This interview was the result of a telephone call between Manny and I. Manny ran a $1 billion global macro hedge fund and is now a full time private investor.
Hi Manny, thanks for coming on, why don’t we start by telling us a little about yourself?
OK, I’ll start from when I went to uni. I went to City university and studied Banking and International Finance. I had a scholarship from Sainsbury’s (I ran a department at weekends and the nightshift over Christmas at the Liverpool Road branch in Islington) and I had a scholarship from BCCI based on my A-level grades. I didn’t get the BCCI scholarship in my final year as they blew up!
I basically did the degree because I wanted a decent job afterwards – I didn’t enjoy the course at all!
But I did get a good job afterwards, I joined the graduate training program at one of the biggest European investment banks, and I started working on the FX spot desk three weeks before Sterling came out of the ERM as the assistant to the Sterling/Mark trader.
What’s the ERM?
You remember the exchange rate mechanism? European FX rates were in bands, and they had to stay in these bands. Sterling/Deutschmark was in a range, there was the French Franc and the Deutschmark in the range, and the bottom of the range for Sterling/Deutschmark was 2.7780, so Sterling was not allowed to go through that rate; it was the floor of the band.
Well, that’s how exchange rate mechanisms used to work. The currencies had to stay in the band against each other. So, for Sterling to go through that band it would be Sterling weakening and going lower, and when Sterling came out of the ERM the interest rates went crazy that day. The band for Deutschmark/French Franc was 3.7303, so it couldn’t go above that, and Sterling/Deutschmark was down.
The French Franc and Sterling were weak Sterling came out of the exchange rate mechanism three weeks after I started working in the City on a foreign exchange desk, and basically the rule was that it could not come out of that range, but it did, it broke lower and that’s when the famous story of George Soros making money out of Sterling and the ERM happened.
The Bank of England and the government had an obligation to try and stop it going below that level. It was in unchartered territory because it wasn’t allowed to go below, and that day which was called Black Wednesday, was when the Bank of England came into the markets and was buying Sterling at 2.7780 against the Deutschmark, and they were buying it in £30,000,000 clips from the market.
I don’t know how many billions they bought that day, but then when four o’clock came and the civil servants went home, they pulled their bid, and guess what happened?
It crashed! So, during the day time when I started work that day, the interest rate in the UK was at 10%. Now this is before we had an independent central bank, because if you remember the first thing that the Labour government ever did, the first thing and best thing they ever did, the only good thing they ever did, was that Tony Blair on his first day made the Bank of England independent.
At this time the Bank of England wasn’t independent, and it was guided by the Chancellor of the Exchequer who told them what to do. We started the day at 10%, by lunchtime they’d moved the interest rate to 12%, to try to strengthen the currency, and by late afternoon they’d put the interest rate up to 15%.
And by the evening, Norman Lamont came on TV and said “Sterling is leaving the ERM” and that the interest rate was 9%. So, in the space of 12 hours, the interest rate went from 10%, 12%, 15%, then 9%. They’d basically given up in one day and let it go. Sterling came out of the ERM, Sterling against the Deutschmark went from 2.7780 down to 2.20 over the next 3 years and the weakened currency caused the UK economy to boom. That’s how I started in the market.That was my baptism of fire.Three weeks into my first job in the City I was the assistant to the Sterling/Deutschmark trader on one of the busiest spot desks in the world.
So, it wasn’t really a free market because it had a floor and you literally couldn’t sell below the floor?
You couldn’t sell below the floor because the Bank of England were there on the bid with unlimited amounts of money, until one day they weren’t!
Ah, now I see, so it wasn’t the same for every single currency, but for the pound.
It was the same for every European currency vs. any other European currency. They all had to trade within pre-determined bands.
This was before the Euro, right?
Right. The Euro came into existence on January 1st 1999, we’re talking before then, so each currency had their own central bank and their own monetary policy, and the UK had the Bank of England which was not independent, and was told what to do by Chancellor of the Exchequer
That’s weird to think that, to think they were bidding unlimited amount.
They couldn’t buy unlimited amounts of Sterling forever.
But in theory that’s what they were doing until they let it go.
Well look what happened a few years ago with the Swiss National Bank
Yeah, I remember reading about that.
Well, look what happened, look at the chart of Euro/Swiss or Dollar/Swiss. Euro/Swiss is better, look at that three years ago when it absolutely collapsed.
Loading it up now.
It went from 1.20 to 0.80
1.20 to .99 – that was end of day.
It went much lower intraday.
So, what exactly happened there? It was similar where the Swiss government said they wouldn’t support it?
Well no, that’s different because the Swiss Franc was rallying. So the SNB (Swiss National Bank), which is an independent central bank, can print more and then just keep selling that new money in the market to weaken the currency. The market didn’t care, they still sold the Euro and bought the Swiss Franc against it. In theory, the SNB could have kept the printing presses going indefinitely, but that in itself would cause huge money supply problems, so they stopped. The Bank of England stopped buying, the SNB stopped selling. Their currency strengthened. That was a very different market, a much more modern market. The CHF cross currency derivative market was crammed with barrier options. Barrier options are like a magnet where banks usually want them to knock out because banks have sold these options to end users, so they want them off their book and collect their premiums. Barriers act like big stop losses in the market. Big stop losses always get done because they’re a big target.
I can remember you telling me before that loads of traders and big firms went bust on that day.
Yes. Well you look literally two or three days after that day, West Ham lost their shirt sponsor. It was Alpari; they were bust and they removed their name from the front of their shirt three days after the Swiss Franc debacle.
Also that people were rushing outside to go to currency exchanges as well and buy Swiss Francs?
Yeah, because they have a lag!
So ten minutes later they were all wondering why everyone wanted to buy loads of Swiss Francs!
That was the biggest, biggest FX move that I’ve seen in my lifetime and in the shortest period of time. That’s not the one that’s wiped most people out though.
I don’t think so. I think Oct 1998 was much worse. Asian currencies imploded. Soros lost more money then than he made when Sterling came out of the ERM.
Was this when Nick Leeson brought Barings bank down?
No, Leeson was much earlier than that. This was just basically dollar yen collapsed 30 big figures in a day, and if you look at the chart of 1998 dollar yen, that tells you all you need to know.
What was the reason?
It started in 1997 when Thailand decided to no longer peg the THB to the USD. This caused SE Asian currencies to rapidly decline. By mid 1998, the emerging market tensions had spread to Russia and consequently the Ruble devalued and the Russians defaulted on their Government debt too. During this time, carry trades were very popular. The global markets borrowed in JPY ( at zero interest rate) and sold the JPY versus other currencies to pick up the carry (interest rate differential). In August 1998, USD/JPY was trading at 148.00. In one week in October ’98, it traded from 136.00 to 112.00! This huge unwind in carry trades caused many casualties, one of which being the hedge fund LTCM. Genius really did fail that day!
The thing that scares me about forex is that you need so much leverage. When you short a stock hypothetically your losses are unlimited, but you can always cover really. You’re not leveraging 200x or something insane like you do in forex. So probably there are people on that CHF rally who had to sell their houses and stuff, which I find really scary.
Well I find foreign exchange more orderly, because it’s 24 hours. The only time you can’t get out of a forex position from 10pm UK time on a Friday night when New York closes at 5 o’clock their time, and the market reopens at 7pm on Sunday evening, which is Auckland open. So you haven’t got long when the markets are shut on foreign exchange.
I still find that bizarre, and I suppose with crypto it’s literally 24/7.
Well it’s a currency.
Yeah, but with stocks the stock market closes.
I don’t like that. There’re positives and negatives but I do like the fact that there’s a 24 hour market. And FX – it has to be 24 hours, because of all these macro events all 24 hours. But say for example the market is shut and then you get the news about CAKE [Patisserie Valerie]. There’s no out.
Yeah, there’s no out.
There’s no out. There’s always an out in FX. You might not like it, but there’s some kind of out, which is going to hurt. But CAKE there’s no out, and then you don’t know what’s going on with your money for months, it comes out and you’re thinking am I going to get fifty pence or am I going to get nothing. There’s nothing like that on FX.
Well, that’s true, but you also use insane amounts of leverage.
But you have to use a lot of leverage to make any money. You’re looking at leverage and you’re looking at our markets. The markets we trade, stocks are regularly moving 10-15% a day. Foreign exchange used to move 1^ or 2% a day and these days even less.
It’s weird to get my head around, but it makes sense obviously. When things are 1% moves then you need to gear up.
Otherwise you really won’t make any money. but these black swan events where a currency moves ten percent-
Oh don’t say the black swan please, because you’re going to remind me of Naseem Taleb.
Why is that?
He wrote the book the Black Swan – I used to work with him. He’s more interested in intellectual glory than making P&L.
Well, there’s a guy that’s never made any money trading when I knew him. One of his books, Fooled by Randomness, talks about in the long run you can’t make money trading. Well if anyone should know its him!
Ah, well then it must be true!
His most famous book is the second one, the Black Swan book. What you’re talking about there and the one thing that is interesting about black swan events is that over time, especially since I started in the market and even before that, over the years there are more fat tail (black swan) events happening.
Which means that if you think of a normal distribution curve, you look at three significant figures – that should be about 1%, so these events that should happen 1% of the time, are actually happening more frequently.
Wing vol was underpriced. A lot of these 10 delta moves, we call it a 10 delta move, that is a very big move, something that should happen very rarely, are happening more often. I think it’s because there is a lot more noise now.
There’s a lot of fake liquidity now. That’s what it is. There are a lot of black boxes out there and there are a lot of banks electronic pricing systems that make the market look a lot deeper than it is, so you’re getting these gap moves.
I’ve noticed that on some of the SETS stocks you might go on the bid and some machine goes up in front of you, so you bid higher and somehow, it’s always one step ahead of you, even when you just click it appears. I don’t really think that it’s fair.
There’s so much money now in black box trading that people pay a premium to get their computer closer to the actual exchanges to be a few nanoseconds faster executing trades.
Yeah, there was a tunnel drilled through a mountain somewhere for that reason.
Fat pipes for the data, especially Chicago where there’s so many electronic exchanges.
Thankfully I don’t really have to deal with these black boxes and I can lose my money easily enough without these black boxes and HFT [High Frequency Trading] doing it for me!
I can remember once you told me about a story where you were down a massive amount and then you doubled up, what was that?
After 2 years of spot trading, I joined a North American investment bank and helped build a global currency options business for them. Six years later, I joined an investment bank to run their proprietary trading desk. Then from there I went on to run a $1 billion global macro hedge ,so that’s my background work wise. Doubled up, well there’s a story where one day I was down around $5 million dollars and I kept the position, and I added, and the next day I was up $9 million on the same position. That was an Aussie dollar versus the Kiwi dollar currency derivatives trade.
Did it have something to do with an earthquake? Somewhere where the damage wasn’t as bad?
I think you might be thinking about the earthquake in Auckland but that wasn’t the same time.
What was the big move there? $5 million offside?
It wasn’t such a big move, it was because I had a lot in it. I had a lot of barriers, it wasn’t necessarily that they moved tons, it’s because I had lots in it. My strategy is that I look for extremes where it’s gone too far; that doesn’t necessarily mean price but peoples’ attitudes as well. When I was doing forex it was all about sentiment. If sentiment has gone too much one way which has forced positioning, you can get a feel of how long or short the market is. In our market people are involved, or they’re not involved. In FX you can be involved long, not involved, or involved short, you don’t really get too many occasions where shorts are of the same magnitude as longs in stocks. Stock traders seems a lot less comfortable being short.
I think you’re right, but it’s hard to get the borrow.
This time with Dollar/Yen in 1998 it moved so much so quickly, that short dated vols, one week vol went to 70-80% which is unheard of, so I was putting strategies on which were basically a bounded risk way of selling short dated vol. The instrument I used was called a double no-touch option. Some people know them as bet options. I was very comfortable trading these complexed structures with binary payouts, as I had been involved in creating them in the mid 90s. Anyway, they worked because vols had overshot. In late 07, I took the opposite view on longer dated USD/JPY vol. I bought Dollar/Yen and Yen cross long dated volatility forward. i.e 1 year usd/jpy vol in 1 years time. This was called a forward vol agreement. The financial crisis had a huge impact on currency vols in 08. This trade made $35 million profit.
So, you’re basically looking for extremes and then for things to revert back to the mean?
That’s interesting – it’s a lot different to stocks.
We see it a lot, where we see the news, and the news is pretty bad, and the headline reads bad, but then you read in deeper you see it’s massively overshot. I think that’s where CR gets his bowls from, where people are thinking “That’s not actually that bad” and buying in and you see the price start turning up again.
I can remember one before that was pretty bad, I think in 2017, Provident Financial, FTSE 100, was down 80% in a day. It kept falling the next day, then at some point it turned and it did 100% from the low. It was great if you were in at the low but if you were holding then it was a write-off!
Something like that happened to me a few years ago since I’ve been trading my own money in stocks. It was around Christmas time 2016, and I was long 250,000 shares in Paysafe [EPIC: PAYS].
Ah yeah, that was the one that got bought out.
So I was long 250,000 shares, it’d been creeping a bit lower, from about four quid, it went down to about 370p, 380p maybe, then some spurious piece of research came out from a source that no one had ever heard of before, and the research was crap and it was a lie. It said the company was going to get hit hard because they make a lot of their money out of Chinese gambling sites and China are going to come down on foreigners being involved in China or something along those lines. And it was absolute bollocks. The share dropped, from the time I was having a coffee with my missus, the hour I was in Starbucks it went from about 360p to 240p, and I had quarter of a million shares. If you look at the end of day you won’t see the absolute low-
Wow, I’m looking at it now. That’s a huge move. That was in an hour?
It felt like an hour!
What did you do?
Kept it. And added. There I added, because I knew it was wrong. I knew the company was fundamentally strong, but when I got home to add, I could only get some in at 290p, it had already come back that much!
Did you have any stops on?
That’s good – typically you would’ve been stopped right at the low!
That’s some move. It reminds me a bit about Blue Prism [EPIC: PRSM] last year. I think some graduate wrote a piece about the company, nothing new, it was things everyone knew and everyone knew PRSM was shit anyway. He basically posted what people thought and people started selling. Obviously some short sold it, it was a massive ladder of stops, it went down 30% in a day, but then rallied and closed almost blue.
That is what we’re saying when we were saying about liquidity, it’s false liquidity that causes these fat tail moves.
Well, that must’ve been a scary day!
Yeah, whilst I was having a coffee I was down about £300,000 in an hour.
What made you quit FX and go into stocks by yourself?
Because demand has dropped off in foreign exchange, and regulation has killed it. Regulation has killed the forex market now.
There’s no prop trading in fx anymore. Very, very little.
Is that because it’s all black boxes now?
Well, banks won’t take the prop risk anymore and banks used to have lots of prop desks. It’s lost its shine as an asset class too; a lot of hedge funds have pulled out now or they still do it a bit but it’s part of the emerging economies book. Basically, a lot of macro funds have wound it in.
If you look at people like Brevan Howard, Bluecrest or Tudor, all these historically macro funds, a lot of them have shut and given investors their money back. There’s not as much demand for it as there used to be. I think it’s because one, the liquidity is shit, and two, the vol went down, and people just lost interest. I think FX is due a big revival, I really do, and it’s starting to move again already. There are decent moves on a daily basis in some of these currencies again. It’s due a good revival, and I tell you if the EU does blow up then we’re going to see a massive growth in FX because we’re going to see all these currencies again.
But the revival in FX is already coming in the form of crypto currencies.
Well that’s it, a lot of these spreads on stocks are so wide you can’t really trade them. You need to be looking for 5-10% move just to get your money back!
What was the other reason? Were you fed up with it?
I was fed up with it and the opportunities to make decent financial rewards for the necessary effort were no longer there. The problem with hedge funds is that the people who make the money are the people that own the fund. There’s two parts to how a hedge fund gets paid; they get a performance fee and they get a management fee, so a lot of hedge funds you’ll hear the term two and twenty. Now what two and twenty means is that they’ll take 2% as a management fee, and 20% as the performance fee.
So, that 2% management fee is massive when they’re managing billions of dollars. That is a lot of income. So they’re very, very protective of that two and they don’t want to lose it. So the way to not lose it is to keep the money sticky, and the way to keep the money sticky in really volatile markets is not to lose money. So what that means is the traders that they have working for them, the portfolio managers are increasingly under more and more pressure not to lose money. They have their limits, their trading limits, tightened and tightened all the time. But then the impact is that the portfolio managers can’t get paid because they’re only getting paid on their performance, so if they’re not given the limits they need to perform, they’re not going to get paid. Because they don’t get paid the 2%, they get paid out of the 20%.
So there’s a massive conflict of interest within the hedge fund itself?
There’s often a massive conflict of interest between the people that own the hedge fund and the portfolio managers that they employ. And what happens then is, and bear in mind many of these funds have been running for many years, that when you deposit money with a hedge fund, you are paying them a 2% management fee, but they are also getting interest on the money on deposit, so when [interest] rates are 2%, 3%, 4% – they’re getting a 3%, 4%, 5%, 6% management fee, because they’re getting 2% but also the interest on your money. When rates were at zero, they were getting the 2% but they want more than that 2%, so what they often do is they put a hurdle on the portfolio managers and say “You’ll only get paid after a certain amount of money that you make”. So, 1) I’m making it harder for you to make money because I’m giving you lower limits because I don’t want you to lose, and 2) I’m giving you a hurdle to get over before you start getting paid because that hurdle compensates me for the loss of the interest rate, so I’m getting 2% plus your hurdle.
It’s like, for example, you’ve got a race horse and I’m going to put someone on the back of it that’s twenty stone and I’m going to raise the height of the fences!
That seems weird to think that actually goes on.
And if you go in and out and you’re on a packed train for three hours a day and all you do is beat yourself up at work, and yeah, all right you get your salary but that hasn’t changed over fifteen years, and you’re thinking: “Do you know what? When you take the tax out of the salary and the aggravation and all I’m getting is these idiots on my back all the time, I’ll learn to live on a lower amount of money with less stress”.
Makes perfect sense!
It’s nice to have a decent income though. Trading is a lot easier when you know you’ve got an income to pay the bills every month – when you’ve got something coming in.
Yeah, you get the urge to make money every month; it temps you to chase.
And worst of all it makes you trade a different way. What you do is you’re trading your bills. For example, if you know that on the 1st of every month you’ve got two grand expenses, you know you’ve got to pull two grand out of your trading account to cover those expenses. So what you do is wherever those stocks are that you own on the two days before that, you’re selling to get two grand, and you’re probably selling at the low when you don’t want to sell!
Definitely. For me it’s keeping the winners running, that’s hard. You start thinking of the mortgage and everything that’s covered with the trade, and then you’ve got a holiday coming up and the car’s due a service, and you’re sat on a nice profit, so you bank it. And then the stock goes even higher!
And there is the thing that is going to kill you as a trader. First, is that you have to be really humble, and I reckon my worst time in the market was when I was working as a prop trader once, and I was up a lot of money very quickly, after I’d just joined there. I was on a fixed percentage deal, and I gave back a lot of that money very quickly as well. I made a lot and gave a lot back. And the money I gave back I equated to what that meant to me and my finances personally, and then I got really depressed, because I thought “I’ve just fucked up my kids’ future, I’m the worst Dad in the world, if I’d done nothing for the rest of the year, I’d have got paid a big chunk, and now I’m going to get paid 10% of that, and I’ve lost 90% of what I was going to get paid”. I got really depressed, and I actually went to see a psychiatrist.
Oh yeah, it’s tough, and you look at your kids and you get very depressed and you think “I’ve just taken money out of my kids’ mouths”. All these things. For example, OK, my kids’ school fees are £30,000 a year, and it’s going to cost me, I don’t know, £400,000 to put them through school from now until the time they leave, and I’ve just lost that. My whole kids’ education, in a day or two, I’ve just lost all that money that would’ve paid for their schooling forever. And you look at your kid and you think “I’ve failed you”, that’s a tough one.
Yes, I hope that doesn’t happen to me. I’m sure something like that will at one point, because it’s the market.
Well the way you come back from that, and there’s only way of coming back from that one, is to make money, because then you start feeling better again, but what I did do after I started making money when I run my own funds, is I never, ever, ever look at P&L in money. Ever.
I’ve just started that as well!
Always look in percentages.
It’s important for me for many reasons. One, it makes you feel less bad on the down days, but also it helped when I ran a hedge fund and I wanted to scale people up and give them more risk. It makes a difference because if someone is managing a million dollars, or if someone is managing 100 million dollars and they’re up 5%, at the end of the day they’re both up 5%. And if you can keep it like that it’s easier for them to get their head around. If you say you’re up 50 grand or you’re up five million, then you’re blowing someone’s mind.
That amount is pretty hard to comprehend!
So you’ve got to keep it in percentage terms.
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And that’s what I’d say if there’s anyone out there starting out: 1) Be humble, because otherwise the market will humble you in a big way. Be humble. And 2) always think in percentage terms. The most important thing to do is manage your money, manage your losses, be a money manager. You can’t make any money if you have no money to trade with.
That makes sense. You need money to make money.
I used to have a lot of sales people covering me years ago when I was running my fund, and I used to categorise them in two ways: these ones that were the smart guys that were going to make me money with ideas and things I hadn’t thought of, and the other ones were the ones watching my back and helping me not to lose money; they were my eyes and ears in New York, Toronto, Singapore, and Sydney overnight when I’m sleeping or I’m resting, and they’re equally as important as the other one. Because it’s equally as important to watch the downside as it is the upside, and if I’m looking at amplitude of my own emotions, I would say the amplitude of how upset I am on a bad day, is far more than the amplitude of how happy I feel on a good day
Well that’s been proven, hasn’t it? The pain of loss is two times worse than winning the same amount.
I’d say downside risk is more important, obviously you need to make money because if you don’t make money then you’re just not going to be a very good trader if you’re not making money.
Downside risk is much more important. If you don’t have any money then you’re going to be out of the game and you’re not going to be able to trade any more.
I agree. What do you think you’d be doing if you weren’t trading stocks?
I’m such a mad foodie, I’d probably want to own a dairy farm and make cheese. Seriously. Or start an American style barbeque restaurant.
Like Smoke Stack that we went to?
Yeah exactly, something like that. I love doing that sort of thing. That’s what I’d do. I already make my own bread, bacon and pickles as a hobby. I love foodie stuff and travel the world to find great restaurants.
That would be good.
Or be a chemistry teacher.
Chemistry teacher? That’s different!
I love Chemistry. Basically just doing something I love to do rather than do it for money,
If you can do that then you’re pretty lucky, because most people don’t.
The thing is I love this when it works. It’s just when it doesn’t work it’s the most depressing job in the world – and the thing is it makes it doubly hard, and I’ve done it for a long, long time, is you’re just on your own. It’s a very, very lonely, lonely job.
It can be, obviously we’ve got each other and other people we speak to, but at the end of the day you’re sat in a room by yourself. My wife’s around but I might not actually see anyone else in the house other than my wife and the cleaners for an entire week.
But lonely in terms of when you lose – you lose. Not a team, as in we’ve lost together. It’s very individual. But you know, the one thing about this job, and it’s the same if you’re a prop trader in a bank, yes OK you sit next to other people and you talk, but you live and die by your own P&L, not by the P&L of your desk or your room, and that’s what makes it hard for a lot of people is the amplitude of the peaks and troughs in your emotions, because it can really, really kill you.
I think it must be quite hard being in a prop desk when you’re doing your nuts and everyone else is doing really well, that must be even harder, to watch other people do well and you’re doing rubbish.
Well, I’ve done that, I’ve been there and done that, but the thing that you’ve got that is nice is that you’ve got a decent salary coming in every month even when you’re doing shit. And the problem with prop desks is that you don’t really get that very often. On most prop desks you don’t really get one person making loads or two people and two people are doing shit because everyone seems to know how everyone else is doing and they morph into one and that’s why they get screwed. You could have one guy managing £100 million instead of having four people managing £25 million, because when one or two are doing all right the other two will follow and it screws it up. When I had my own fund ,every portfolio manager had very different backgrounds, trade different instruments, different strategies, different holding periods. I did everything I could to minimise correlation between the portfolio manager’s positioning. Otherwise, instead of ten traders you might as well have one and give them ten times the limit.
You’d save a lot of salary fees as well. I’ve not thought about it like that before.
One of the bigger hedge funds put they coffee machines and water fountains in each corner of the dealing rooms and the portfolio managers were told to go to the machines nearest their desks if they wanted a drink. The theory behind this was that they wouldn’t all meet at one place, chat about the markets and consequently correlate their positions.
That’s a good idea.
It makes sense. You see it on Twitter a lot, someone buys something and in the end a lot of people are all in the same stocks and have similar portfolios, which is great if it’s going up, but sometimes what can be not so nice is that you can see that someone is long of something, someone you know, and you look at the chart and you think “Well, this looks rubbish”, you put a short on it, and then all of a sudden you’ve got a vested interest in someone you might’ve had a beer with, in them losing money, which is not nice.
Well you can’t look at it that way.
Don’t ever think that way, because you don’t know because they could take their long or short off at any time and you don’t know that, and then they turn it and might go the other way, you can’t think that.
Definitely. Emotions cost money, and thinking in an emotive way like that is no good.
So, one of the things you ask here is the one about the frauds, what was the biggest fraud?
Let’s just say, multinational corporates. They are the two companies that I’m going to talk about, one makes drinks, and another is a foreign supermarket, so they’re nothing to do with finance at all. Both had CFOs that fancied themselves as fucking massive hedge funds, so over a ten year period the CFO ‘s at these two totally unrelated corporates, lost a billion dollars trading. A billion.
Of their assets?
Of their money, yeah. Of their assets.
I don’t think either of these losses ever made big headlines. I think the corporates in question were keen for it not to. They both happened over 20 years ago.
if you want to take a directional view of the underlying instrument, you would buy an unhedged call or put option, called naked options, it’s got no delta hedge. So, what these corporates used to do, was sell options with a huge delta , but not actually do the hedge. Instead they would keep them naked. This would be like having a position of around $600 mllion in spot usd/ Yen.
What they’d do is sell an option with a barrier on it. The barrier would be pretty close to spot, around 50 pips away. The whole structure would knock out if spot traded at the level where the barrier had been placed, at which point they’d get to keep the $2 million premium they had been paid for the option and everything has disappeared. The problem is, what if spot goes the other way? They’ve sold you an option that’s worth $3 million, that they’ve been paid $2 million for, which is a deep in the money option. When sold, this structure knocked out 50 points away from spot, but now we’ve moved further away from the barrier, the probability of knocking out is lower, so the value of the option that the corporate is short, has vastly increased.
So, this thing would explode in price, in value, for the bank that bought it, so likewise they’ve got their two bucks in premium for selling the option which should’ve been three at the time but now that option is worth ten, mark to market.
They were losing money hand over fist?
Well, no, not necessarily.
Sometimes it worked?
More often than not they worked.
I was never running any risk as I was always delta hedged, if it doesn’t knock out or it does knock out, I’ve still banked at least a million. They need it to knockout to bank their two, they need everything to knock out so there is no optionality at all. However, if spot moved against them they were hurting.
Right, I get it.
Another form of “mismanagement” that used to be fairly common in bank (and a lot of them sustained heavy losses because of it) was that they were marking their volatility curves for currency options flat, so they weren’t putting a smile (skew) in.
There are many long explanations on the web to describe what volatility curves are, but for the purposes of this story, its just important to know that an event which has a lower probability of happening has a higher volatility (i.e. the underlying would have to move a long way to get there so volatility will be higher if it does)
So what some banks would do is mark all the options in each time bucket, with the same vol regardless of what delta they were, so a one year option that was way out of the money, (low delta so higher priced vol in the market place) was marked at the same vol as an at-the-money (ATM).
Then, to make their P&L look good, they’d sell low delta options, which would trade higher than ATM options in the market and mark them at the same vol at ATM options, e.g., if 1-year ATM vol is 10, the price I can sell a year low delta option is 13. If I sell the low delta option at the correct market price of 13 and book the trade at the flat vol that I am using of 10, I’m booking an instant 3 vol profit.
This was a very common practice towards the year-end to inflate profits.
Eventually, book keeping and risk management systems improved and vol surfaces were incorporated. This caused those institutions that marked their options books with flat vol surfaces across their product range to take instant substantial losses.
So who were some of the other big names in FX in those days?
One of my biggest customers when I was running an options desk was a central bank.
If you remember back in the day, this was way before the euro, European CB’s could move their interest rate wherever they liked and they were used to earning up to 15% and controlling their own currency. When the Euro came into effect they couldn’t do that anymore. In the mid 90s, there was a three-year period before the Euro was introduced where all European CBs had to get their financial systems in line. It was during this time that some CBs looked at ways of enhancing their income as they were being forced to dramatically slash their interest rates to conform.
One way they chose to do this was to sell very long dated currency options in high yielding currency pairs, e.g. Gbp/Yen, Dollar/Yen, and Aussie [Australian Dollar]/Yen, currency options.
Now, currency options used to go out to 1-year, or 2-year max, these guys were doing 35-year currency options! We never heard of this before. So, we were bidding very low for these structures and the CBs were still selling as they wanted the premium.
Bear in mind I was a currency options trader and my biggest P&L swings were now in the Bund market, because my risk was at the ultra-long dates, the 30-year interest rates, not spot FX, right?
The crazy thing was trying to hedge some of this stuff. You may not know this, but the biggest problem at the time was the Australian bond market only went out to ten years, so how the hell was I going to manage 30 year Aussie risk if there is only a 10 year interest rate market to work with?
How would that work then?
Well, you just had to use the 10-year Aussie bond to try and do something that gave you as good a hedge as you could do, and build in enough profit initially on the trade that would help you if you got screwed. But yeah, that’s how you would do it.
It’s weird how you hear these stories of punters doing stupid and idiotic things, and I can understand it a little because they aren’t traders, or they haven’t looked much into it. Some of them don’t even know what a balance sheet is for example, and they’ll punt all their money on a junk stock, but when its actual people who should know better – it’s surprising.
One of the biggest scandals that you should look into if you want to look at things like that, related to local councils I think around 25 years ago. Imagine you’re an employee of a local council, fancy yourself as a bit of an FX and interest rate punter and are keen for a bit of bank hospitality. Along come the bank to help fulfill your needs. The local council had various financial instruments that they could use to forward hedge their cash flows. One of them being a cross currency interest rate swap, which has a residual FX position.
So, you’re doing these complicated structures where there’s a lot of fees, and there’s a residual spot FX trade that needs to be done to hedge it all out, right?
So, that’s how that works. But what these councils would do is they wanted to have a position in spot FX, as well as expressing a big interest rate view, but they weren’t allowed to physically have FX limits, so they would do a cross currency swap, a very big structure, and do it naked so they’d have this residual foreign exchange positions!
Can you imagine how screwed up that is? You’re doing the big trade because you want the little trade. Normally the little trade is the by-product of the big trade that you want. So they were doing these cross currency swaps, local London Borough councils, and they were getting entertained by the banks, they wined and dined them, and they were losing fucking hundreds of millions of quid between them! A local council, you know, Hammersmith, £20 million for example. They had no idea what they were doing – none! And you’re talking about people who should know better; they shouldn’t do things like that.
This was taxpayers’ money.
So, which year was it that you went full time into stocks?
I took a little bit of time out after leaving the market in ’12, so probably ’15?
That’s a good time to start I think.
Yeah, well, I didn’t make any money.
No, not really, not enough. If I’d started a few years earlier where I had my finger on the pulse a bit more, I probably would’ve done a lot better, but I was helping my Mum out then as well so I wasn’t really full time doing it – it was a bit of a hobby. But I had a couple of nice big winners at the time, I made some really good money out of PAYS. You’re talking about earlier, parts of my career were a lot quieter than others, so I used to trade stocks a lot when I was a relative junior, and one of them was Affinity Internet (AIH), I made decent money out of Affinity. I made a few hundred grand out of it. I was around 30 and I bought my first house with the profit.
Is that when it was starting to rise?
With Terry Plumber and Wayne Lockner, those guys.
Richard (@CockneyRebel) was saying about them before, they did a deal with Vodafone [EPIC: VOD] and it went up, and they did one with Pendragon, or PowerGen? And it didn’t go up as much, so they fell back and he sold the lot. But yeah, they went completely broke, even though they were paper millionaires?
They were both billionaires on paper, they were both around a yard of dollars I think, both billionaires.
Yeah, in the space of 2 years the share went from 50 pence to £83 to zero.
But they didn’t blow the dough at the top. They didn’t start buying yachts and houses, because they couldn’t get any money out. That’s when I was speaking to Terry, because I knew Terry Plumber – he was very good friends with my in-laws. He said to me “I can’t sell any stock”. I said “You can sell futures on the techmark, which was 95% correlated to your company”, but you’ve got to understand they were so ignorant when it came to investment banking.
Anyway, he buddied up with this guy called Wayne Lochner, who used to be a money broker for Marshalls Tokyo. One day they got chatting outside the school gates because their kids were at school together, and that’s how it all started. But they didn’t really have a clear strategy of what they were doing. At one point they were selling mobile phones, next they were an ISP, next they were something else. They had no idea. They just got caught up in that Dotcom bubble, and everything flew, and I made a bit of money, good money from a small position.
What happened to them, then? Terry and Wayne? Has Terry still got his import/export business?
I don’t know, mate. The last time I spoke to Terry Plumber must be about fifteen years ago when he was asking me if I wanted to invest in a new venture.
Oh dear! It must be so weird you made money out of his company and he made nothing – zero.
I made a few hundred grand, I didn’t make millions and millions.
Still decent money!
Yeah, but those two pie-in-the-sky-guys! One minute they were trying to do some deal with Vodafone, and I remember I was talking to Terry about it, and he said “We’re trying to do it and they are being fucking arseholes”, and he turned around to the other director and he said “Do you know what? We’ll just fucking buy Vodafone – fuck them”, and then I got out! I thought “Mate, you have no idea, seriously”. That’s when I got out.
And that was around £80.
So pretty much near the top. Wonder if it’s on ShareScope.
AIH is the EPIC.
Ah yeah, it is.
Can you see it?
That is absolutely mental, it kept on going down for another three years after the high. That’s painful.
Then hit zero.
Hit 27p and 0. Suspended. All those poor average downers. Imagine if you were buying all the way down, too? That must’ve been excruciatingly depressing.
I bought a very small position at £25.
How come they couldn’t sell? They were always inside?
Don’t know – I think that was part of the deal when they floated.
Ah, a lock-in.
They were locked in for two years.
People don’t abide by that now.
No. They had old fashioned stock brokers. If they’d gone to somewhere smart, they would’ve structured them something like a zero cost collar to hedge a lot of their risk; there are a million things you could do to hedge out some of that risk. At least if it goes tits up you haven’t lost everything. You’ve lost a lot, but you’ve still got a lot, do you know what I mean? Unlike Luke Johnson, fucking hell, that guy.
Yeah, well nobody really knows what’s happened there, do they? He’s gone from like £120 million to £30 million.
I thought it was £220 million?
It might’ve been – he had like two/thirds of his wealth in CAKE, which has obviously gone tits up, and he put the loan in. But you know, I don’t really feel too sorry for him because he’s still got about £30 million.
I don’t feel sorry for him at all because he’s properly took his finger off the pulse there, right?
I think so, yes. I mean if I had two/thirds of my net worth that was £160 million or so I’d want to know what every single person in the business was doing. I wouldn’t be popping in every now and again – I’d actively want to know what every single thing was and what everyone was doing. I’d be watching it like a hawk, wouldn’t you? He was a busy director.
Yeah! One of your questions here is about giving up. I once felt like giving up when I made a lot of money, and we talked about this earlier. I made a lot of money very quickly and I lost a lot of money very quickly as well, and I thought about giving up back then because I was so depressed and down, and I just couldn’t look at my kids and not feel failure. That’s why I kept going, and you know I made it all back. But you kind of have to, you think “You know what? I’ve worked so many years to get where I am now”. I’ve had such a rough childhood and had to battle every day to get this job where I’ve got this seat now; I cant just walk away from it, I cant give it up.
Also, when you think about it, every year and experience is like an investment, so in theory you’re always getting better every year than you were last year and the year before because you’ve got more experience, so it would’ve been a real shame to quit. But also there’s not much else you could’ve done because there is no other job that pays as well as this.
No, exactly, that’s what my kids say – “Oh, why didn’t you retrain, Dad?” and I said “Because if I retrain and did something else I couldn’t pay your school fees!”
Yeah! Bit different if you’re working as something else.
I don’t think we’ve got anymore questions to cover. I’ll have a look. Ah, so one thing that’s not on here – how did you adapt to the liquidity of stocks? Obviously in forex it is completely different, because some of these stocks you buy a couple of grand and it ticks up, so how did you adapt?
With great difficulty, I’m still trying to adapt! I think I should change my broker because my broker is rubbish.
Who are you using?
I’ve never used them. It might be worth getting a telephone broker. [At least, this is what I thought. I had an old TD Waterhouse account with some dormant cash that became Interactive Investor – they introduced fees and wiped the money in there and put me in negative equity. I had to argue with them to credit the account back to zero – they refused to give me my money despite not notifying me about the fee change. Avoid.]
Yeah, I don’t worry about fees or paying more, as long as I get my size done. I’ve never worried about broker fees – if you’re worried about broker fees then you shouldn’t do it.
I think that too. I’d rather pay more money and get the right price when I need to, or get in or get out, rather than worry about paying a fiver or 500 quid transaction fee.
Well, you like IG, don’t you?
I like IG because it’s £5 a trade, but if I want to buy something and the market is moving I can call and get stock within about thirty seconds at a good price. I’ve noticed now that when a good RNS comes out on a market maker only stock IG just goes straight to no quote, and I’m pretty certain market makers shut off any buying until they’ve actually read the news. You used to be able to hammer them and clean out the ask if you were quick when the RNS came out, but they’ve gotten wise I think. So, in times like that I think a telephone broker is good, but I’d never ever pay something like £50 if I can just use direct market access myself.
You see a lot of the guys saying “Oh yeah, at the bell I managed to get these in” and I’m thinking how the fuck did you get those in? And it must be because they’ve got a good voice broker.
You can either premarket buy or use a spread bet to hammer them in on the bell; you’re pretty much guaranteed the opening price. So if something is opening it at 510, and you want to buy a few grand, you can buy it, or even ten grand if it’s a liquid stock – you can get the liquidity. A lot of the time someone will buy a decent slug instantly and it ticks up, and you have to pay more if you’re slow, whereas with spread betting you can get a lot more size that’s not really there and they net it off, so it helps. Worth having a look at.
Thanks a lot for your time – this has been really fun.