined and put in jail. The law was repealed a year later, but only after seven members of the Board of Trade were arrested (Teweles and Jones 1987).

At the same time that futures trading was being associated in the popular imagination with gambling, establishments called ‘bucketshops’ were being established where patrons could place a bet on the prices being generated on the Board of Trade, and disseminated by telegraph companies. To trade on the Board of Trade, one needed to be

124 a member, which cost $10,000, and the minimum contract size was 5,000 bushels.

Bucketshops, however, using price data from the Board, offered smaller contracts and lower margins. While the contracts were priced like the Board of Trade contracts, they had no relation beyond price to the contracts bought and sold on the Board of Trade. The customers’ order were simply matched and cash-settled, and the bucketshop took a commission (Falloon 1998). The bucketshops served to sully the Board of Trade’s reputation in the eyes of the public, as well as diluting the degree to which they could be said to be in the business of price discovery. Price discovery assumes that all information as to the price of a good is centralized; with the bucketshops in operation, that was not the case. The Board of Trade waged a long legal battle with the bucketshops until in 1905 the Supreme Court ruled that futures contracts were not gambling transactions, and that the Board of Trade had exclusive rights to the use of their price quotations. The basis for the finding that futures contracts were not gambling transactions was that a futures contract had the possibility of the transfer of a commodity, while the bucketshop transactions did not (Falloon 1998; Lurie 1979). Thus, the trade in futures contract was linked, in some fashion, to productive labor.

The idea that delivery marked the distinction between gambling and trading became an issue when in the early 1970s the Board of Trade decided to create an exchange to trade in options. Options had long enjoyed a dubious reputation, which the founders of the Chicago Board Options Exchange had to negotiate in their attempt to found the new exchange. Among the numerous obstacles was the ruling that had

125 established that futures contracts were not gambling – the finding that the possibility of delivery distinguished gambling from speculating, morally questionable risk from productive risk. The initial proposal for the new exchange was options on an index (such as the S&P index). Since there would not have been the possibility of delivery of an index, the proposal shifted to options on stocks, in which there was the potential of delivery (Falloon 1998; MacKenzie and Millo 2001; MacKenzie and Millo 2003).

As these cases suggest, the primary grounds on which gambling and trading have been associated are several. There is the apparent disjuncture of production and reward, which appears to separate the risks of work from the rewards, such that profits from trading have been considered ‘gains without labor’. The second, related charge is that traders create risk, rather than offsetting it. It is possible to regard trading as a social good, one that reduces risk to participants. However, it is also possible to regard, as outlined above, trading as akin to gambling, as an activity that simply redistributes assets without any social gain. So, if trading can be regarded as having important features in common with play, is it also accurate to see it as partaking of the features of a particular form of play, gambling?

A trade, or a gamble?

Gambling is a form of play – a particular type of game, one which incorporates both risk, and some kind of stakes, whether monetary or otherwise. Certainly one could argue that trading is in a sense a game with money. It appears that that it is separated

126 from gambling only in the sense that it is productive play with money – that it produces, if not a physical good, a social good. So, is trading gambling? In the accounts above, a hedger comes to the market and seeks to offset risk by trading with a speculator. The hedger is trying to minimize risks associated with productive activity, and the speculator, the local, is taking on that risk, knowing that the trade could result in either profit or loss to the speculator. Traditionally, the hedger’s activities are viewed with less approbation than the speculator’s, but both can be considered to be engaged in socially useful activities for the management of risk. However, there are other possible versions of the story.

A farmer may choose to sell futures to offset the risk of lower prices and the loss of investment in a crop. But, a farmer may also come to the market in order to increase his profit. Some farmers use futures contracts to hedge; others use them to increase their potential profit. A farmer may come to the market to hedge the risks associated with his corn crop, but he may also come to the market to increase his profits, and in so doing, add risk rather than offsetting it. The farmer could decide that he is absolutely sure not only that corn prices aren’t going to go down in the next three or four months, but also that they are going to go up. He sees a chance to profit both on the sale of his crop and in the futures. So, rather than simply sell futures and hedge the possibility of loss, he decides to buy futures, so that he profits on both the sale of his crop and the sale of his futures contracts 16 . If he is right about the direction prices will take, he wins big. He makes a

16 This strategy is common enough that it has a name – it is known as a ‘Texas hedge.’

127 killing on his crop, and he makes a killing in the futures. If his costs are $1/bu, and he buys a contract for $2/bu, and when he sells, the crop sells for $3/bu and the futures sell for $4/bu, he makes $2/bu on the crop, and $2/bu on the futures. The only problem with his strategy is that if he is wrong, he loses far more than he would have on the crop alone.

And, at this point, while he may be a producer, he is no longer a hedger – now, he is speculating on the price. He has increased his risk, rather than offsetting it. It could be argued that he is gambling.

The local who takes the other side of this trade is not gambling – he is performing his role as local, and taking the other side of a trade that comes to the market. If a customer comes to the market and wants to make a trade, it is the local’s job to take the other side. As traders say, it’s their job to give customers an entry and an exit. A local who is facilitating a customer is not gambling. That is, he is taking on risk without seeking it. But, a local may decide that he is as sure that corn prices are going to fall as the farmer is that they are going to go up. The local is confident that if he sells futures now, he will be able to buy them back in three or four months for far less, and the difference in price will be profit. So, if he sells futures for $2/bu, and the price falls to

$.50/bu, he will profit $1/50/bu. So, he decides to sell to every buyer who comes to the market. Maybe he’s usually a small- to medium-size trader, and usually only buys and sells a few contracts a day. Now he decides that he is going to sell two or three times as many contracts, and not bother to buy. As he sells, his position becomes riskier and riskier.

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In three or four months, the farmer and the local find out which one is going to walk away with a big payday, and which one is going to struggle with a big loss. If prices go down, the farmer will find that he is selling his crop at a loss, and his futures at a loss as well. He could well have to sell land or equipment to cover his losses. If the farmer turns out to be right, and prices go up, the local is going to be facing losses. He had better have deep, deep reserves to cover those losses; if he can’t meet his margins, he can no longer trade. This raises another issue for risk, trading, and gambling – risk can be highly situational. If the farmer has plenty of cash reserves and decides to take on a

‘Texas hedge,’ his overall risk is still low. If the farmer is facing foreclosure and makes the same trade, his overall risk is extremely high. A trader with plenty of capital who decides to indulge a whim and loses is in a very different position than one who is nearing insolvency and decides on an extreme strategy in the hopes that it will turn things around.

The same factors are in play for options. It is possible to offset risk, but it is also possible to take on additional risk. Options are a slightly different case in that the methods that market makers can use to hedge a trade are more extensive and complex, though the general ideas are similar. The pension fund manager described above could, rather than coming to the market to hedge, decide that she was certain that the energy company’s drilling was going to be a success, and that the price of the stock was therefore sure to surge. She could decide that, rather than buying options, which would mean having to pay a premium, she would sell put options, thereby taking in premium

129 rather than paying it. If the price goes up, the buyer of the option is unlikely to exercise the option, and the fund manager will keep the premium. If, however, the price plunges, the pension fund manager is obligated to buy stock from the option buyer. Depending on the strike price at which the option was sold and how far the stock falls, the fund could be decimated. It’s a very, very risky strategy, one that increases risk rather than decreasing it.

It is possible, as the preceding examples illustrate, to intentionally add risk rather than reducing or offsetting it. It is also possible to make what appears at the time to be a prudent trade, and then find out that one is, in a sense, gambling. That is, a local may make a trade that includes, he thinks, an amount of risk with which he is comfortable.

Market conditions may change, at which point the trade is far riskier than it was when it was made, making it effectively a gamble – that is, a trade with far more risk than the local would ever have purposely taken on. A local decides to write a put option on a stock whose price has varied between $40 and $45 for fifteen years. The trader feels comfortable charging a premium based on the past performance of the stock that will cover his risk if the stock falls to $35, but not if it falls below that, confident that it is unlikely, given the data from the past fifteen years, that it will do so. A week after he writes the puts, suddenly the stock falls to $5. Suddenly, the local is looking at far, far more risk than he ever anticipated – and his trade feels more like a gamble, and a very uncertain one at that. As these instances suggest, it is absolutely possible to trade to increase risk, rather than to reduce it. And, it is possible to take on one level of risk, but

130 wind up with another. The line between trading and gambling is not always a clear one.

In many ways, these examples are still consistent with the definition of games as including an element of ‘contrived’ risk. A game plus money equals, depending on the circumstances, a trade or a gamble.

The gamblers

To understand the relationship between trading and gambling, one has to look, as with trading and playing, at the ways traders gamble. As with play, some of the gambling that traders do is indistinguishable from the games of chance that go on in offices across America, like football pools and basketball ladders. As mentioned above, they also play casual games, like bets on whether a clerk will shave his head, and slightly more organized games, like liar’s poker. They also, like much of America, go to local casinos and riverboats, and take trips to Reno and Las Vegas, and play lotteries. Some participate in well-capitalized private games. In that sense, they participate in what has become a wide landscape of legalized gambling.

At the same time, there is the impression, as with games that are not games of chance, of a level of intensity or focus present in the play of traders that is not present in the play of other recreational players. When traders discuss gambling, they allude to some of the factors involved in that type and level of engagement. As one market maker described his participation, “When I was at the end of graduate school, I actually considered becoming a professional poker player instead of being a trader. I don’t know

131 which one I’m better at. I think trading is more reputable, and there’s more things you can do with it. But it’s a lot of the same dynamics, and you see a lot of the same flaws people have.” Since, according to traders, quantitative graduate programs seems to give rise to both quantitative traders, or ‘quants,’ and serious gamblers (such as the MIT blackjack team), this trader is not alone. According to another local, “I have friends who are professional poker players. I go to Las Vegas I’m going to say once a year. I played with them before they were professionals. Guys from my graduate poker group became, for short, medium or long periods of time, professional poker players. Two of them are still playing.” Some locals even come to the floor through their recreational game ties.

For one trader, the route to the floor was, “I had a friend who was a trader, and he suggested that I come down. Actually a poker buddy, and he suggested I come down and try it and it seemed like a lot more fun than consulting could ever be.” Finally, there are many traders who play a range of games seriously, but gravitate to gambling for the concrete payoffs. A trader who has played poker, “for twenty years, casually before that, seriously, twenty years” says that he, “likes games, likes competition. I’ve always liked cards. Poker became more attractive because I could make money playing poker. It was amazing to me, there are some very good poker players. There are people better than I am by far, but there are people who will just give their money away, and then it is your job to take it. You don’t want to take advantage of people, but sometimes they are just giving their money away.” The same can be said of trading – you don’t want to take

132 advantage of people, but sometimes they are just giving their money away. If you are a local, you just want to make sure you’re not giving your money away.

What it means to gamble

If play is about taking risks, then in a sense, gambling is about taking risks with money. In a sense, trading is about taking risks with money, and those risks are not always predictable. A local may decide that he is not going to gamble at all, not going to gamble on the floor or off the floor 17 . He may decide that he is going to gamble off the floor, as a game or as entertainment or leisure. Or, he may decide that he is going to gamble both in his trade and for recreation. Finally, the trader who has decided that he is not going to gamble in either context can find that he has taken on trades that have much higher degrees of risk than he had anticipated, and which he would have considered gambles if he had known that they would come to be so risky. The final circumstance is the one that makes, for many locals, having gambling skills akin to having survival skills.

If playing games is about practicing risk, then gambling is about practicing risk with even greater fidelity to the context of trade.

Locals regularly pointed out that people behave differently when they know that money is on the line. Many clerks and aspiring locals practice trading by ‘paper trading’ or using trading simulators, giving themselves a fictional account and trading it along with the real market conditions. The results of their paper trading are often spectacular,

17 This chapter is about locals rather than brokers – but many brokers gamble for leisure as well. Since they work on commission, the element of risk that makes trading as a local similar to gambling is not present.

133 meaning that they are all sure that they are going to be successful traders, and that success will come immediately. That’s rarely the case, however, leading more than one local to observe, “Everyone’s a millionaire on paper.” Everybody behaves differently when they know that money is on the line. If you want to really practice risk, to examine your responses and learn about the responses of others, to risk and to money, there is no better laboratory than games that involve both risk and money – in short, gambling.

In both trading and gambling, you have to be prepared for both the risk that you expect and the risk you don’t expect. As one local put it,

You have to prepare for n standard deviation events. You have to prepare, you have to be in a situation; Long Term Capital Management, as far as I know the story, suffered from two major problems. One, they weren’t ready for a major event, an n standard deviation event. They had very concentrated capital – they were trying to get a very small edge. And, the second thing is, they were too big to get out. And that’s the whole thing. I want to be able to get out with the market not even noticing, and I can do that in the futures. I can’t do that in the options. But, if you are so big, then you’re not really a competitive player anymore. You are the market, and that’s not a good thing to be.

One way to prepare for an n standard deviation event (an extremely rare event) is to be in one. You don’t want to knowingly put yourself in that position as a trader – but you can experience that type of event at a poker table. You can get the worst hand ever dealt and learn to play it, and you can discover that it is possible for another player to be dealt the best hand ever dealt, and learn to play against that. It is possible to invoke poker as a training ground for a range of skills, such as those used by lawyers who bluff, or CEOs who negotiate, but there are very few vocational situations that are as holistically similar

134 to poker as trading, in the sense that at the end of the day, the only determinant of your pay is going to be how skillfully you played the game.

Gambling incorporates all of the risks of games – the semiotic, the stochastic, the performative, and most especially the social. A player learns about his own responses, and about those of others. Clerks who trade on paper learn the mathematics and the mechanics of trading; when they play betting games, they learn about how trading is about mathematics and mechanics, and especially, behavior. As one trader observed, there was a time in the pits when, “You could look a broker in the eye and say, “this is the only price you’re going to get out at.” And not just say that to them, but convince them of that, through poker skills.” Another local is more specific about the way that he uses ‘poker skills’:

Poker’s exactly the same way – you use a mixed strategy. In other words, the stronger my hand is, the more aggressively I play with it, but I don’t always play the best hands aggressively, I don’t always play mediocre hands by folding. Trading is interesting because it falls between a lot of this. If you were a non-dominant player in a pit, you don’t have much strategy. You have strategy, but if you were a dominant player, let’s say I’m the biggest player in the pit, and I really want to buy volatility. Well, do I want to come out volatility two percent higher? Probably not, because everyone will join me two percent higher. Instead, I either offer it, or I bid it where it was the day before and then I wait for something large enough, so in one fell swoop, or two fell swoops, I can accumulate what I need. So there’s a lot of that game playing, there’s a lot of competitiveness.

Finally, in addition to having different strategies they have honed through play, locals have very different risk tolerances, and they pay attention to one another’s risk

135 tolerances. The same local noted, “You see both in poker and trading people who like risk too much and people who are risk averse. Some risk aversion makes sense, because we don’t have an infinite amount of money, but you do see people who are very risk averse, and maybe that’s understandable. But even more you see people who want risk, want excess risk, want risk, want crazy risk. And you see the same thing in poker.

People who just have to play.” Poker teaches you how to manage your own risk taking, and how to anticipate that of others. In that sense, trading and gambling bear a relationship to one another like that of trading and games, strengthened by the addition of monetary ‘stakes’. While in an ideal world a local can decide whether to take on more risk or less, it is never possible to know exactly how much risk there is in a position, and for that reason, all trading bears some resemblance to gambling.

Conclusion

How can traders regard themselves as players given the seriousness and intensity of their work? The answer has to do with several things. First, games have entered the domain of work, such that boundaries between play and work have broken down.

Second, the primary task of the work of locals is risk, the same type of risk that is an integral part of games. Third, when one marries play and money, one arrives at trading, and one arrives at gambling. One is considered work, and one is considered entertainment, one a social good and the other a form of (stigmatized) leisure. But, along with changing ideas of work and play have come changing ideas of games and gambling.

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One of the most consistent charges leveled against both trading and gambling, and the most consistent grounds on which they are equated, has been that they are not productive.

However, concepts of what constitute productivity have changed since futures and options were opposed as no better than gambling. As Per Binde points out, “Since the

1950s and the 1960s the attitude towards gambling has become more accepting and this relates to the rise of the ‘affluent society’ and its emphasis on consumption and leisure rather than production and work” (Binde 2005:469). Gambling has gone from being regarded as entirely morally problematic to being considered an enjoyable recreational activity. The question of the relationship between trading and gambling has become less one of morality and more one of resemblance. As gambling leaves the arena of morality and enters the arena of play, the ways in which locals harness play to work threatens to put it back into the arena of productivity, marking a full circle from work to play to work.

In this sense, the locals prove to be on the cutting edge of an ever-accelerating blurring of boundaries of effort, giving the effects of, and the effects on, the market a decidedly mixed impact.

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Chapter 5: Discipline and Prosper

Markets can be forces for good, as in the production of virtue, in which case the prevailing direction of influence is from the market to culture; there can be mixed cases, where the direction of influence flows both from the market and from culture, and neither is necessarily ascendant; and in this third case, the prevailing direction of influence can be from culture to the market. This is the case that Hirschman identifies as the ‘feudal shackles/feudal blessings’ case (Hirschman 1982). The argument that Hirschman identifies is the argument that the market would have positive effects, were it not for the effects of practices adopted in the past. In a sense, it is a variation on the ‘ doux commerce ’ thesis, since it assumes that the effect of the market would be positive, were it not for the negative effects of culture. There are four variants of the argument – first, that the performance of a given (usually national) economy has been hampered by the heritage of the past – the feudal shackles thesis. Second, that the performance of a given economy has been enhanced by the heritage of the past. Third, the performance of an economy has been enhanced by the absence of a hampering cultural heritage – an argument often applied to the United States. However, the fourth variant has also been applied to the United States – the idea that the lack of a ‘feudal past’ hampers the development of effective markets. The take-away point in each of these cases is that market forces, rather than being the juggernaut that they are frequently presumed to be, are instead simply yet another of many inputs to social life. This argument is in line with

138 the argument that markets are ‘embedded’ in the culture and institutions of a given society (Granovetter 1985). There is general agreement that markets are embedded, but the question then becomes how they are embedded. The answers to how they are embedded are too numerous to list here, but there are some studies that have been influential. Among those are studies that focus on particular cultural and/or institutional features that are considered central in to the manner in which markets operate.

Researchers have argued that strong property rights are necessary for the proper functioning of markets (North 1990). They have also argued for the primacy of a system of common law (La Porta, et al. 1998), as well as for the role of political motives in markets (Carruthers 1996), and the importance of high levels of trust (Fukuyama 1995).

The classic study of the relationship between culture and economic life is The

Protestant Ethic (Weber 1996). Its argument, that religious views can affect economic performance, has been taken up in a wide range of studies. A number of studies have focused on the relationship between beliefs and economic growth in and across nations.

Studies comparing a cross-section of nations have found that hierarchical religion correlates with lower levels of trust, and with lower rates of economic growth (La Porta, et al. 1997). Comparative studies have also found that rates of economic growth respond positively to the extent of religious beliefs in a society, but negatively to higher levels of church attendance (Barro and McCleary 2003). Studies comparing regions have indicated that religions can create conditions of intolerance that affect the ability of countries to grow (Landes 1998) and that hierarchical religions can discourage the

139 formation of lateral ties between people, and thus discourage the formation of associations that lead to growth. The preponderance of studies, then, would seem to demonstrate, as Weber argued, that religion is a powerful independent input to economic life. Not all studies are as clear cut, however. It appears that religion may be a culture- dependent variable. Some large-scale cross-sectional studies have found that the cultural traditions of a society persist even in the face of modernization, and that religious beliefs vary less within a culture than they do across cultures (Inglehart and Baker 2000). While religious beliefs can be associated with economic growth, there is evidence that those beliefs can differ significantly across generations, and that the cultural attitudes associated with growth may change more slowly than the religious beliefs (Guiso, et al.

2003). Finally, a close study of Genoese and Maghribi traders who differ along lines of both religion and culture suggests that while culture may be implicated in varying paths of economic development, it is the cultural factors that are the ultimate determinant

(Greif 1994).

What does this have to do with derivatives traders? It is by way of background to an interesting feature of the literature on derivatives traders in anthropology. There is currently relatively little work on derivatives trading in anthropology (Lee and LiPuma

2002; Maurer 2002; Miyazaki 2003; Zaloom 2006). Of these four projects, three have focused at some level on the relationships between religion and religious beliefs and features of trading. Maurer has suggested that “the founding trauma animating derivatives’ discursive power is the separation of religion from the technical procedures

140 of mathematics and the stochastic models that give form to trading in derivatives”

(Maurer 2002:15). Miyazaki has pointed to the degree to which arbitrage has faith-like features as it is carried out by traders. Finally, Zaloom has argued that the market is regarded by traders as a divine authority, even as a God. They undertake a secular training they identify as “discipline” akin to the worldly asceticism that Weber found among the Calvinists (Zaloom 2005). In the course of my fieldwork, I also found that traders referred to ‘discipline’ as part of their orientation to trading. However, it was not clear that discipline was a religious orientation, as opposed to a cultural orientation, echoing to a certain degree the discussions of the relative strength of religion and culture in economic behavior. This chapter addresses the role of “discipline” in trading, and finds that while there are elements of both worldly asceticism and religion, it is better understood as a narrative than as a practice, and as a cultural orientation than as a religious one.

In his study of the “new capitalism,” Richard Sennett zeroes in on the degree to which risk has become the new routine (Sennett 1998). He argues that, “risk-taking lacks mathematically the quality of a narrative, in which one event leads to and conditions the next… Being continually exposed to risk can thus eat away at your sense of character.

There is no narrative which can overcome regression to the mean, you are always

“starting over.”” (Sennett 1998:83-84). There is no vocational place where those conditions appear to obtain to a greater degree than trading as a local. Traders often point out that the pits are the ultimate meritocracy, where the only qualifications are the desire

141 and the ability to make money. They point out that in the pits, former lawyers stand next to former taxi cab drivers, who stand next to former doctors, who stand next to former construction workers, and all of them are equally likely to make it big or blow out.

Nothing, they stress, can really train you to trade other than trading. There is a dark side to that boast, however, and that is the tenuousness of that meritocracy. In many areas of endeavor, education and experience make a difference that cushions the day-to-day vagaries of work. A lawyer can lose a case without losing his job; a doctor can lose a patient without losing her job; a professor can write an unsuccessful book or fail to land a grant while retaining tenure. For traders, there is no such leeway. Traders are truly always up against regression to the mean. Each trade occurs separately from another, and one good trade does not condition the next trade. Returns from trading trend almost inexorably to the mean; as opposed to the professor or the lawyer, the longer one trades, the more likely one is to fail. The vocational life-histories of traders tend to be short ones, limited by the risks that cause many of them to fail early on. But, following the life-histories of traders, it becomes evident that those that persist have arrived at a narrative that can overcome regression to the mean, their narrative of discipline.

Following the narrative through the vocational life-course of traders, it becomes clear that they have succeeded in crafting a narrative which allows them to overcome some of the most extreme effects of the work of risk, and in some cases, even thrive.

There are (at least) three important vocational life-stages for locals – early career, mid-career, and full career. The first is the beginning trader, a period that spans in most

142 cases the period from taking one’s first job on the floor as a clerk to the first point at which one makes money. Clerking is usually a one- to two-year commitment, while it takes most traders at least a year to actually profit from their trading.

The first hundred trades are the hardest

At its most basic, the narrative of discipline is a set of practices that a local, particularly a new local, undertakes in order to have the best possible chance to succeed in the pit. No matter how well-prepared a local thinks that he is to trade, no matter how successful he has been paper-trading as a clerk, no matter how well he has done in classes, no matter how sure he is of his particular trading system, the first days, weeks, and even years in the pit have a steep learning curve. Most locals learn the ropes by clerking, find someone to back them (give them the capital to start trading), and then enter the pit under the tutelage of the backer. A large part of that tutelage is in the discipline to trade.

The process is best exemplified by the experience of Chris, 18 a local who was two years out of college and just entering the pits. Like many locals, he decided to become a local out of a combination of need and desire. A talented student, he had a degree in biochemistry and thought seriously about going to medical school. However, the death of his father when he was in middle school had meant that money was tight, and his mother was becoming increasingly financially dependent on him. He decided to try his

18 All names are pseudonyms.

143 luck on the floor, hoping, as do most beginners, that he would strike it rich, allowing him to pay off student loans, care for his mother, and if things worked out, attend medical school at some point in the future.

Chris’ backers prepared him for trading and supported him in his first forays into the pit with enormous amounts of advice. Some of it was advice about trading strategies

– when to buy, when to sell, what to buy and sell – but a great deal of their advice was training in discipline. For his backers, all experienced locals, there were practices that made the difference between success and failure. Some of them were small, like minimizing his personal expenses, and not expecting to make money for the first year.

Some were clearly more central – such as sticking it out all day every day, having confidence in his trading, learning to take losses, and learning his personal risk parameters.

According to Rob, the local charged with training the beginning traders, the first task of a local is one of the most basic, remaining in the pit. As he spelled it out,

“Discipline means the discipline to be in the pit all day and to make markets, because that’s how you make money. Second, discipline to trade within yourself. In other words, not to have on five thousand options or futures or whatever. Have a position small enough so you can get out and even if you’re dead wrong, you’re going to be able to come back tomorrow. So in those ways, discipline matters.” To trade within yourself is to know what you can take on and what you can’t. For Chris, it meant starting small and taking on more risk gradually, and not letting himself be swayed but what was going on

144 around him. Even if he saw other traders taking on hundred-lots, he needed to try one- lots and ten-lots before he could take on hundred-lots.

Some of Rob’s advice and that of the other more senior traders hearkened back to their early experiences in the pits. Rob described his first year of trading as one in which he developed confidence. As he recalled,

You’re very hesitant. As option traders, you have sheets that tell you the approximate value, and my sheet says this thing is worth eighty, so I should just say seventy, ninety, twenty up, which would be the size that I’ll buy or sell, and instead, I hesitate, because I don’t want to make a market that’s incorrect. Somebody else is seventy-five bid; why are they seventy-five bid, and all these things go through your head, and instead of just belting out the seventy, ninety, which is perfectly fine, you wait for somebody else, because you’re unsure. And over that year, you try to get confidence, where you’ll just say, “seventy, ninety, twenty up.” You also learn to handle situations better. You get more aggressive. You get more capable, you handle panic better. You start off trading very small amounts, eventually you trade larger amounts. So you’re basically becoming much more confident, and also adding to your repertoire.

A trader who lacks confidence is one who is not going to go after the trades he needs, and isn’t going to get the trades he needs. If he doesn’t get the trades he needs, he’s not going to be in the pit for long. A new trader in a pit represents competition to the established traders; in some pits, that means that new traders are given a hard time, while in others, he’s simply ignored until he can prove himself. In no case do the other traders make it easy for him. In those cases, self-discipline can help a beginning trader weather the nerve-wracking early weeks and months without showing his fear or anxiety or

145 indecision, at which point he may begin to feel as confident as he has managed to look.

If you don’t let the other traders find your weaknesses, they can’t play on them.

A beginning trader also needs to learn to take losses. As Rob described the decision to back a trader like Chris, “you’re looking for someone who, go back to that word discipline. I want him to show up, I don’t want him to have huge losses. Trading’s hard. I understand that you’re going to have losses. I understand it takes time. But if you see a pattern of large losses, then they’re gone.” A trader who won’t take small losses is a trader who often winds up taking large losses. No one likes to see a beginning trader who, “is being stubborn, saying, this is my position and I’m going to make money on it. They just hold onto it forever.” Trading means taking losses over and over again, day after day. Taking losses isn’t easy, but it’s necessary, particularly to the inexperienced trader who doesn’t have the sense for the market that tells him when he can afford to let a trade run and when to get out of it. That learning process isn’t easy;

“the reality is that the first time you lose $1,000, you feel sick to your stomach. First time you lose $10,000, you feel sicker, and it takes a long time to program yourself the proper way to handle the gains and losses.”

Curiously enough, it’s not just the losses that take adjustment – it can also be gains that require psychological adjustment. It takes as much discipline and skill to keep a wining trade as it does to unload a loser. Both gains and losses can engender anxiety, and every trader develops his own ways to handle it. For the trader who has been paper trading, the anxiety that comes with trading real money can come as a shock. As Rob

146 warned Chris, when he made the transition from paper trading to really trading, it was a difficult transition. When he was paper trading, he used rules; “I used rules like it has to tick here three times for me to get it, which is fair, supposedly unbiased rule 19 . The real problem is you ignore the psychological element, which is I have $14,000 in my account, and I’m down $9,000 today. What do I do? Yes, this is the greatest sell in the history of the world, but I’m short, and that’s why it’s much harder making decisions when your money is on the line. It’s a million times harder, and you do things that are wildly irrational.” When your own money is on the line, when you can see your account and your dreams dwindling together, it can be very difficult to keep your head. A disciplined trader develops the skills that allow him to remain as rational as possible in those situations, and to not permit himself to be paralyzed by anxiety, nor goaded by greed.

Finally, beginning locals learn how to mesh the abstract equations that govern risk in options trading with their personal comfort zone. Options traders are heavily reliant on their mathematical models to tell them which trades to do, which ones not to do, and how to hedge the ones that they take on. In some pits, traders still carry print-outs with their trading values – the price at which they will buy and sell, and the ways that they have to hedge each trade. In other pits, the figures are now available in hand-held computers.

Either way, inexperienced traders can often be spotted by the way they stand, heads buried in their sheets or eyes glued to their handhelds. Their slavish devotion to their

19 One of the things that differentiates paper trading from real trading is that on the floor, a trader may see a contract trade at a price he likes, but be unable to get the trade, particularly when he is new to the pit. Rob attempted to control for that in his paper trading by waiting until a contract had been offered at a given price three times (ticked three times), under which conditions it is likely he would have been able to get a trade at that price.

147 data has given rise to the slightly derisive description of them as “sheet monkeys.” It is only as they get more comfortable with their values, and with the market that they begin to lift their heads and look around. Once they do, they need to begin to think of their risk in larger terms – to apply a disciplined approach to taking on risk. Each local must figure that out for himself, but Rob described his own approach thusly: “Everybody has different psychology. I’m very mathematical. I have risk parameters that I allow myself.

And occasionally there’s a reason to exceed those. But, for the most part I say, this is the amount of money I have on this position, this is what I’m willing to do, this is what I’m willing to lose, and within that kind of framework I’m fine. You know, obviously there’s days I kick myself for having that much risk, but the most part I say, okay, I have this money, I’m worth this much money. I’m willing to risk on a daily basis two percent of that, so if I lose fifty percent of it, that stinks, but I’m okay.” Each day, Rob sizes up his trading against a standard. That means that he is rarely taken unawares or unprepared or overextended. It also means that there are days that he does not make as much as he might if he took on more risk, but it also means that he does not lose as much as he would without his parameters. While Chris needs to come to his own parameters, the lesson is clear – without a plan, without a disciplined approach, he is not likely to succeed in trading for very long.

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Packaging discipline

One of the most interesting features of the narrative of discipline is its relative formality and consistency. While the advice that Rob gave to Chris was based on Rob’s personal experience, it partook to a striking degree of a highly formal and codified body of knowledge as to what constitutes discipline in trading. When locals talk about trading, it is clear that the range of approaches to the actual trading – to figuring out what to buy and sell, when to buy and sell it and so on – is almost endlessly variable. Some traders are fundamentalists, trading on information related to changes in supply and demand and other such fundamental attributes of the underlying. Others are technical traders, trading on chart patterns and other technical indices. There are candlestick chartists and

Fibonacci followers and skew theorists and almost every other approach. In contrast, the narrative of discipline is remarkably consistent and stable. It has been passed on not only informally, trader to trader, but formally, in books and on the backs of trading cards.

Until recently, most trades were ‘carded up’ – that is, they were written down on cards carried in the pit by the locals. The cards are 3 ½ inches by 5 ½ inches, and have a space on one side for the buys, and on the other for the sells. When a trade is made, the local writes in the spaces provided the number of contracts, the month of the contract, the seller’s badge acronym, the price and the bracket (the fifteen-minute time frame in which the trade was made), and the date on which the trade was made. There are several sources of the cards – most locals order them pre-printed with their badge and numbered in sequence from printers who specialize in trading cards. If a trader runs out, he can get

149 a supply of blank cards from the exchange, which keeps them on hand for just such an eventuality. Finally, he can get cards from his clearing firm. For a time, many of those clearing firms gave out cards that resembled trading cards, with guidelines for trading listed on the back. The lists encapsulate the basic rules of trading – a primer in discipline. The lists on the cards that I was shown by traders who had received them when they started trading were remarkably consistent – they varied only slightly in length, with between fourteen and fifteen succinct items. The items included admonitions like, “Do not be influenced by the opinions of others.” “No hoping, no wishing, no praying, no opinions.” “Never add to a bad trade.” “Once you have a profit on a trade, don’t let it become a loss.” The advice that young traders said they received from more experienced traders was closely reproduced in the lists, such that the oral tradition and the cards were on many points nearly indistinguishable. The cards I was shown appeared to be of ancient vintage, tattered and worn, and were pinned over the desks of traders with decades of experience. Other cards admonished, “Money is made being in the pit, not by being out of the pit.” “Use discomfort to your advantage. It may never go away.” “Work on each trade. Don’t lay back.” “Never add to a losing position.” “Try not to be habitually bullish or bearish.” The cards are totally agnostic with regard to what trading models or strategies to use; instead, they imply that success in trading lies in a short list of primary orientations. If that is the case, it is in the best interests of the firms to disseminate the rules widely, since every trader that is successful enough to keep trading is another trader who is paying them clearing fees. The cards go

150 on, “Learn quirks of traders and brokers.” “Do not overtrade. It’s best to begin with one- lots.” For all that the cards were old and worn and over the desks of the old hands, much of the advice seemed to be directed to the novice. “Practice your trading. The first hundred trades are the hardest.” “The ability to let a profit run is a developed skill.”

Perhaps most importantly, “Watch disciplined traders. Try to model yourself after them.”

And succinctly, “DISCIPLINE! DISCIPLINE! DISCIPLINE!”

For those without access to the wisdom of trading cards, the narrative has been spelled out in a number of (relatively) popular books on trading written by former traders for both aspiring and current traders. One trading coach has written two books spelling out the disciplined approach to trading, The Disciplined Trader (Douglas 1990) and

Trading in the Zone: Master the Market with Confidence, Discipline and a Winning

Attitude (Douglas 2001) Both books present the narrative of discipline to current and potential traders in its canonical form, reproducing much of the advice purveyed by the cards and experienced traders. Other works for traders include books like Trading

Chicago Style: Insights and Strategies of Today’s Top Traders (Weintraub 1999), and

Bulls, Bears and Millionaires: War Stories of the Trading Life (Koppel 1997), which offer interviews and counsel, including reflections on the importance of disciplined trading. In his “pit stops,” pages of various forms of trading information sandwiched between interviews with successful and prominent traders, Weintraub describes the various types of traders. There is “The Doubter,” “The Blamer,” “The Victim” and so on. All of the descriptions are negative, with the exception of “The Disciplined Trader.”

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The disciplined trader is “the ideal type of trader. You take losses and profits with ease.

You focus on your system and follow it with discipline. Trading is usually a relaxed activity. You appreciate that a loss does not make you a loser” (Weintraub 1999:61). For the novice trader, the skills necessary for trading are clear and finite. Master them, the cards and books suggest, and you are well on your way to a profitable career. After all, the first hundred trades are the hardest.

A loss does not make you a loser

What happens once a novice local has made his first hundred trades? In some cases, he doesn’t make it to his first hundred trades, or his first two hundred. There is a great deal of turnover in the trading pits; while solid statistics are difficult to come by, traders I asked estimated that up to one-half of traders who start out quit within the first two years. In some pits, the turnover was less dramatic; in other pits, traders blew out 20 so fast that no one bothered to learn the new guys’ names. It quickly becomes apparent that no advice is fool proof. There are traders who diligently follow every rule, but wind up on the wrong side of a market move no one saw coming. Or they wind up in a pit that suddenly goes moribund just after they’ve loaded up on contracts, or they stand near a broker whose main customer has just switched brokers, or products, or whatever. A trader who has made it on the floor for three years is already something of an anomaly.

While Rob gives Chris advice on how to be a disciplined trader, he himself reflects the

20 Lost so much money they had to quit trading.

152 nuanced view of discipline that comes with experience in trading. Like Chris, Rob was academically talented. He was the first in his working-class family to go to college, and the first to get a graduate degree. He decided to try clerking for a friend one summer, and found that he liked it well enough to stay. While he is in many ways a quick study and an adept trader, he has clearly tempered his expectations of quick and easy money. There have been years that he has done well, and years that he has not done so well. On balance, he makes a stressful but comfortable living as a market maker. While he has the same advice for Chris that he received as a beginning trader himself, his own approach to trading, and with it his sense of what constitutes discipline has changed. When asked how long it takes to learn to trade, he replied that he is, “Still learning. You try to get better, and there’s lots of different ways. Everybody trades a different way. Some guys try to be really flat the Greeks 21 as much as they can, you have other guys who view movements in volatility as opportunities. You have guys who will just be standing there no matter what happens. So just have totally different viewpoints. It all depends.” As he, and other mid-career traders tell it, it becomes clear that discipline is far from foolproof. Even the most disciplined trader can suffer large losses, and completely undisciplined traders, traders who seem like an accident waiting to happen, can suddenly make a series of brilliant trades. The apparent vagaries of fortune mean that the narrative of discipline as a set of practices loses some of its power. As traders gain experience, discipline becomes a way to separate their monetary worth from their self-worth.

21 There are a series of metrics that options traders use to hedge their position such as vega, delta and gamma, which are known collectively as ‘the Greeks.’

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There is a second account of discipline that circulates on the floor, one that seems to have more to do with the creation of character, or moral fitness, than it does a process of learning or instruction. In this version, discipline is a route to worth or status, and a determinant of worth and status. It is a process of introducing consistency in an otherwise inconsistent situation, and a long-term disposition. It acts to overcome what

Sennett identified as the narrative-destroying properties of risk (Sennett 1998). The overarching theme of this dimension of the narrative of discipline is that of the arbitration of worth. In trading, worth is a slippery concept. At one level there is financial or monetary worth. A trader knows at the end of every day (or the beginning of the following day) what he is worth. Every day, as trades are marked-to-market 22 , a trader’s position is adjusted to reflect the day’s trading. That means that a trader can be, depending on what he is trading, ten thousand, fifty thousand, a hundred thousand, a million up. Or he can be ten thousand, fifty thousand, a hundred thousand, a million down, and facing a sobering margin call. A trader can walk off the floor in the evening, confident that he has covered all of his risk, and come in the next morning and watch the market unwind before his eyes. His net worth varies not only relative to the market, it varies relative to the others trading around him. On the floor, every trader has a sense for how the other traders around him are doing, in part because he can see what their inventory is. A bad day for one trader can be a good one for another, and the competition

22 Since the price of a contract changes each day, at the end of every trading day a trader’s position, the contracts that he holds, is marked-to-market, which means that the value of the position is changed to reflect the closing prices of the contracts at the end of that day.

154 in the pit for trades extends to a competition for worth. Under these conditions, it is not surprising that there is a narrative of self-worth intertwined with issues of financial worth and conduct in the market.

As one mid-career trader put it, in this version of discipline, “The most important one thing to being a trader is having discipline. It’s how you are no matter what else happens. If you don’t have discipline, you are a loser.” A trader who isn’t winning at trading is losing at trading – which would seem to be self-evident. A trader who is winning is making money, and a trader who is losing is losing money. But this narrative is not about winning or losing – rather, it is about being a winner or a loser. Here discipline isn’t entirely about money. That is, the trader didn’t say, “if you don’t have discipline, you lose money, and then you are a loser.” Instead, the formulation is that without discipline, you are a loser, and you are a loser whether you are making money or losing money. If you have discipline, you are a winner, whether you are making money or losing money. Discipline is about self-worth as a trader, such that a trader who has discipline has worth, and a person without discipline does not have worth. Discipline effectively separates financial worth from self-worth, and offers a route to self-worth.

Given the vicissitudes of making money in the market, even if the market is behaving predictably, any narrative that offers a sense of consistency is an attractive one.

According to another trader, “If you have discipline, if you’re disciplined, you always give one hundred percent, you can deal with whatever is happening. If you are giving your all, then you can be proud of yourself, that whether you made money or not, you can

155 be proud.” Though the content of discipline seems to change, as traders discover what does and doesn’t work for them, as they gain experience as traders, such that the list of practices becomes more diverse and individualized, the idea that one is disciplined, that one has mastered discipline, becomes more important.

A trader who regards himself as disciplined is a winner who can be proud of himself. He can be a winner even while losing; he can walk away from the losing day, a losing week, from whatever has happened on the floor, without giving up his sense of self as a trader. If he can maintain his sense of his own worth, he can come back the next day or week with his confidence intact and keep trading. This means not only maintaining one’s personal worth even if one’s financial worth disintegrates, it means putting financial worth in its place (though some traders also noted that arrogance is a commonplace on the floor, so the narrative might work too well at times). Monetary losers are not losers so long as they have lived up to a standard of behavior. For a disciplined trader, losses are temporary; they are just speed bumps on the way to success.

Losses are not the only source of anxiety on the floor. Traders report that gains can be as problematic as losses, though for different reasons. Loss is a straightforward experience – you make a bad trade, you lose money, you try not to do it again. If it keeps happening, you try to change your approach, re-tool a bit, and try to maintain your sense of self. The basic rule is simple: “never add to a losing position.” And, even better, take a loss right away, and move on. The rule for profit hints that it is more complex than it would seem: “The ability to let profit run is a developed skill.” Profit would seem to be

156 the easiest part of trading. But in observing traders, it becomes evident that profit presents its own set of challenges. If a trader has a run of good trades, he must wonder – was it luck, or strategy? At a deeper level, did he deserve his good fortune? Has he labored sufficiently to earn his profit? Small, steady profits are less anxiety-provoking than large, sudden ones. For all that loss is risky, gain can be just as risky. A trader who is losing money is having an experience that almost everyone can empathize with. A trader who is making money can be the focus of intense envy and resentment, and can even engender a sense of guilt. A narrative of discipline means not only that one can be confident of one’s worth as a trader when one loses, it also means that one can be confident of one’s worth as trader when one wins. Discipline is something that a trader works at, and therefore his gains are the result of hard work. He is disciplined, and by extension, deserving. If good traders are disciplined, and good traders make money, that means that disciplined traders make money. By the same token, the reasoning goes, a trader who makes money is a good trader, and good traders are disciplined, so a trader who makes money can consider himself disciplined. It works, in this narrative, both ways. A disciplined trader who loses money can still be proud, and a disciplined trader who makes money can also be proud. It’s a remarkably flexible narrative, offering protection against excesses of both bad fortune and good fortune.

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A holistic narrative

For traders like Rob, discipline comes to be a state of mind or disposition, a statement about their worth as traders. As they continue to defy the odds, to overcome the regression to the mean that means that a the profit that is unlikely after one thousand trades becomes a statistical improbability after ten thousand, traders of even longer tenure on the floor come to formulate the narrative of discipline in yet another way. What is the difference between Rob and a trader with even more experience? Usually a trader who has been on the floor for more than five years has had some significant reversals of fortune. One case in point is trader named Jay, who had been trading for over ten years when I talked to him. Unlike Chris and Rob, Jay had always planned to be a trader.

After getting an undergraduate and then a business degree from an elite university, he went directly to work for a bank as a trader. He was a success almost instantly, and made a great deal of money for the bank before deciding that he wanted a bigger piece of the action and striking out on his own. He had several more years as a wunderkind before a series of disastrous trades decimated his capital a few short, agonizing months. He struggled to bounce back, but finally had to dissolve the firm he had begun and headed.

As he tells it, he was completely demoralized, and took his disappointment out on his family. When he was unable to find work, a friend finally offered him a job as a car salesman. He was able to scrape together enough money to return to trading, and today is once again an extremely successful trader. For Jay, as he tells it, the narrative of discipline is not just about who he is as a trader, it is about who he is as a person. It is a

158 narrative about taking risks, not just in the pit, but in life. When he talks about discipline, it is a life narrative that stretches from his youth to the present, and conditions the way that he sees the future. His first hundred trades are far behind him, he has come to terms with his worth as a trader, and he has come to terms with his worth as a person. For Jay, discipline is what made it possible for him to come back as a trader. He sees the origin of his disciplined approach in his early life, in the way he was brought up, in his early schooling, in sports and academics. He points to the influence of his grandfather, a stevedore who worked long hours for his large family, and always stressed the value of hard work and study, and his parochial education, as sources of training and inspiration.

It was not only that he was a disciplined trader; it was that he was a disciplined person who became a trader, and developed even more discipline. As Jay put it, “it’s really the stuff I learned as a kid. I learned to be, I was taught to be honest, and to be disciplined, and to work hard and that’s a lot of being a good trader.” Not every trader’s story is as dramatic as Jay’s, but he is certainly not alone. Traders tell of having blown out and taking jobs as construction workers, of sleeping on the sofa in a sympathetic friend’s living room while they battle back. Others weather marital difficulties or substance abuse or illness. Over and over they stress that they had the discipline to come back and try again. They combine the practices that they learned as young traders, the sense of their worth as traders that they developed as mid-career traders with a sense of their worth as people, and come back again, older and much wiser. They also come back with a sense of the limits of discipline; it was a source of some concern and disappointment to traders

159 who regarded trading success as at least in part the outcome of discipline and skill that there were successful traders who were neither disciplined nor skilled. In the ideal world of the narrative of discipline, skill and discipline are rewarded. Discipline is a powerful narrative that encapsulates the apprenticeship experiences faced by Chris, the mid-career challenges that Rob confronts, and the personal renaissance that Jay undergoes.

Discipline is powerful precisely because it offers a narrative for both failures and successes. It offers a consistent yet evolving response to the inconsistent life of trading.

Religion and narrative

It has been argued that the market is understood by traders to be a divinity, even a deity, and that trading is therefore a process of interaction with God. Accordingly, “the market acts as an instrument of the divine,” in which the conception is of “worth as something obscured and absolute that partakes in sacred authority;” trading, then, is “an act of engaging God” (Zaloom 2005:253). “The faith and humility traders display expose an economic ethic forged within the circuits of global markets,” and the “religious language traders use expresses the urgency that they bring to their financial conduct”

(Zaloom 2005:254). It is within this context, then, that discipline has been posited to act.

This argument raises an immediate question. Do the traders see the market as

God? Is a trader who opines that, “We don’t know value. Only God knows value”

(Zaloom 2005:253) suggesting that the market is a divine incarnation? Many traders are very religious; without any way to make a precise comparison, the floor did seem to be

160 slightly more religious than the ‘average’ workplace. Most traders reported being raised in religious homes. There were offspring of missionaries, proud parents of priests and ministers-in-training, and traders who regarded their time on the floor as a prelude to less monetarily remunerative but more emotionally fulfilling careers like fire fighter or Latin

American aid worker. However, there did not appear to be any sense that any of the traders regarded the market in deific terms. It has been argued elsewhere that the market has come to be regarded as having properties traditionally regarded as the domain of the divine – traits like omniscience and omnipresence (Cox 1999). However, that argument has been made with regard to the market as a whole – the vast abstraction that comprises and is comprised by an array of specific markets, as opposed to the focused markets in which the traders operate, such as the market for random-length lumber, or soybean meal, or shares of Microsoft. To say that God knows value is not quite the same as saying that the market is God. Traders reported praying – going to places of worship (two popular destinations were Old St. Mary’s, recently relocated so that it has become the new Old St.

Mary’s, near the CBOT, and St. Peter’s, near the CME), and praying for guidance, for succor, for any of the numerous things people pray for and about. They did not, however, pray to the market. While God may act through the market, and may have knowledge of the market, that is not the same as being the market. Insofar as the traders’ had an orientation to the possibility of divine participation in the market, it seemed to be akin to that of members of professional football teams, who after a score, may motion toward the sky or gesture in such a way as to suggest that they give the credit for the touchdown to

161 the Almighty. They do not think that the NFL is God; rather, they believe that God may choose to act (or not act) through the medium of a football game. Thus, it does not seem that the traders regard the market as God.

The existence of a narrative and practice of discipline invites the question of the nature of the discipline. The idea that God may act through the market raises the issue of whether discipline as formulated by traders might be a case of the worldly ascetic that that Weber identifies as an outcome of the Calvinist ethic. In the case of the Calvinists, success in a calling came to be regarded as a sign of election. There are certainly aspects of the narrative of discipline that can be regarded as a worldly ascetic. It does provide for a type of self-formation, a method of refining oneself in response to a vocation. And, a sort of mode in which the self-formation might be in response to a religious impulse is possible. But, religion is not a requirement for capitalist discipline. 23 In addition, traders are aware that discipline is far from foolproof; disciplined traders succeed, but they also fail, and undisciplined trader fail, but they can and do also succeed. On the floors, many traders are refugees from other forms of capitalist discipline, discipline which forced them to work regular hours, in cubicles, sit and a desk, wear a suit, or not dye their hair a fluorescent color. There is a lively entrepreneurial spirit on the floors which does not entirely square with the type of discipline that produces factory workers, bookkeepers and bureaucrats. It must also be kept in mind that first and foremost, traders become

23 See for example: Ong, Aihwa 1987 Spirits of Resistance and Capitalist Discipline. Albany: State University of New York Press.

162 traders in order to make money. Many of them have a keen sense of vocation as well; it is important to them to provide a service to their customers, and to carry out their responsibilities as liquidity providers. If there is a set of practices that will help them do that, and make money, they will adopt, or at least attempt, those practices. If those practices do not help them, they will adopt other practices. The narrative of discipline, however, is more than the adoption of a set of practices; it is an entire orientation to trading, one that takes into account not only the possibility of success, but also the possibility, even the likelihood, of failure. In that sense, it is very unlike a worldly ascetic linked to signs of success, or success as a sign.

Finally, there is the argument that discipline is a set of practices and/or narrative that has arisen within global markets. Two elements of the narrative argue against the idea that it is a product of global, as opposed to local, forces. The first element is that it is an old narrative – the trading cards bearing the rules are of what passes for ancient vintage in the market. Traders report that they received the cards when they first started trading in the early 1970s, suggesting that the various rules had their genesis prior to that.

The second element is that, given the age of the narrative, it developed at a time when the markets were far less globally present than they are now, a time when the markets were very still very much the products of Chicago and of the United States. At that time, the idea that there would be exchanges elsewhere in the world that would challenge the preeminence of the Chicago markets was unthinkable. The Chicago, and to a lesser

163 degree, American 24 way was gradually exported, but never thrived elsewhere the way that it did in Chicago, or even elsewhere in the US. According to traders, when exchanges opened elsewhere, they were either seeded with Chicagoans (such as London) or based on other, largely electronic models (Switzerland, Germany).

The practices and narrative of discipline by traders is very much a set of orientations that is tied to the trading floors, to Chicago, and to the United States. It is a narrative that is not necessarily religious, and it does not derive from a conception of the market as God. It’s not a worldly ascetic in the Calvinist sense, though it does share some features insofar as it includes guidelines for a type of orientation toward the market.

It does not appear to have arisen from global forces; rather, it appears to be a product of long experience on the floors and in the pits of Chicago, and to a lesser degree the United

States. That feature of the narrative points toward a fuller understanding of the narrative of discipline, and how it permits traders to at least partly overcome the punishing reality of regression to the mean, the degree to which each and every trade threatens to render a trader’s profits a casualty of the normal curve.

A cultural narrative

The narrative of discipline can perhaps be most fully understood, best understood, as a particular form of a redemptive narrative. For the past twenty years, Dan McAdams has been studying life stories (McAdams 2006). He has found that highly generative

24 There were exchanges elsewhere in the Unites States, but none on the scale of the Chicago exchanges.

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Americans (those who are concerned with contributing to the development of future generations) tell their life stories in a way that distinguishes them from the stories of less generative American adults, and from the life stories told by adults who are not

American. Highly generative American adults tend to tell their life stories according to a pattern that highlights the possibility of redemption. As they tell it, the stories of their lives, “follow an idealized story script that emphasizes, among other themes, the power of human redemption. In the most general sense, redemption is a deliverance from suffering to a better world ” (McAdams 2006:7) (emphasis in original). That vision of redemption can be religious, but it can also be secular. He also found that highly generative

American adults tend to narrate their lives around the theme of redemption 25 .

The stories told by highly generative American adults tend to follow a general pattern. The person telling the story reports that he or she is comparatively advantaged in some way (gifted, blessed, special) that makes him or her different from other people.

However, the teller also observes that other people are not as fortunate. Early in life, the teller is sensitive to the travails of others. The teller adopts or creates a personal belief system that leads them to advocate for others and establishes the framework for the remainder of the story. The teller reports that he or she experiences hardships and

25 While McAdams identifies the redemptive narrative with highly generative adults, it may be more prevalent than that. In a recent article in the New York Times, a writer observed that the British film ‘Mr. Bean’ has not done well in the US, in contrast to the rest of the world, because Americans “want our comic losers – our Homer Simpsons and Ugly Bettys – not just to be likeable but to have occasional moments of redemption”. The British comedy The Office had to be re-tooled for American offices such that the lead character had occasional moments of redemption. Itzkoff, Dave 2007 Mr. Bean Bumbles on Voyage Across Pond. New York Times, August 28.

165 encounters roadblocks. However, those difficulties often bring the teller to learn valuable lessons or have optimistic outcomes. The teller progresses over time, overcoming the setbacks and hardships and moving in positive directions. In the course of his or her life, the teller’s desire for mastery and desire for freedom can negatively impact his or her desire to be in relationship with others. As he or she matures, the teller strives to positively impact future generations (McAdams 2006:11).

The narrative of discipline can be understood as a version of the redemptive narrative. Traders, simply by virtue of managing to remain on the floor, have in many ways effected a redemption. The degree to which the mathematical odds are stacked against their success mean that those who are able to continue to trade successfully have defied or overcome significant obstacles. For some that is a process that is facilitated by luck; for others, it is achieved despite luck. Though traders may not appear at first blush to be uniformly concerned with the well-being of future generations, a closer examination reveals that many, if not most of them, teach, guide or mentor in their roles either on or off the floor, or both. They appear to be highly generative adults. The stories that they tell around the theme of discipline, their narratives of discipline, bear a strong stamp consistent with the redemptive narrative McAdams has identified. Discipline partakes of the narrative, offering a mechanism of redemption in an uncertain and risky world.

Discipline serves to redeem a trader, whether that redemption is religious or secular or both. For traders, the narrative of discipline is part of a larger redemptive narrative, which goes something like; I was born in a family that was either personally or

166 historically disadvantaged in some way. I was a quick learner, or the most productive of my siblings, or a good athlete, or whatever trait the teller recalls having. In some cases, the special ability was the ability to stay out of the troubles that others around him fell victim to. The teller often distinguishes himself in some way before coming to trading, by excelling academically or winning athletic contests or some succeeding in some other competitive setting. He often recalls the influence of someone, such as a family member, teacher or religious figure who guided and taught him, and instilled early lessons in discipline as being central to his early successes. In some cases the individual came straight to trading, in others there were a series of steps along the way. The exceptions were those born in trading families - but they frequently told stories in which they fell away for a time. They came to the floor and found that they were able to trade, or they learned to trade, or in some way they became traders. They identify themselves as good or capable traders only with the caveat that that can be a tenuous position – that they know that skill is rarely a guarantee. In some cases they blew out once, or even twice, events that become part of narratives of both discipline and redemption. They may also experience other, related setbacks, such as family problems or health problems.

However, buoyed by their self-discipline, they are able to come back from their reversals and misfortunes, and they learn valuable lessons in the process of coming back. Their discipline gives them fortitude, and that fortitude allows them to learn difficult lessons and come back, with a renewed sense of purpose and the confidence that they can overcome the vicissitudes of life. The trader seeks to pass on what he has learned,

167 whether to less experienced traders, to members of their family, to members of their religious communities, or wherever they see a need.

There are some differences between the narrative as the traders outline it and the narrative as McAdams outlines it. The redemptive narrative as the traders tell it includes the set of practices undertaken by novice traders. However, that may simply be a consequence of the differences between taking a cross-section of narratives, versus the narrative of a particular group. It is likely that other sub-groups have sets of practices associated with redemptive narratives, such as religious practices or other sets of guidelines for behavior. For traders, the redemptive narrative of discipline is a way to give continuity to their experience, to shape it as opposed to simply being shaped by it, to in some way overcome the constant encroachment of risk. The degree to which the narrative is an American one suggests that it has its origin not in a primarily religious or even quasi-religious experience, but rather in a shared culture, as suggested by the work that indicates that religious experiences vary more across cultures than within them. The narrative is also one that, as opposed to being derived from the market, is rather tailored to its specific needs and circumstances. Traders frequently point out that there is something different about the Chicago markets – that they are populated by unusually daring risk-takers, who have built the markets virtually from scratch. Even as they are threatened by upstart exchanges, they have shown unusual resilience. Chicago traders appear to be able to take on risk to a degree that remains unusual even as risk-taking becomes an occupational norm beyond derivatives. Part of that ability might be their

168 narrative, not only in the provision of practices, but in the provision of redemption, in the maintenance of a route to return, of a means of continuous recreation of the trader as redeemed.

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Chapter 6: Liquid markets

The views of the market to this point have been the good – the doux commerce view and the mixed – the idea that the forces of the market on culture and of culture on the market go both ways, and the view of the market as feeble. The final view of the market is the view of the market as self-destructive, as sowing in some ways the seeds of its own demise. In the preceding views, the market acted on culture for good, the market was acted on by culture, or the influence went both ways. In this case, the influence of the market is for the worse. For many traders, there are forces at work in the market that could well be described as being for the worse. They face the possibility that their craft, the craft of market making, maybe no longer be valued by the market. As the market changes, so does their role, and it doesn’t seem to be changing for the better.

According to Hirschman (Hirschman 1982), the final view of the market is the self-destruction thesis. According to this view, capitalist society undermines the moral foundations on which any society must rest. It is the opposite of the ‘doux commerce’ thesis, and argues that, rather than supporting moral foundations, the market, and capitalism, erodes them. In one version – which Hirschman calls the ‘ dolce vita ’ scenario, scenario, the achievement of wealth itself impairs the process of further achievement of wealth. The virtues that lead to the attainment of wealth are abandoned once it is achieved. In a more subtle formulation, it has been argued that rather than making people cooperative and altruistic, the market makes people narrowly self-

170 interested, and encourages unbridled competition to the point that individual behavior and judgment is impaired.

This is the position most closely identified with Marx (Marx 1992), for whom the source of the problem in the capitalist market system was the production process. The production process is not necessarily the only issue; for Veblen (Veblen 1994), the consumption process also undermines social relations just as completely as does the production process. For Marx, a core issue is the extraction of surplus value in the production process, and the violence that perpetrates. Of perhaps even greater concern, he identified the central problem of commodification as the ways in which relationships between people and people and relationships between people and things are mistaken for one another. This is an area of inquiry that has been particularly fruitful, as a number of arenas have come increasingly under the domain of commodification (Appadurai 1986;

Schepper-Hughes 2000; Taussig 1980; Zelizer 1985).

Shumpeter (Schumpeter 1950) also argued that the market mechanism, once set in action, outlives its usefulness – that is, it continues to run even as it runs the market down. He argued that capitalism’s violence is chiefly ideological, as it generates hostility among those encountering it. Shumpeter’s version of things, as Hirschman points out, makes the most sense if the ideological effects are inadvertent. That somehow the virtues that make capitalism possible are being accidentally eroded by capitalism. In that scenario, the self-interest, which is central to capitalism, somehow stands in opposition to and undermines the values, which make the pursuit of self-interested capitalism possible.

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Finally, Polanyi (Polanyi 1957) emphasized the dehumanizing effect of modern capitalism on individuals and on social relations. His argument centered around the institution of the English poor laws, the effect of which was to sever the bonds of fellowship that linked one person to another in a web of mutual responsibility. The institution and reform of the poor laws mark the creation of the modern self-regulating labor market, a market that caused individuals to be regarded as commodities, rather than as persons.

Technology

Until recently, every trade that was made in Chicago was made in an open-outcry pit. Every order originated with a customer, who placed the order with a brokerage, who brought the order to the pit, where a floor broker exposed the order to the crowd, which consisted of market makers who competed to fill the order at the best price possible. The market maker and the broker made the trade, the order was filled, and the confirmation was routed back to the brokerage, which confirmed the trade with the customer. That has been the system, with relatively few fundamental modifications, since the mid-eighteen hundreds. Those modifications that had been made had been in the technologies that underlay and facilitated the communication around the pit; they had had relatively little impact on the pit itself. Technologies like the telegraph, then the telephone, and then the computer, changed the world around the pit, but had yet to touch the pit.

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That changed with the advent of electronic trading. Beginning in the 1970s exchanges began to experiment with systems that took the place of the pit. The initial impetus for the systems was the expectation that trading there would be pressure to trade certain products, particularly those popular in Asia, 24 hours a day. Even after the luster of 24-hour trading dulled somewhat, exchanges continued to pursue systems with the expectation that they would be less expensive to operate than the space- and labor- intensive trading floors with their relatively high overhead costs.

Though systems vary, in general a customer who has an account with a broker can view the bids and offers that are currently available on a product and then directly carry out transactions in electronically traded products. A customer must have an account with a broker, who in turn must have a clearing firm. To trade on an electronic trading platform, the customer enters orders via the trading software provided by the brokerage, which routes the order to the exchange and to the exchange’s matching engine. The customer receives an order acknowledgement from the system, which then stores the orders in a centralized order book by market. The orders are then matched based on various matching algorithms and contract specifications. Once the trade is made, the customer receives the fill information from the exchange through the customer’s trading application. The exchanges maintain the system, but in most cases the front-end application - the application through which the customer enters orders – varies, with various vendors offering different applications with different functionalities.

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There are a variety of matching engines, which employ a range of matching algorithms. Most matching algorithms, however, fall into either one or the other of two types, either first-in, first-out (FIFO), or market maker (MM). When an order is entered into a FIFO type system, it is filled based on only two criteria – price and time. In this system, all orders at the same price level are filled according to time priority. In essence, a FIFO system is almost purely a matching system, so that customer orders are simply matched and filled, as opposed to going through a market maker. This type of system assumes that the market is deep and liquid – that there are enough customer orders at any given moment that any buy at any price is likely to find a sell at that price, and vice- versa. An example of a deep, liquid market is the market for Microsoft stock, which trades continuously at high volumes. Anyone who wants to buy or sell Microsoft stock is going to find a ready trading partner. There are products, however, that are neither deep nor liquid – where a buyer may have to wait for a buyer, or vice-versa. In those markets, liquidity must be provided by a liquidity provider – a market maker who takes the other side of the transaction, allowing the customer to buy or sell. A market maker (MM) algorithm is similar to the conditions that prevail in the pits – when an order is entered, market makers who are usually given certain privileges, such as a guaranteed allocation of trades, in exchange for making a two-sided (buy side and sell side) in a given contract take some part of the order, guaranteeing that the customer can fill all or some part of an order, regardless of whether there is a counter-order in the market. Matching algorithms that are not purely FIFO or MM are usually some combination of the two types.

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Electronic exchanges have transformed futures trading. While both the Chicago

Board of Trade and Chicago Mercantile Exchange began developing electronic systems in the 1980s, the majority of their volume remained open-outcry well into the early

2000s. Rapid growth in electronic trading first took place outside of the United States.

The all-electronic German and Swiss exchange EUREX was launched in the early 1990s, and at the time of its launch was the tenth largest exchange in the world. When it was launched, the CBOT was the world volume leader. Less than ten years later, EUREX surpassed the CBOT as the world’s largest exchange, and by 2000 had volume nearly double that of the CBOT. While Eurex’s attempt to usurp the CBOT’s volume in their flagship products has sputtered, they have nonetheless remained volume leaders.

Among open-outcry exchanges, the fastest growing business segment has been electronic trading. The Chicago Mercantile Exchange has seen their volume surge led by two electronic contracts that are 1/5 the size of the floor-traded contract (the ‘mini’ contract), but trade side-by-side with the larger contracts. Even as open-outcry volume has fallen, electronic volume has surged, and surged rapidly. On the way to their current dominance, Eurex passed up the London International Financial Futures Exchange

(LIFFEE). At the beginning of 1999, LIFFE traded the vast majority of the bund futures market. A mere twelve months later, nearly the entire bund business had moved to

Eurex. LIFFE responded by closing its trading pits, investing in electronic trading, firing

175 over half of its staff, and going public. Virtually all of Europe’s major futures markets are now electronic, and the US appears to be following suit 26 .

The situation is a little bit different in options trading. While futures trading in the United States is poised to move completely to the screen, options volume has moved more slowly. While there is electronic volume in options, much of it is in retail trading – equity options traded by retail customers, usually in relatively small amounts – as opposed to institutional trading. There are several reasons that the volume has not migrated at the rate that futures volume has. One is that the bandwidth does not yet exist to carry an amount of data that would fully replicate the information available to those trading in the pits. The second is the nature of options trading, as opposed to futures trading. In futures trading, each contract has a single price point at each moment in time.

For example, a corn contract may trade at $0.70/bu, then at $0.75/bu, then at $0.65/bu.

However, those prices never overlap – the contract trades at one price, then when the bid or offer is bettered, it trades at the new price, and so on. A screen system need only display the contract, the expiration, the bid quantity, the bid, the ask, the ask quantity, the last price, and the last quantity and volume, though in practice many display more information than that. In contrast, in options trading, a trader has generated theoretical prices for thousands of contracts and market scenarios, based on the price of the underlying contract (say, the corn futures), volatility (how much corn futures prices have varied in the past, and how much he expects them to vary in the future), his current

26 This is covered in greater length in Chapter 2.

176 position, and his sense for market outlook. As the price changes in the underlying, he will select from his set of theoretical prices and quote a price and quantity. As soon as the price in the underlying changes, however, the quote is immediately invalid, and he quotes a new price and quantity, again selecting from his theoretical prices. As electronic platforms currently operate, there is no mechanism by which an option traders quotes are taken out of play by a change in the underlying. An options trade in the pit can be quoting prices across hundreds, even thousands of options at a time. On the screen, there is not yet any way that a trader can keep his quotes fresh fast enough to not have some of his ‘stale,’ and therefore mispriced quotes traded on by traders who are on the lookout for just such opportunities. For those traders who do trade options in electronic systems, it appears that their response to this kind of risk is to trade smaller quantities, so that even if a ‘stale’ quote is hit, the damage is limited.

The differential rate of change, as well as the technological complexities of moving options trading to the screen, make options an ideal case in which to examine some of the issues of technological change, issues that have been somewhat obscured in the move within futures trading. Within futures trading, those who did not enthusiastically welcome the change with open arms were reviled as ‘luddites’ and ‘flat earthers’. On the options side, the change is more technologically complicated, which highlights other ways in which it is socially complicated. Screen trading has assumed the aura of innovation and the appearance of a revolution, a bold departure from tradition.

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However, it is not necessarily so simple. There is also a powerful profit motive, and question of who benefits from the revolution, and how.

Commodities

Liquidity, technology and commodities have always been intertwined in the making and maintaining of futures and options markets. Though futures and options markets have long histories, in their modern form they grew up out of a complex interplay of commodities and technologies. This is perhaps best exemplified by the creation of the market for wheat futures in Chicago. The canonical version of events is that provided by Cronon in his magisterial history of the making of Chicago (Cronon

1991:104-125). As he outlines it, the futures markets were an outcome of a series of technological and sociological innovations, beginning with the growth of wheat in the fertile farmlands just to the west of the city. In the early days of frontier farming, a farmer grew a crop of wheat, put the grain in sacks, and took the sacks to the local shopkeeper, where he traded the sacks of wheat for the shopkeeper’s goods. The shopkeeper amassed a store of sacked wheat received in trade from his customers, loaded it on a wagon, and took it to Chicago. Once in Chicago, he either sold it there, or if he could not find a buyer, entrusted it to a commission merchant, who took it on to markets further east in an effort to sell it there. A sample of the grain from each sack was tested for various properties, such as purity, bulk, cleanliness, weight and so on, and sold on the basis of those properties. Clean, heavy wheat, free from chaff and mold sold for a higher

178 price than wheat that was dirty, or had begun to sprout. Since the grain remained in the sack, there was a direct relationship between the farmer, his property, and the eventual price – allowing for vagaries in supply and demand.

Grain became an exchangeable commodity only through a series of developments, some technological, some regulatory. With the advent of the railroad, grain could be moved from the farm to the city more rapidly and more efficiently, and in larger quantities. As quickly as the railroad extended from the city, new farms sprung up along the lines. Transporting grain by rail also meant that grain was no longer regarded by the sack, but rather by the railcar load. The enormous quantities of grain moving into the city had be stored; with the invention of the steam-powered grain elevator, grain could be stored in large quantities, ready to move out as needed. In order to be stored and processed by the elevator, the grain had to be removed from the sacks, though specific grain remained the specific property of a specific owner until sold.

Contemporaneous with the technological changes in the transportation and storage of grain was the creation of the Chicago Board of Trade. Though initially founded as a type of chamber of commerce, it soon became a meeting place for grain dealers, and from there, a commodity exchange. As a way to more efficiently buy and sell the vast amounts of grain being processed through the city – arriving from the hinterlands by rail, and being loaded on ships to travel east – the CBOT decided to designate three categories of wheat, and set standards of quality for each. This development meant that the grain elevators could combine grain produced by different

179 farmers, so long as all of the grain was of a single grade. Once the grain could be bought and sold by grade, that meant that contracts could be standardized as well – a buyer and seller need only agree on price and quantity, and rather than having to exchange actual samples of grain, need only exchange elevator receipts. Rendering the trade as trade in elevator receipts, rather than trade in grain, made possible the development of futures contracts. The combination of technology and regulation commoditized grain, and dramatically changed the nature of the labor of both the farmer and the dealer.

If farmers can be thought of as grain producers, then exchanges – and traders – can be thought of as liquidity producers. However, as is made clear by the account of the transformation in the trade in grain, liquidity is not something that comes about ex nihilo.

A liquid market can be defined as one in which “standardized products can be bought and sold continuously at a price that everyone in the market can know, and products are not normally sold at a price that diverges substantially from the market price” (Carruthers and Stinchcombe 1999:353). There are three features of a liquid market: “1) Continuous auctions in which a crowd of knowledgeable buyers meets a crowd of knowledgeable sellers; 2) Market makers who, for a small margin, are willing to take the risk of transferring large quantities and maintain a continuous price; 3) Homogenization and standardization of commodities, either by grading natural products, by manufacturing standard products, or by creating legal instruments with equal claims on an income stream” (Carruthers and Stinchcombe 1999:353). In the case of wheat, then, one has a continuous auction – the format provided by the centralized marketplace of the exchange.

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One has market makers – the locals, members of the exchange, who stand on the trading floor, taking the other side of every trade, acting as buyer to every seller and seller to every buyer. One has the homogenized and standardized commodities, homogenized and standardized through a combination of technological innovations and regulatory innovations. In the case of wheat, technological and institutional developments came together to create a liquid market in agricultural commodity futures. The development of a liquid market in wheat was very much a technologically-driven one, propelled by the extension of the railroad, the steam-powered elevator, which made institutional innovations possible. The achievement of a liquid market is not always a technological one, however. Technology made it possible to commodify wheat; the combination of wheat and market makers made a continuous market possible. Technology does not have to play a role, however, as the case of the development of the currency futures markets demonstrates; in some cases, it is primarily institutional and organizational innovation that make it possible to create a liquid market.

In the early 1970’s, the Chicago Mercantile Exchange (CME) established the first market in financial futures, the International Monetary Market (IMM), which traded futures on the world’s major currencies. The series of events, and innovations that were pivotal in the creation of the liquid market for currencies is outlined by Tamarkin in his history of the CME (Tamarkin 1993:180ff). As Tamarkin recounts it, the IMM grew out of a number of important developments that the CME was able to bring together to create a market. Unlike corn, currencies did not need to be commodified; they were already

181 largely homogenous and standardized. They were, however, not fully tradable due to a number of regulatory constraints. Established by the allied nations during World War II, the Bretton Woods agreement set fixed currency exchange rates, establishing a narrow band of fluctuation of currency rates relative to the value of gold. In the early 1970s, as inflation rose, the United States suspended the convertibility of dollars into gold. At the same time, currency speculation shifted large sums into strong currencies like the deutsche mark and the yen, forcing Germany and Japan to sell dollars in order to maintain their exchange rates within the agreed range. Finally, unable to maintain the low rates, they allowed the value of their currencies to fluctuate freely. As Bretton

Woods collapsed, the finance ministers of the economic world powers met at the

Smithsonian and agreed to allow the exchange rates of the major currencies to float against one another. Currency fluctuations meant uncertainty, and uncertainty meant trading opportunities. The Merc, which had been seeking to develop new products, had seen the opportunity on the horizon, and had undertaken plans for a currency futures market. Knowing that they would face regulatory hurdles, they commissioned a paper by

Milton Friedman (who some years earlier had tried to short the pound, but had been rebuffed by every bank he contacted), making the argument that a currency futures market would provide a valuable service, one that could only be provided by the meeting of both hedgers and speculators. The CME argued that they could provide liquidity in the currency market – just as they had been providing liquidity in the markets for pork belly futures and cattle futures for years. In this case, the commodity was standardized; what

182 was needed, along with regulatory approval, was market makers who could make a continuous market. The Merc management was confident that they could provide the market makers; when asked how they knew that speculators would trade the currencies, the response was, “We could put anything up on the board and they’d trade it” (Tamarkin

1993:190). The market for currency futures, the IMM, was able to spearhead the necessary regulatory changes, and opened successfully in 1972. The success of that market paved the way for the explosion in financial futures trading that continues to this day. In the case of the liquid market for currency, the key piece of the puzzle was the provision of market makers, of individuals willing and able to step up and literally make a market.

Liquidity

Liquid markets, as outlined above, can come about in a variety of ways. The standard account of a liquid market is one characterized by commodities, trade, and market makers, or liquidity providers. In these cases, “liquidity does not emerge on its own, nor does it flow out of a kind of economic “state of nature,” characterized by the absence of interventions or regulations. Rather, its development depends on specific institutional features and organizational activities” (Carruthers and Stinchcombe

1999:358). Liquid markets may rely on market makers, but how liquid is market making itself? Is it possible that markets may be so liquid that they do not require making? Can one point to a process similar to that by which wheat and currencies became liquid

183 markets, one that is driven to some degree by technology, and to another degree by institutional feature and organizational activities? The craft of market making has changed a great deal, particularly in the last ten years. This section examines the past, present, and possible futures of market making in the context of technological and institutional change.

The past

When traders describe the process of trading, their accounts of the process from ten years ago, from fifteen years ago, even from five years ago are all very similar. The customer called the broker and placed an order. The broker conveyed the order to the floor. On the floor, the order was conveyed to the floor broker, who exposed it to the crowd. In the crowd, the market makers were standing ready to quote a market. Most, if not all, of them were standing in the pit holding sheets of paper rolled into a tube 27 . On the sheets were long columns of numbers generated by a computer program. On the far left side of the sheet, the trader had listed the futures prices that the trader thought were likely to be trading that day, based on the closing price of the previous day. For each given futures price, he then had all of the possible options strike prices – the prices at which customers were likely to be seeking to buy or sell options. Then he had the

27 For an extensive discussion of the development and adoption of pricing programs, see MacKenzie, Donald 2006 An Engine, not a Camera. How Financial Models Shape Markets. Cambridge: MIT PressMacKenzie, Donald, and Yuval Millo 2003 Constructing a Market, Performing a Theory: The Historical Sociology of a Financial Derivatives Exchange. American Journal of Sociology 109:107-145.

184 corresponding premiums for each strike price – the price at which he was willing to buy or sell the option. The sheets were generated by programs based on the Black-Scholes options pricing formula (Black and Scholes 1973), or the Cox-Ross-Rubinstein formula

(Cox, et al. 1979), or some combination or adaptation of the two. In most cases, they also had columns of numbers for the ‘Greeks,’ values generated by the programs that indicated how to hedge the position that resulted from each trade. As the broker called out the order, the traders would look down at their sheets, searching for the correct values, figuring out where a trade would put their position, what they would have to hedge, and so on. Some penciled notes on to their sheets, some used highlighters to indicate certain price ranges, and if the market was trading particularly fast, or the prices weren’t conforming to the sheets, a trader might have several rolls, or have run upstairs to his office to print a new set of sheets. It was a process that permitted, even counted on, a fair amount of improvisation, as the trader attempted to bridge the dynamic action of the pit and the static data of the sheets. Once the trader had found his values and called out his bid or offer, and others had done the same, either joining the price or bettering it, the trade was made, carded up, and the traders scrambled to hedge their new positions before the next trade, signaling to their clerks to make trades in the futures to offset the trades they had just made. It was a system that relied on strength, agility, ingenuity, and improvisation. A good trader was one who could first, stay on his feet, and second, think on his feet.

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Traders recall that the floors, and the offices above them, boasted an impressive array of technologies. Some traders ran their programs on PC’s using Excel, which others had entire Sun Microsystems arrays running proprietary trading programs, written by programmers who specialized in writing trading programs. On the futures side, the

CBOT had developed their electronic trading network, initially Aurora, then Project A, which had workstations throughout the CBOT buildings. The CME had developed

Globex in partnership with Reuters, but trade on it was still a bit anemic. The trading floors themselves were marvels of engineering, equipped with the latest technologies.

When the CBOT’s new trading floor opened in 1997, it was equipped with headsets, electronic order entry systems wired from the booth to the pit, and a Tandem computer system housed in an interstitial space below the trading floor. The 16-foot high interstitial space housed the electronic, phone and wireless communication systems for the trading floor, including 27,000 miles of low-voltage wire and cable supporting the

12,000 computers, 6,000 voice devices and 2,000 devices in use on the floor (Falloon

1998:268-269). The CME and CBOE were similarly equipped, with enough computing power that, as floor personnel liked to point out, the floors only needed to be heated on the very coldest of Chicago’s cold days.

In those days, as traders recall them nostalgically, the margins were much wider.

No one was entirely sure how to price options, and with that uncertainty came some risk.

When the broker called out an order, and the market makers checked their sheets, they called out prices that they were pretty sure of, as sure as they could be based on their

186 programs and their sheets, and someone might better their bid or offer, but someone might not. If a trader sounded sure of his market, chances were he could make a trade at that price. Prices did get bettered, but no one was so sure of his markets that he was going to be aggressively out-bidding anyone else. If a trader was sure of his market – sure that he was not going to be losing money at that price, sure that he was not taking on too much risk, he might jump in and better someone’s market. But if he was not that sure, he was just as likely to hang back, to leave some cushion. And customers weren’t entirely sure how to price them either, so there wasn’t as much pressure on that end to tighten up the spreads, or to cut premiums. Traders could take in a fair amount of premium, and the spreads were reasonable. A good market maker could make a comfortable amount of money in that market.

That isn’t to say that there wasn’t innovation, and competition, in the markets.

Traders who started trading fifteen years ago remember being told stories of the early market innovators in Chicago, the traders who came in and figured out how it should be done, in a big, impressive way. One trader recounted the story of traders who were legends when he first stepped on the floor:

The Board of Trade trades soybeans, soy oil and soy meal – it’s called the crush, because you crush soybeans and make oil and meal. So intuitively it makes sense that one price should be related to another. If soybeans are going higher, maybe oil and meal should be going higher as well, or there maybe be supply issues over short durations that will impact it. There’s a group of guys who, they weren’t that old at the time, they’re legends now, who were legends when I got on the floor. They watched soybeans go limit

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up 28 and for some reason, soybean oil or meal or both were just going to the ground. And the four or five of them got together and said, this just doesn’t make any sense. So they said, let’s do this together, let’s take the other side of this, and they sold a bunch of soybeans, and they bought a bunch of oil, they bought a bunch of meal, and sure enough, it came into line, and they made a lifetime’s worth of money.

The markets were still young enough that a smart trader could discover important relationships that had been overlooked, and come up with trades that no one else had considered or anticipated. Another legend recognized a basic relationship between prices in the options

There’s another guy who – in the early days of options, it didn’t occur to anybody that if you bought one strike, let’s say five dollar wide, if you bought a forty-five dollar call, sold two fifty dollar calls, and bought a fifty-five dollar call, that the most it can be worth is five, the least it can be worth is zero. It’s a butterfly. And one guy in particular saw these things trade, and realized that if he bought these butterflies for a credit, he was locking in huge amounts of money and never had to get out. So all of the sudden there’s another guy innovating in the marketplace.

As traders innovated, they got smarter, and the competition intensified a bit. Traders gradually got smarter in general, and so did customers. The process, however, was a long-term one, muted a bit by the generous flow of speculative, and not always smart, money.

28 There are rules limiting how high or low prices can go relative to the opening price of certain products during a single trading session; when the price reaches the limit, trading is stopped, which is called going ‘limit up’ or ‘limit down’

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As the markets gradually matured in the United States, newly established exchanges in London and Europe beckoned to some. A trader who considered leaving

Chicago for opportunities abroad recalls that,

Ten years ago there were immature options markets all across Europe and in London, but you had a ton of money in London, as the world’s financial capital. So you had demand for trading these products, and you had very few people who knew how to price options and manage the resulting risk. And you had a pool of people in Chicago who were getting smarter and smarter. The pools got bigger, but if you have ten smart guys in one place, and only two in another, people migrate. There wasn’t nearly as much competition there.

In some cases, traders were drawn to the new markets out of sense of opportunity, for a change of pace or scenery, for the financial rewards or for the experience of being a part of a new enterprise. In other cases, there were pitched battles between locals, each trying to outdo the other’s price. When there was a loser, and there were losers, he often took off across the pond to recover and recoup. Market makers who began trading in London and Europe found that the traders weren’t very savvy and the customers were even less so, such that trades that were routinely performed in the United States were a novelty.

Traders who traded in Europe were surprised to find, for example, that there were no roll markets. When a customer wanted to close a contract with a near term expiration date, and open a contract with a more distant expiration date, there was no established market.

Instead, according to one trader, “if the customer was going to have to get out of their underlying exposure when the month was about to expire, they ended up having to cross

189 the bid-ask spread four times 29 , just to get that roll market.” Without a roll market, the customer was forced to pay far more for a trade that was minimally costly in the markets in Chicago. The traders took their ability and expertise with them, and gradually the markets began to mature. At this point, however, London and the European markets were but a speck in the rear-view mirror of the Chicago exchanges. The exchanges were comfortable partnerships, which existed to facilitate the brokerage and trading of their members. The Chicago exchanges were the undisputed volume leaders on every front, and no one saw any reason to doubt that they would continue to be the leaders for the foreseeable future.

The present

A great deal has changed in the ensuing fifteen, ten, even five years, beginning with the way a trade is made. The order is conveyed from the customer to the broker, and from the broker to the floor broker. The broker exposes the order to the crowd; in some pits, the traders still look to their sheets. In an increasing number of pits, the market maker looks to his small, computerized tablet with a touch-screen. As one trader describes his handheld,

It’s dynamic, and the values change with every tick in the futures. It’s got a data feed – it’s all technology. You can have it say volatilities, calls, puts, strikes, month, deltas 30

29 A crossed market is one in which the bid price (price to buy) of a contract is greater than the ask price (price to sell). 30 Delta is the change in the price of an option for a given change in the price of the underlying instrument in the Black-Scholes pricing model.

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for each, it allows you to look at as many options as possible. If you’re curious about volatilities, you can press a button on the screen, and it’ll enhance the view. You can open a little spread box, where you can enter several legs to a spread. Let’s say there’s three options involved in a spread, it will sum for you how much vega 31 and volatility exposure, how much vega, or decay, is going to occur every night, how much underlying exposure there is, things like that. And it’ll all be in this little box. It’ll all be in this little box, and you can close the box, and go back to making markets, and then say, what about that spread, and you hit the box, and you have the value instantaneously.

It’s a world of difference, from the sheets to the computer. A trader who wants to know how a trade will affect his position, how to price it, how to hedge it, does not have to improvise, use stale information, or count on his intuition. If he has a question, he need only consult his computer, which will give him up-to-date, complete information nearly instantaneously 32 . No options pricing theory is perfect (or if it is, whoever is trading it isn’t telling anyone else about it), but between theory and profits used to lie a series of technological challenges, like having up-to-date information, being able to update a position, being able to process the extraordinary amount of calculation that pricing and hedging an option both generates and requires. With the advent of the hand-held with a data feed, a trader can calculate his position moment-to-moment, with a level of precision unheard of until very recently. When the broker calls out an order, the market maker can process the information that allows him to respond with a market that he is very confident

31 Vega is the change in the price of an option for a given percentage change in the volatility of the underling instrument in the Black-Scholes model. It is also referred to by some traders as tau. 32 See Knorr Cetina for a discussion of the human-technology interface in financial markets. Knorr Cetina, Karin 1997 Sociality with Objects: Social Relations in Postsocial Knowledge Societies. Theory, Culture and Society 14:1-30.

191 of – again, within the vagaries that accompany any option trading, regardless of how technologically enhanced. On the floor, as one trader describes the situation,

In some markets, you have probably 150 strikes each month, calls and puts, and then you’re going out on a term structure all the way out almost three years, so you’ve got 1,000 options. So a broker can ask for one of those 1,000 options and within a couple of seconds get a market that is a reasonably consensus market, that has been tightened up by one or more parties, that has liquidity up to a thousand options.

The handheld means that a trader who had to be on top of every one of those thousand options in his head and on his sheets can now entrust much of that vigilance to his handheld. He doesn’t have to wonder how his position is going to be affected – he need only input the relevant data, and he is presented with the answer. No need to run upstairs and run new sheets after a fast market – the handheld has kept up. Changes in technology also mean that traders who are hedging in the futures can input their orders directly into the electronic systems, allowing them to hedge more rapidly. In many cases, the order is carded up on screen – the broker exposes the order, the traders call out their bids and offers, the broker verbally agrees, and the trade is sent to the trader’s handheld, where he confirms it. The pit has undergone a technological transformation, and all in a relatively short period of time.

The direct technological changes are not the only ones affecting market makers in options. They are finding that they are essentially being paid less to make markets, that the spread is getting smaller, that premiums are dropping, and their margins are smaller in

192 general. Traders who thought of themselves primarily as market makers for many years, now regard themselves as risk managers who trade. As one trader put it,

You don’t care about risk management as much when you are taking in more margin. But now the trades that you don’t make sometimes are vastly more important than the trades you do. If you weren’t a reasonable risk manager, you got killed because you just didn’t stay out of the way, you didn’t manage your risk. You didn’t make the corresponding trades that you needed to make to be able to manage risk.

When a customer comes to the market seeking to offset risk, and a trader takes on that risk, he needs to be able to manage it – but he is paid to take on that risk. For a long time, traders felt that they were getting paid enough to manage that risk, in the form of the price of the option. Now, it’s not as clear that that’s the case. Options are a form of insurance, insuring the user against what could be termed damage to a position, a portfolio, whatever financial situation the customer would like to protect against harm. A trader compared options and insurance very directly, saying,

Like a lot of things, my margins are a lot smaller. When you had wider markets, you took in more insurance premium, for lack of a better word, so you could withstand an occasional hurricane. Well, in these markets, where you are taking in a lot less insurance premium, a storm means a lot more than it used to, you can’t withstand it, and so therefore you’re not going to hold the positions you used to hold before.

That means that a trader who might have aggressively sold puts, counting on charging a larger premium, isn’t going to be able to charge the premium, and if he is smart, isn’t going to be selling the puts. Not surprisingly, market makers regard the shrinking

193 premiums with chagrin; as one trader observed, “We’re the only insurance sellers in the world whose premiums have come down, instead of going higher. In other words, the insurance we sell, we take in less money to do it that we ever have in the last ten or fifteen years.” In a sense, it has become much riskier to be a risk manager. Whatever risk inheres to a given trade, it is magnified by the general trend toward smaller spread and smaller premiums.

There are a number of reasons for the pressure on spreads and premiums, among them the development of new technologies – but not the ones that might appear the logical sources of the pressure. The electronic systems, the ECNs, are not the primary force cutting margins. Advocates of the systems argue that they cut overhead, and thus reduce fees paid by users. But options traders, most of who trade in markets primarily utilized by institutional customer – banks, hedge funds and the like – have not found their customers to be, at least at this point, price sensitive. As one trader in an institutional product observed,

In the past, we would disseminate tighter markets, but our institutional customers want to know where they can get 5,000, not where they can get 300 done. And we’re tighter than anything you could get in a mini product. And not only tighter, it’s faster. Without that, the big customers won’t be nearly as happy, and you won’t get nearly as much done.

For these market makers, there may be a day when they face the kind of pressure that the traders who are trading retail products face, but for the moment, they are still valued for

194 their collective skill. Their service is not yet evaluated simply as a price point. As another trader observed,

Other products are more completely utilized by retail sized customers, therefore they would rather see represented a tighter ten-up market. You see that all over the floor, you see that all over the electronic exchanges. To a customer who wants to do 1,000, they don’t care that it’s a dime wide, ten up. They want to know where the 1,000 is coming from, and they generally want it at one price.

The pressure, then, on spreads and premiums and margins, then, is not coming from the customers, or at least not primarily from the customers, and it is not coming from the electronic exchanges, at least not at this point. From whence, then, is it coming?

The answer seems to be – everyone is getting smarter. And the new technologies mean that even the people who aren’t that smart have access to the packaged intelligence of others. 33 The first source of pressure is smarter money coming to the table. As one trader recounted ruefully,

Here’s the problem. Over the last fifteen years, the ones that are still around are around because they made money. The guys that lost money are gone. So the people who are still involved, in terms of the long-term speculation, they’re really good at what they do. The reality is that these guys are still in business because they’re very smart. So the free money, a bunch of people just tossing money around, was different. There are a lot of speculative money being tossed all over the place, but it’s not like there was substantial risk. I know guys who made and lost a lot of

33 This is a situation somewhat akin to the distributed cognition described by Buenza and Stark in their studies of institutional trading floors. See Buenza, Daniel, and David Stark 2003 The Organization of Responsiveness. Socio-Economic Review 1:135-164Buenza, Daniel, and David Stark 2004a How to Recognize Opportunities: Heterarchical Search in a Trading Room. In The Sociology of Financial Markets. K. Knorr Cetina and A. Preda, eds. Oxford: Oxford University Press.

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money. They didn’t just make it, they lost it too, because the smart people who hedged their risk stuck it to the guys down on the floor.

So the customers who would come into the market without a sense of what they were doing, without a sense of how the options should be priced to reflect their value, were willing to make trades that more sophisticated customers weren’t going to be doing. And as the customers got more sophisticated, they hedged their risk – with market makers who were getting sophisticated at the same time. But if the customer was a few steps ahead of the market maker, the market maker lost money – and both customers and market makers fell away, leaving the smart customers to trade with the smart market makers, but both operating with thinner margins.

Perhaps more important, however, than the increasing sophistication of the customers is the increasing sophistication of the market makers. It is possible that the increasing sophistication among both customers and market makers has its primary source in the advances in technology that have occurred not so much in terms of ways that orders are processed, but in the way that orders are arrived at – the calculation that takes place as traders look for arbitrage opportunities, for mispriced options, for better hedging strategies, for all of the possible factors that give rise to a profitable trade or better yet, series of trades. As one trader outlined the situation,

If you’re used to doing one thing the same way over and over again, and you have enough capital to support that, that’s great, but as the world becomes more sophisticated, the tools you use to interact with it are required to become more sophisticated. If you are in a wired world, you have an incredible selection from vendors, if you’re not using

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proprietary systems. There are a number of people to choose from to license software from, if you don’t choose to take on the expensive and formidable task of developing it yourself.

Trading software and trading systems have been around for a long time; what has changed is that developers and users can draw on increasing amounts of historical data, experience, and computing power to create and evaluate their systems, and they can put more and more of their knowledge in the hands of users. In the early days of systems development, one could have a great idea, but not have the means to test it. Now, with increased computing power, one can run simulations that test almost every market condition possible, and then some. Once one has developed a reasonable system, it is also easier to get it into the hands of users. The skills that once distinguished one trader from another, like intuition for the market, the ability to improvise, to think on one’s feet, are becoming less valuable. Instead, one finds that the newer technologies elide the differences between market makers, such that, as a trader explained,

Now you have people with an electronic hand-held computer, and dynamic values, changing all the time, changes in the skew and volatility. You can have a relatively dumb person say, I’m two ticks under bid, I’m two ticks over bid, and all that requires you to do is be able to trade. Their other options in life may not be that great, so they’re happy to stand down there and make sixty grand a year. People entering the business now – you still have people who want to rise, and do different things, but you also have people who are just standing there making check.

That is, a trader with a hand-held that lets him simply input a fairly limited amount of data as the market changes around him can check on the parameters of a trade, and how

197 to hedge it, and when a bid is made, he simply makes a bid that is better by two ticks 34 , thereby forcing others who want to be in on the trade to tighten up their markets, or makes an offer that is better by two ticks, again forcing the competing market makers to tighten their markets. The trader then enters the trade in his computer, which tells him how to hedge the resulting position. All the trader needs to do is enter a few data points and carry out the instructions from his handheld. It is largely routine labor; as another trader observed, “that, to me, is not why I went into this business.”

The advances in technology have meant that the level of competition has increased. While the guys standing there making check might not be very smart, their handhelds are extremely intelligent. That means that, “the prices are tight, and everybody’s level of sophistication is substantially higher than it was fifteen years ago.

Everybody has access to these canned, off-the-shelf valuation programs that are legitimate and give you a decent idea of what’s value.” A trader can no longer boldly make a market and expect it to fly. Now, markets are tightened and then tightened again.

Prices are pushed down, and then down again, and market makers operate on the slimmest of margins. Traders find that they are carrying more and more risk, with less and less of a cushion against the possibility of disaster. At one level, they are required to have more skill than ever, as risk management becomes a tightrope walk. At another level, that skill is becoming a commodity, such that the tools that they forged though experience in the pits are now available to anyone who can afford a software program

34 A tick is the smallest possible change in price in a given contract; it is usually a percentage or a fraction of a percentage of the price of the contract.

198 and a computer. The opportunities that existed in a less mature market are quickly disappearing, if they have not already disappeared, and now battles are being fought at the level of the dime, or even the nickel.

Options for the future

If handheld computers are the threat of the moment, the electronic exchanges aren’t far behind. The European exchanges that were immature ten or fifteen years ago have surged from behind, taking over top volume spots from each other and from the

Chicago exchanges. Not only have these exchanges taken over volume, they’ve done it in part by being completely electronic, either because they never had a trading floor or because they shuttered it. Without the overhead costs borne by the exchanges that are still operating trading floors, they are able to cut costs, and thus cut fees, driving trading fees down across the board. As the volume moves from floors to screens, the traders go to work every day on increasingly empty trading floors, the cavernous stadium-size rooms beginning to echo a bit, the small colorful clumps of trading coats dwarfed by the enormous, empty gray-and-black expanse of empty floor surrounded by equally empty trading desks. They do not have to stretch to imagine what their future might look like.

Market makers are well aware that though their customers still value the service provided by the market makers in the pits, though that could change at any point. For the time being, the traders are comfortable that they will continue to be able to provide a

199 level of depth and liquidity that is unavailable in an electronic market. As one trader outlined the situation,

If you asked people to quote 1,000 options in the same product, there’s not enough bandwidth to do it. Even if there were enough bandwidth to have everybody quoting it, you’re going to get markets that are crossed, which is fine, tighten them up, but then you’re going to get crossed markets, which is fine, tighten them up, but then you’re going to get them a hundred up, as opposed to a thousand up.

At least for the time being, the pit can get it done a thousand up – that is, they can collectively fill an order for 1,000 options. On the screen, in part due to the possibility that a ‘stale’ quote will be hit – that a quote that is no longer current because of a change in the underlying will still result in a trade – quotes are for smaller quantities, amounts small enough that having a stale quote taken out by an order will not result in outsize harm. There are other limitations to electronic systems; as one trader reported, “In an electronic exchange, the spread 35 utilities are very, very weak. Unless you specifically ask for a specific spread, all that the spread utility is doing is taking a bid from one and an offer from another and saying, okay, that’s the spread price. In the pit you can get way tighter.” The traders make these observations, however, with a sense of a certain amount of inevitability – while there are features of the electronic systems that are weak, they know that more and more of the volume is being transacted on them, even a great deal of that volume is retail, as opposed to institutional.

35 In this context, the spread is the purchase of one option and the sale of another option of the same variety on the same underlying instrument.

200

Market makers know that at least part of what is keeping them on the floor is the preference of the customers, and if the customers’ preferences change, the situation could suddenly be very different. They are counting on the customer to have discriminating tastes, to be sensitive to gradations of quality. In the pit, they argue, they can provide the customer a higher level of service. In the pit,

There are a thousand options you can quote, and you have maybe fifty market making entities, and maybe with a total of one hundred market makers in a pit. What you’ve got then is a bandwidth requirement that is astronomical. It’s a commodity – will it be feasible somewhere down the line to provide all the bandwidth needed to enable any liquidity provider who wants to, to come quote every option they want, updating it as often as they want, every tenth of a second, every fifth of a second, whatever it takes, because the futures are moving around that fast? Well then yeah, then our day is done, probably. But, until that day comes, if you say you can only update an option every two seconds because the bandwidth doesn’t exist to be able to quote all thousand by all providers, then you are providing the customer with a disservice.

The risk, of course, is that the customer may cease to care even before the day the bandwidth is available. And, once the bandwidth is available, many market makers don’t see a role for themselves any more. Bandwidth isn’t the only commodity – increasingly, market making is becoming a commodity. With the advent of the decently accurate off- the-shelf programs, the skills that differentiated one trader from another become less apparent and less important. As prices are driven down, price ceases to differentiate providers. And experience in the futures markets suggest that the volume of trade on electronic systems makes it possible to simply bypass the market maker altogether in

201 some products. Market making itself has become a liquid commodity, such that it is possible that the future of liquidity might include only the standardized product and the continuous market.

Traders point out, however, that there is a cautionary tale that lies between floor trade as it continues to exist at the moment, and the nearly perfectly liquid market promised by the electronic trade in futures. If liquidity is at one end of a spectrum of market conditions, then appraisal is at the other end, a market in which nothing is fully commensurate with anything else. 36 While the experiences of the exchanges in Europe would seem to point to a world in which liquidity is abundant, that is not the whole story.

When considering their possible futures, market makers in the options pits point to another dimension of the shift from floor to screen. In Europe, they argue, the options markets, while transitioning to electronic systems, have become call-around markets, over-the-counter style phone markets. As one trader describes them,

The markets have gone to being call-around markets. They call them call-around markets because you have a customer who wants to do 2,000. They know that every spineless jelly-back hiding behind a computer screen is able to just pick and choose, and they can’t get a thousand up market without somebody just cherry-picking the whole thing. What they do is, they call all their biggest market makers and say, “hey, I’m trying to do 2,000 of these, one way or another,” and they don’t even tell them which way, “what’s your market?” And what happens is that a market maker, a

36 See Carruthers and Stinchcombe, and Espeland. Carruthers, Bruce G., and Arthur L. Stinchcombe 1999 The Social Structure of Liquidity: Flexibility, Markets and States. Theory and Society 28(3):353-382. Espeland, Wendy Nelson, and Mitchell L. Stevens 1998 Commensuration as a Social Process. Annual Review of Sociology 24:313-343.

202

liquidity provider , has to pay, and then they get pre- knowledge of this trade – “okay, it’s going up at this time, we all agree to trade.” The people who are really hurt by this are all the smaller liquidity providers who had no knowledge of this trade – the bid goes up at whatever price, and offer goes out at whatever price, instantaneously, the other side shows up, boom, trade’s over, and it’s not a fair playing field.

As this description suggests, what has happened in Europe is that the buyer and seller are usually brought together by a thinly capitalized “under the counter” broker who has both the customer and the market maker on his books, and who charges a commission to both sides – to both the customer and to the market. One the parties agree to a price, the broker then crosses the trades on the screen at a point at which the trade is likely to go through without being affected by other trading activity. This system is hardly to anyone’s advantage; to market makers, it is particularly odious because, rather than being compensated for the service that they provide, they are being forced to pay for the privilege of providing liquidity. Under circumstances in which a market maker must pay in order to guarantee order flow, traders argue, fewer and fewer entities will be interested in providing liquidity, and the remaining liquidity is concentrated in fewer and fewer hands. Once the liquidity is concentrated in fewer hands, the market itself is more susceptible to shocks.

It is possible, then, that the craft of market making may go the way of many a craft, altered by various technologies such that it becomes a standardized, homogenized commodity, distinguishable primarily by price, rather than by a host of incommensurable features. Certainly the trend would appear to be in that direction, spurred by the

203 development of ever more sophisticated software and hardware, software and hardware that can virtually think for the market maker, leaving him simply acting out the steps.

Electronic exchanges appear to be the wave of the present, and almost certainly the immediate future. At the same time, there is the curious case of the call-around market, one that suggests that even as liquidity appears to be ascendant, it is none the less the product of negotiation, a social achievement, and never inevitable.

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Chapter 7: Conclusion: Futures and Options

The market makers that I interviewed and observed demonstrated that making markets is far from a ‘natural’ or ‘inevitable’ process. Working with them, if became clear that they are engaged in a constant process of negotiation and re-negotiation, an ongoing process of bringing markets into being. Among the many challenges that they faced, four stood out – the challenge of maintain behavioral standards, the challenge of managing risk, the challenge of self-formation, and the challenge of managing technological change.

The first challenge was that of maintaining behavioral standards. Trading is a risky business (literally), and those risks can arise in even a single aspect of a trade. A central risk is the risk that one’s trading partners are not trustworthy. If a market maker enters a trade, which in a busy pit can be as often as once every twenty seconds for several hours at a time, he has to be sure that his trading partner is going to live up to his end of the bargain. A market maker holds a portfolio of his trades; he may sell a Google option, then turn around and buy an offsetting Google option. He then adjusts his portfolio accordingly, buying and selling on the basis of his previous trades. He may sell

1,000 Google put options, and then buy 1,000 Google put options. When trading in the pit is fast and furious, mistakes can happen – he could have misheard the trade, or entered it wrong on his trading card. It may have been signaled, and he could have misread the signal. Traders understand that errors occur, and have procedures for resolving them.

However, there are also traders who develop reputations for leaning on errors – for

205 making ‘mistakes’ that always go their way, only pleading errors on their losing trades.

In those cases, the pit community will censure the offending trader by limiting the number and size of trades he gets, making sure he is not trading enough to cause outsize harm to anyone who trades with him. If he shapes up, he is given gradually larger trades until he has proven himself. If he does not shape up, he is kept at an absolute minimum number of trades. As one trader put it, even the scumbags bring their ethics into line for the sake of their business.

The second challenge is the challenge of practicing at risk. Even the best trader, the most skilled risk manager, cannot ever know how much he actually has at risk. There is always the chance of what traders call an “n standard deviation” event, or the event no one could ever have planned for. Making markets is not just about what happens while everything is going relatively smoothly – it’s also about what happens when nothing at all is going as planned. For the market maker who has just sold a customer 1,000 Google put options, at face value it’s a good trade – Google stock is relatively predictable, particularly if the option is a near-term option. But, in the event that Silicon Valley is hit with a once-in-a-century, 7 on the Richter scale earthquake, all bets are off.

With risks like that, I was surprised when traders referred to what they did not only as work, but more frequently as play, and as a game. (Traders do regard what they do as a form of physical labor, however – long hours on their feet, few bathroom breaks, wear and tear on knees and backs and throats). Many of the traders did come from game- playing backgrounds, often sports like football, basketball and baseball, and also from

206 backgrounds in games as diverse as bridge, chess and scrabble. All this despite the oft- repeated statement, “trading isn’t a team sport.” However, across the board, they were skilled and experienced gamblers. Some had gambled in the past, some had considered becoming professional gamblers, and some headed for the casinos as soon as the floor closed on Friday, and as far as I could tell, didn’t return until it reopened Monday morning. They were not, however, the problem gamblers that I had been warned they would be. Far from it, they were serious students of the game, most often poker. It became apparent as they discussed their work that trading and gambling shared two important features, money and risk, and gambling was one of the few places that one’s could hone one’s risk management skills off of the floor. Risk management, then, was a skill that was constantly practiced and honed.

The third challenge was that of self-management. Market makers are not born, they’re made, and it’s a long process. New traders have usually served in an apprenticeship role, such as clerk or broker’s assistant, and in that job they will have learned the mechanics of trading – what kinds of orders there are, what the hand signals are, and so on. However, as I was told over and over again, none of that truly prepares a trader for the moment he first steps into a pit and makes his first trade. As one trader put it succinctly, “the reality is that the first time you lose $1,000, you feel sick to your stomach. First time you lose $10,000, you feel sicker, and it takes a long time to program yourself the proper way to handle the gains and losses.” For young traders, there is a raft of advice, advice so standard that it has been written up in lists of rules on the backs of

207 cards handed out by brokerage firms. The rules are thing like, “never add to a bad trade.”

“Once you have a profit on a trade, don’t let it become a loss.” “Money is made by being in the pit, not by being out of the pit.” “Work each trade. Don’t lay back.” And, perhaps most tellingly, “use discomfort to your advantage. It may never go away,” and “practice your trading. The first hundred trades are the hardest.” Novice traders are exhorted to be disciplined – to develop the traits and dispositions that are thought to lead to success in trading, dispositions like working hard and being able to take gains and losses. For more veteran traders – and given the rate at which traders fail, in some pits a market maker can be considered a veteran after about four years – the early training becomes tempered by experience, both his own experience in the pit, developing a sense of what works – and doesn’t work – for him, and that of other’s experiences. For all that a market maker is trained – and even the most veteran traders said they were still learning – as they gained experience, they also acknowledged the role of luck. For veteran traders, self-formation became the ability not only, or not simply, to make money, but also the ability to keep a sense of one’s own worth even as one’s monetary worth see-sawed wildly. As one trader put it, to survive in trading, you have to realize that you are not a loser, even if you are losing money.

The final challenge market makers have faced is two-fold, and it is the challenge of changing technology. There were two broad technological changes that occurred in the course of my fieldwork, technological changes that were facilitated by, and facilitated, some institutional changes. The first change to affect market makers was the

208 use of hand-held computers in the pits; at first simple handhelds that increasing replaced trading cards in the pits, making it possible to send and record trades electronically. As technology became more sophisticated, however, it became possible to bring small computers into the pit, and use them to access and process market data. For futures traders, this made little difference - most futures pricing is sort of a seat-of-pants operation. For options traders, however, it makes a huge difference, since options pricing is a sophisticated affair that makes use of stochastic calculus. For a long time, the ability to trade options was based on some mathematical modeling, skill, experience, and a certain intuition, or feel, for the market. Those who could put together advanced computer modeling programs and extensive data feeds had a real advantage over those who could not. With the advent of the hand-held computer, that expertise has been largely packaged, and is available off-the-shelf to anyone who wants to pay for it. That has dramatically altered the market for market makers – now, anyone with the capital can put a barely average trader in the pit armed with a handheld and expect to make decent money. Market making has been dramatically standardized, to the dismay of those who were trained as financial craftsman and regard the army of salaried handheld users as no better than assembly-line workers.

At the same time, the bulk of the trade in futures, and much of the retail (as opposed to institutional) trade in options has moved from the exchange trading floors to electronic trade networks. Screen trading, as it is called, has dramatically changed the landscape, not only in terms of the mechanics of a trade, moving it from the environment

209 of the exchange floor to the environment of the screen, it has dramatically changed the way that the participants relate to one another. Many commentators have focused on the changing physical environment of trade, but the change in environment, as dramatic as it has been, obscures a more basic shift. On the floor, the trade comes to the pit via a broker, and is made with a market maker. On the screen, in many cases the market maker is bypassed in favor of a first-in, first-out matching algorithm. What this means is that when a customer puts in an order to buy a Google put option, he or she is matched with a seller of a Google put option. In a market in which people are constantly trading – and it appears, according to market makers, that once people are in an electronic environment they trade thirty to forty percent more than they would in a floor or open-outcry environment – it is possible to simply match trades, without the services of a market maker. The market for market makers, then, is significantly altered. Because of the complexity of institutional options trading, the bulk of the volume is still being transacted on the trading floor, with market makers. But even the most ardent fans of the floor can foresee a day when improvements in bandwidth capacity make electronic trading of institutional options possible. All may not be lost, however – though electronic trading enthusiasts have predicted that all markets will go to simple matching algorithms, it has become evident that not all products have the volume of trade to make that possible, so some products have gone to a combination of matching and market makers.

As this project drew to a close, it became apparent that the contexts in which I had worked had undergone some significant shifts. The context of global derivatives trading

210 has continued its rapid growth; though the fundamental instruments have not changed much, the rate at which they are traded has. The city of Chicago has changed – with the acquisition of the Board of Trade by the Chicago Mercantile Exchange, the city is down from three derivatives exchanges to two, though it has regained its place as home to the world’s largest exchange. It appears likely that at some point the new CME Group will set its sights on acquiring the Chicago Board Options Exchange as well.

The floor has given way to the screen in most products, and the pits are gradually becoming museum pieces. The world of market makers is giving way to matching algorithms. However, the market makers with whom I worked felt that the story was far from over. While the screens appear to handle trades effortlessly, bringing into being something as close as possible to the natural, freely running market of the trope, traders point out that the reality may be more tenuous than is apparent. Machines do not make markets, people do, and while the neat screens of the electronic markets appear to be efficient and transparent, they say surprisingly little about what is happening behind them. As the market makers I worked with cautioned, changing markets can change in many directions. In Europe, the move to electronic markets has brought about not more efficient options markets, but less efficient options markets, ones in which a broker is paid by both sides of a transaction to arrange a trade between a customer and a market maker, adding a layer of intermediation rather than removing one. The trade takes place on the screen, but only following extensive machinations behind the scenes.

211

As I noted at the beginning of the dissertation, I undertook my research in response to the idea that markets are nearly effortless states of nature, that they arise and operate wherever they can exist ‘unfettered.’ I asked how they work, how they arise, and how they are maintained. In the course of my research with market makers, it became clear that markets are brought about through and maintained through a process of constant effort, of nearly continuous negotiation and re-negotiation on the part of the participants. The market makers with whom I worked dealt with issues of trust, issues of risk, issues of self-formation and issues of technological change in making and maintaining their markets. Their work is a testament to the fact that markets are made, not born.

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