Full disclosure: at one point in my life I really, really wanted to become a trader for an investment bank. Not for long- I think the phase lasted only 6 months- but it was enough to give me an insight into how people get into this terrible business, and how they think. In a parallel universe (one where I didn’t graduate college at the height of the financial collapse, for example), I might have actually gotten that job.
Read on to learn what the world looks like through the eyes of people who go to work for Wall Street. Maybe this will help some Occupy Wall Street folks understand what they're up against.
I had always thought I was smarter than everyone else, and it was a chip on my shoulder. I needed to prove it, somehow. And what better way than by making a boatload of money? And to make money by manipulating arcane mathematical formulas and computer models, even better. It would be a huge stroke for the ego.
Besides, what else was I supposed to do? At all the other jobs I applied it was the same story- “we don’t care at all about all that science and math stuff you learned in university. It’s totally unrelated to our industry. Since you don't have any related work experience, the only job we'll even let you apply for is as a cashier." Kind of a crushing blow to find out that everything you've been learning your whole life was totally worthless.
Compared to that, the possibility of using my degree to potentially make millions in the finance field was unbelievably tempting. And I wasn't exactly going into it with the sort of cautious, patient attitude that you'd want a banker to have. I wanted to make as much money as possible, as quickly as possible, and damn the risks.
This comment that was published on Paul Krugman’s blog sums up the situation quite well:
The markets want money for cocaine and prostitutes. I am deadly serious.
Most people don’t realize that “the markets” are in reality 22-27 year old business school graduates, furiously concocting chaotic trading strategies on excel sheets and reporting to bosses perhaps 5 years senior to them.
Or there’s this gem from Yglesias:
I was always struck in college, watching people head off into the field of finance, by the mismatch between the demographics of the folks who’d go be bankers and the stated desire to manage risk. If I’m conjuring up in my head a vision of a prudent risk manager, I’m thinking maybe a mother of two. Someone smart, of course, but also someone who’s cautious. Someone who sees the whole field. Someone who juggles. I’m not thinking “young smart arrogant dude with limited practical experience and a burning desire to get ahead.” That to me sounds more like a rogue trader!
That sums up exactly how I felt, when I tried to get a job in finance. I was young, I had no practical experience, I thought I was smart, I was very arrogant, and I had an extremely burning desire to get ahead. I certainly wasn't going to hedge my bets, or let some silly SEC regulation get in my way. It wasn't even about the money -it was all about ego, and pride. Making money was just a means of keeping score. I'm not saying that I wanted to break the law, of course. I'm just saying that if you put together a large group of people like I was at the time, gave us virtually unlimited access to credit, and encouraged us to compete with each other for bonuses and prestige, then you're basically begging for someone to break the rules.
None of these young hotshot traders have a clue, though. Not if they're being honest. All of their fancy trading algorithms are just based on induction- they see a pattern that's repeated for a while, so they trade along with it. It makes money, until it doesn't. The patterns don't make any sense- look at the Super Bowl Trading Strategy, for example- but no one cares, and in fact traders are actively pressured to not think about why any of their strategies should work. Usually it's just a martingale strategy- they risk a small chance of catastrophe vs. a large chance of a small reward. They earn that small reward 10 or 100 times in a row, and they tell themselves that they've found a magic money-making machine, but then it all comes crashing down in a single black swan event like 2008.
The unfancy, dishonest way of making money through trading is simply to cheat. They abuse their situational power to take money away from less priviliged investors (regular people). If you're a market maker then you can make money all day long, no matter what happens, since everyone trades through you. If you're a brokerage, you can do "front running"- placing your own order in front of any large orders you receive, so you know in advance what's going to happen. And of course there's good ol' fashioned insider trading- go golfing with your buddy on the board of another company, you both exchange information, and you both profit. That's how the game is played.
There's a third way to make money trading, too, and that's just to be lucky. Luck plays a bigger role than anyone in the industry cares to admit, especially for the extreme winners and losers. Take any large group of people, and have them all trade randomly- in the end, a few of them will be consistent winners just by luck. I'm not saying all of the consistent winners are just lucky (most of them follow the two strategies above), but a lot of them are, and none of them see it because they're too blinded by arrogance. They think the fact that they're making 10 times more money than anyone else, means that they're 10 times as smart. And that leads them to think that's OK for them to have an enormous influence on politics- they're so much smarter than anyone else, so just let them run the country, right?