A Tale of Three Traders (Part 1)

02/11/2008 12:00 am EST

Focus: STRATEGIES

Timothy Morge

President, MarketGeometry.com

The financial news has been filled lately with talk about the French rogue trader that lost a record US$7 billion dollars. Many analysts have weighed in with their opinion that this type of event is unusual, that this is an isolated case. While it's true the size of the loss associated with this event makes it a bit unusual, what this trader did was hardly unusual, and you might be surprised when I say that many individual traders possess the same weaknesses and character flaws that allowed this trader to lose this much money speculating for the French Bank Societe Generale. How do I know it's a much more common happening than the press and officials would have you believe? Read on and I'll tell you about three such events that happened while I was managing professional traders at US Institutions [Note: There were many more such incidents I witnessed over the years at the institutions I worked at, and that the names and circumstances given here were changed enough in the telling that no one and no institution could be recognized, nor could their reputation be damaged.]

Karl was a well-known currency trader. I had made many cash currency trades with him over the phone before we were both working at the same US bank. I'll say one thing about Karl: He could make money faster than any trader I have ever known, before or since. And he loved to trade. In the early 1980's, before cell phones were invented, Karl had a two-line phone installed in each of his bathrooms at home so he wouldn't miss a call from a trader around the world if he were in the bathroom making a trade on the first phone line! Karl was a trading junkie, pure and simple. He lived to trade.

Our manager was away from the trading room one Monday morning, visiting the head office for the entire week. There was no need to name anyone to take his place while he was gone. Though our manager was the nicest guy in the world, he gave us all strict intraday stop-loss limits and overnight position and stop-loss limits and made it clear that if they were ever violated, we would be fired with no questions asked. He had a black binder at the end of the trading desk and you were expected to write down each day's profit or loss and your overnight position before you left for the day. And of course, then you had to sign your name next to what you had written.

The markets that day were completely crazy. Several hours into the trading day, one of the marketers motioned for me to come over to speak with her. I assumed she had a client on the line that needed advice or wanted to speak to me personally. Instead, with a hushed voice she told me to go back to my desk, wait a few minutes, and then get up and walk into our manager's office, close the door behind me and call him at the head office. When she recognized the look of puzzlement on my face, she told me quietly not to tell anyone what I was doing.

When my manager answered the phone, he got right to the point. He asked me if I had any idea what Karl's position size was at the moment. Karl sat across from me but the desk was noisy enough that unless you made an effort to ask someone what he or she were doing in the market, it wasn't particularly easy to know—especially if you were busy trading your own position. I told my manager that I honestly had no idea what Karl's position size was. Then he asked if Karl was having a good or bad day. Glancing out the window, I could see that Karl was hunched over the desk, smoking his fiftieth or sixtieth cigarette for the morning, with a phone stuck to his ear. This was how Karl looked throughout the trading day. Again, I told him I really didn't know.

My manager took a long, deep breath and then paused, and told me that he had just gotten a call from one of Karl's cash currency brokers. The broker told my manager that by his estimation, Karl was down several million dollars and was probably carrying a position that was well over ten times his intraday limit. At that point in my career, my intraday loss limit was $100,000 and I assumed Karl's limit was similar in size. My intraday position limit was US$20 million dollars and again, I assumed Karl had a similar position limit. If this broker was telling the truth, Karl was well over his position and loss limits.

More tomorrow in part 2. Part 2 | Part 3 | Part 4  | Part 5

Timothy Morge
tmorge@sbcglobal.net
www.medianline.com
www.marketgeometry.com

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