by Brian DeChesare Comments (63)

Pitch Anything: “The Game” for Investment Banking?

Pitch AnythingIt’s 11 PM and you’re sitting down at a bar with a friend. You see 2 gorgeous blondes stroll over and sit down across from you (if you’re female, just imagine this from your perspective instead).

You strategize with your friend about what to say and who to approach, you think of the perfect opening line, and then you go up and make your move.

The first girl stops you in your tracks, glares at you, and says, “If you’re going to recite lines from that book, we’ve heard them all before – you can go away now.”

Ouch. What went wrong?

The problem is that it’s 2005 and Neil Strauss has just published The Game, detailing the secret society of pickup artists and the exact tactics they use to get beautiful women night after night.

It became so popular in New York that women learned all about it and instantly knew when a guy was using tactics from the book.

And now a new book by Oren Klaff, a capital markets banker based in LA, might just do the same thing for the world of business and investment banking.

What?

It’s called Pitch Anything, but it could be titled “Persuade Anyone” because that’s what it’s about: how to present an idea so that the other person gets intrigued and ultimately signs on the line which is dotted (yes, Glengarry Glen Ross should be part of your required viewing).

“Wait a minute! I don’t want to work on the sell-side, why would I ever need this? I am a math genius and can sit behind the computer, look at spreadsheets all day, never talk to people, and still make bank!!”

I see where you’re coming from, but even on the buy-side you’ll need to persuade people and pitch your ideas all the time:

  • You just got a horrible bonus, only 1% of your P&L. You want to negotiate a better number for next year – how do you approach your fund manager?
  • You have a new investment idea and need to present it to the investment committee at your firm. What story will convince them to say “yes”?
  • You’ve had enough and are quitting your fund to start a new hedge fund. You need to raise $500 million – how do you sell investors on the idea?

Of course, if you want to keep your bottom-tier bonus, never get any respect from anyone else, and never get the funds to start your own firm, feel free to keep staring at Excel.

Got Skepticism?

When Oren first contacted me and told me about the book, I was skeptical: I get tons of pitches and requests each day and everyone wants me to promote their products and help them out with random favors.

So I let it sit for a while and didn’t get around to reading it until my flight got delayed on a recent trip, I ran out of battery, and I had nothing to do.

And then I almost missed my flight because I couldn’t put it down once I started reading.

The Big Idea(s)

There are many big ideas here, but the ones that stood out most:

  1. The way you pitch something and the way the other person perceives it are completely different.
  2. Setting the frame makes all the difference when pitching anything or talking to anyone.
  3. Don’t pitch numbers or logic – tell stories.

A “frame” is just the way a person views the world and what he uses to doubt whatever you’re pitching.

If he digs into your numbers and calculations and keeps questioning those, he’s using the analyst frame; if he spends 30 minutes talking about himself and then looks out the window when you get a turn to speak, he’s using the power frame.

There are others, and there’s an appropriate way to respond to each of them and “break” the person out of whatever he’s using to belittle you.

How to Use the Book

The section on frames and how to respond to frames, by itself, is so insightful that you’ll probably think of dozens of uses just from that (I recommended the book to other friends after finishing that part).

Here are a few situations where you could use the advice in the book:

Handling Co-Worker Harassment

Let’s say you just started working on the trading desk and the other traders are giving you crap for being the new guy. In addition to making you get lunch each day, they’re also making you pick up their dry cleaning and get gifts for their families.

There are 2 bad ways to handle this situation:

  1. Do nothing and ignore the traders as they make fun of you.
  2. “Argue” your way out of it by telling them to respect you.

Doing #1 is the equivalent of getting a terminal illness and not going to see the doctor: you can ignore it, but you’re still going to die.

#2 won’t work because of the same reason it didn’t work on the bully in the playground when you were 10: he’ll ignore you and keep pulling your pants down anyway.

In the book, Oren goes through a few examples of how to use a power-busting frame and other tactics to handle a situation like this and re-assert yourself by lightly defying “the authorities.”

It doesn’t require memorizing long scripts or anything like that, but it does require going outside your comfort zone – but if you want to advance in the industry you better get used to that.

Raising Funds… for Your New Hedge Fund, or Even a Student Group

You’ve dreamed of starting your own hedge fund since you were 10 and first saw Wall Street.

And now, after 15 years of working at other peoples’ funds, you’re ready to raise the $500 million of capital you need for your own.

You’re in a meeting with a potential investor and he is using the analyst frame to nit-pick your numbers and press you on whether or not you can really achieve the returns you’ve outlined.

“So I’ve looked at your IRR calculation here based on the funds invested and the potential cash flow coming from these investments and I wanted to know how you derived the margin right here…”

You do not want to get into an argument over the numbers or go into nitty-gritty detail in response to this.

If they want more detail, you can send it to them after the meeting.

In a situation like this you’d apply intrigue or suspense (by telling a story or starting to tell them something surprising and leaving it open-ended) to get the other person to step back from the numbers.

Oren has a few examples of doing this aggressively in the book – you may not want to implement everything he suggests, but using just the basic ideas can take you a long way.

More?

This first section on frames could be applied to almost any social situation; the other parts of the book are more applicable to pitching itself, but remember: much of your life consists of pitching and persuading other people.

So if you’ve spent more time developing your IQ rather than your EQ, this should be required reading.

Flaws

Though I’m a big fan, the book is not without problems.

First, if you’re a new analyst or associate, you can’t literally apply all the strategies and stories that Oren shares in the book.

If you show up to work on the first day and start “defying” your MD he’ll get pissed and you will develop a bad reputation.

So you have to do it in moderation and not get carried away with following it to a tee.

Another issue is that the deals described in the book, while big (millions / tens of millions and up) to a normal person, are small by the standards of bulge bracket investment banks.

In practice, most pitches from investment bankers for mega-deals are practically identical – hitting emotional triggers all the time might work, but it may also backfire if the audience is sophisticated and wants things presented in a certain way.

Finally, similar to other popular business books (The 4-Hour Workweek), sometimes the author makes everything seem too easy.

It would have been interesting to explore when the strategies here don’t work as well, or whether they apply to much larger deals as well.

Do You Actually Need to Read This Book?

I’ve gotten lots of questions on what the culture of Wall Street is like and whether or not it’s really a frat house.

Experienced traders aside, at most investment banks analysts and associates are more nerdy than fratty.

That’s what happens when you recruit top-performing students at top schools: you get a bunch of math wizards who are great at Excel but not so great at having difficult conversations.

If you already have a lot of real-world experience dealing with skeptical people, persuading others, and pitching your ideas, maybe you’re an exception to this rule.

But if not, I can’t recommend Pitch Anything highly enough – and at the very least, you’ll be entertained by all the stories within.

The Next Neil Strauss?

Pitch AnythingSo will Pitch Anything become The Game of the investment banking world?

While guys who want to get more girls read everything they can get their hands on, bankers have no time to read or do anything besides pitch, deal, and occasionally snort cocaine.

So unlike that situation with the 2 blondes back in 2005, you won’t suddenly have a market where everyone knows your tricks.

And that’s great news for you, because you can pick up Pitch Anything and start applying the tactics right now – when no one else knows how to respond to your newfound superpowers.

M&I - Brian

About the Author

Brian DeChesare is the Founder of Mergers & Inquisitions and Breaking Into Wall Street. In his spare time, he enjoys memorizing obscure Excel functions, editing resumes, obsessing over TV shows, traveling like a drug dealer, and defeating Sauron.

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by Zeke Lee Comments (110)

Traders and Brokers: Bud Fox vs. Gordon Gekko?

Traders and Brokers: Bud Fox vs. Gordon Gekko?
Two office chairs in the design of information related to business

Assuming you’ve seen Wall Street (the awesome, original one, not the watered-down sequel) – it is a requirement to work in finance, after all – you know something about traders vs. brokers.

The traders are like lone wolves who go in and make tons of money by making quick decisions…

But supporting every successful trader is his/her broker – the one who actually connects buyers and sellers and makes trades go through.

Both traders and brokers are linked to the market and need to stay on top of everything that’s happening – but beyond that, they’re quite different.

So, what do traders and brokers actually do?

Which one is a better match for your personality? How do you break in?

And most importantly, who makes more money?

Definitions and Types of Traders

You might remember from the guide to fixed income trading that we defined 2 types of trading: agency trading, where you simply execute orders for the client, and prop trading, where you invest the firm’s own money and make your own trading decisions.

But the outside world has no idea what those terms mean, so they usually refer to prop traders as “traders” and agency traders as “brokers,” which is what we’re sticking to here.

Prop traders exist at dedicated prop trading firms and hedge funds, and they used to exist at investment banks before the US government banned them (the verdict is still out on other countries).

Brokers exist at both banks and at independent firms called brokerages; the difference is that these smaller agency-brokers are pure middlemen and only fulfill orders while large banks have a lot more going on.

There’s more to it than that and as with other areas of trading, the dividing lines can get blurry, but that’s the basic difference and how we’ll be using the terms here.

  • Gordon Gekko – Trader
  • Bud Fox – Broker

OK, back to how they’re different…

What Do Traders Do?

Traders are at the top of the food chain – entire teams in the back and middle office support all their trades and fix annoying IT issues for them.

They analyze equities, derivatives, fixed income, forex, commodities, and anything else they might be trading and decide on what to trade, what strategies to pursue, and how to invest the firm’s money.

If the trading floor were a jungle, traders would be gorillas who pound their chest constantly while stealing bananas from everyone else.

Everyone wants to be a trader, but it’s tough unless you have the right education, background, and personal connections.

Unless, of course, you’re Jerome Kerviel, but we all know how that one turned out.

Brokers – Support Staff?

After a trader decides what to buy or sell, he would call the broker and say, “I want to buy/sell XX of XX – can you make it happen?”

Technically, brokers “support” the traders but they’re completely different from the back and middle office crew.

Unlike the back and middle office, brokers generate revenue – they connect buyers and sellers and make a commission on each successful transaction.

The more shares that a trader trades through the broker, the more money the broker makes – and the more traders the broker services, the more money he makes.

Personalities – Traders

Traders are judged almost 100% on performance – it’s one of the few professions on Wall Street where you can excel even if you show up without shaving for a week or two.

If you bring in massive profits for the firm, you’ll be rewarded.

Traders spend most of the day in front of their 8 or so computer screens – they might discuss ideas and market news with other traders, but overall there’s less teamwork than in management consulting or investment banking.

So the trading profession attracts more introverted individuals who are good at math and great at working independently: think math and engineering majors, with a few random frat boys thrown in for good measure.

Brokers: Got Extrovert?

For brokers, it’s all about relationships and networking: you’re judged based on your ability to bring in traders and keep them on board.

Profit still matters, but the quality and quantity of clients you bring in also plays a big role.

If you’re a good schmoozer and you’re always the first to hear about rumors and gossip, you’d be a great broker.

If Malcolm Gladwell were writing a new column about traders and brokers, brokers would be part-maven, part-connector – they know everyone, and they track of tidbits of information to entertain and inform traders.

If a client really liked Turkish food, a broker would know all the best Turkish restaurants within a 5 km radius.

There’s a lot of back-and-forth with traders on the phone during the day, so brokers often invite traders out for food, drinks, and sports (and sometimes “other forms of entertainment”) after work.

It’s nothing like the back office-trader relationship where they barely acknowledge one another unless given a reason to work together on a project.

Breaking In: Trading vs. Brokering

Large banks do take sales & trading summer interns and make S&T full-time hires, but the numbers are lower than what you see in investment banking.

Major trading desks such as credit, equity, and forex might only hire 1 or 2 per desk – whereas in banking, groups like ECM or M&A might take on 5-10+ new analysts depending on the team size.

With the 2010 financial reform, those numbers will shrink even further as banks disband their prop trading groups and everyone migrates to hedge funds.

For networking, resumes, and interviews for trading, check out this podcast Jerry recorded – recruiting is similar to investment banking but there are significant differences, especially in interviews.

With brokers, there’s even more of a focus on experienced hires: on-campus recruiting is rare, especially for smaller agency-brokers, and you pretty much have to network your way in from related fields.

Some brokers also post ads online and if you have the right experience, applying online might actually work – that’s because they’re looking for very specific experience and as you move up, you get more and more specialized.

Resumes and interviews are similar to trading at the entry-level, though there may be more of a focus on relationships and sales skills – similar to sales itself – at dedicated firms.

Potential Advancement

Advancement depends on how business is going: if your desk is profitable, wants to expand, and everyone likes you, then they might give you your own portfolio or trading book once you’ve proven yourself.

Note that even as you “advance” within trading, your actual work may not change that much – you’re still trading all day.

It’s not like investment banking where MDs are wining and dining clients and analysts are pumping out pitch books – you just get more responsibility and a higher percentage of the profits.

On the brokerage side, advancement and upside depend on how many new clients you can bring in and the commissions you generate – just like with trading, the work itself doesn’t change dramatically as you move up but you work with higher-volume clients and earn more.

Work Hours

Work hours are roughly the same for traders and brokers – they get in an hour or two before the market opens and leave an hour or two after market close.

Brokers might try to get in earlier than traders and leave after the traders leave just to make themselves available at all times.

Both are completely different from investment banking: no all-nighters and no 100-hour workweeks.

Think 60-70 hours per week rather than 90-100.

Who Makes More Money?

And now to the $50 million (or should that be billion?) question.

Most people would say, “Traders make more money!”

After all, some traders make tens of millions per year, and then there are special cases like John Paulson – he made over $2 billion in cash each year in 2008-2009 by betting against subprime mortgages and CDOs.

No one noticed or cared what his broker made.

The problem is that everyone focuses on these once-in-a-lifetime success stories rather than the average trader: for every profitable trader, there’s a trader somewhere else that lost money.

Meanwhile, the broker in between made decent money even if one of the traders did not.

Multiply this by dozens of trading clients and you can see how broker commissions can add up to a comfortable lifestyle, all with far less market risk.

Specific Numbers, Please

Numbers are tough to verify, but most brokers start in the mid 5-figures range and the most successful brokers might be in the mid 6-figures range – it’s not like trading where the stars could make in the tens or hundreds of millions or billions of USD each year.

If you want to believe Salary.com, they have a nice graph here.

Keep in mind that the average (prop) trader makes nowhere close to that each year – some small prop trading firms don’t even pay you a salary and instead base everything on your trading performance, so you could end up with a “paycheck” of $0.

The maximum pay for traders is a completely different order of magnitude, but the standard deviation is also much higher – so the median pay may not be much different between traders and brokers at the entry-level.

And don’t underestimate how much you can make as a broker: brokerage firms often make more than trading firms that are suffering from a lackluster year.

Are the Machines Taking Over?

You’ve probably read about how trading is becoming more and more automated – should you even bother getting into the industry if computers will take over anyway?

Keep in mind that there will always be a human element – someone needs to program algorithms in the first place and continually test the programs.

So it’s not as if the industry is dying – it’s just shifting in more of a quantitative direction.

There’s no denying that trading itself has become more of a science club over time – so unlike with investment banking, advanced math and programming skills would be helpful here.

Even on the brokerage side, more and more agency trading activity is becoming computerized as well – there will always be a need for the outgoing broker who knows everyone, but the math nerd might not be far behind him.

This article was guest-written by Zeke Lee, a Stanford graduate, former management consultant with Booz & Company and former derivatives trader on Wall Street (Oh yeah, he’s one of my friends from school as well).

About the Author

Zeke Lee is a Stanford graduate and former management consultant with Booz & Company and derivatives trader on Wall Street. He founded GMAT Pill, a top-rated online GMAT Prep course designed for busy working professionals who want to study less and score more.

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by Brian DeChesare Comments (48)

All About Automated Trading: What It Is and What It Isn’t

Automated Trading[This is a guest post from a reader who currently works in an arbitrage development team. He wanted to clear up a few points about what “automated trading” is and isn’t.]

Ah, taking a mid-day nap and waking up with extra money in your trading account… who wouldn’t want to make money while sleeping?

That promise of set-it-and-forget-it money draws lots of traders into the field and attracts computer science and engineering students who suddenly “discover their interest in finance.”

Only one problem: “automated trading” is far from automated cash flow, and you always need human intervention.

To find out why and to learn all about algorithmic trading, arbitrage and other forms of automated trading, read on.

Lexicon Confusion?

Part of the problem stems from all the terms used to describe “computer-assisted trading”:

  • “Algos”
  • “Trading machines”
  • “High-frequency trading”
  • “Black-box trading”

People use these interchangeably but are referring to different concepts – so let’s clear that up.

Algorithmic Trading vs. Trade Origination

Here’s the key question you need to ask:

  • Is a human making the trading decisions and simply having a computer help with the execution, or is the machine handling the execution and making the trading decisions?

The first category – where the computer only assists with the execution – is called algorithmic trading.

The second category – where the computer actually makes decisions – can be called trade origination, although that is not a canonical name (there isn’t any that I’m aware of).

Algorithmic Trading

So now we’ve cleared up the first misconception about algorithmic trading.

The second misconception: that algorithmic trading is about making the most money possible.

It’s actually about losing as little money as possible and reducing your costs.

To illustrate this, let’s walk through an example of how an algorithmic trading system might work:

Let’s say that you’re a pension fund manager and you’ve decided to sell 1 million of Company X’s shares that you currently own.

Notice how you – the human – make the initial decision here based on your analysis.

You want to get the best price available on the exchange that Company X’s stock is traded on, and you know that the highest bid price – the highest price at which someone else is willing to buy the stock – is $20.

So ideally, when you sell those 1 million shares you will get $20 million.

But not quite.

The problem is volume – most likely, that bid order for $20 was for far less than 1 million shares; it might have been your next-door neighbor trading 20 shares in his E*Trade account.

If that’s the case, then you’ll end up selling only 20 shares for $20 – and the remaining 999,980 shares will go for whatever the next best price after $20 is.

If the highest anyone else is willing to pay is $10, then you might only get around $10 million from your 1 million shares rather than $20 million – even though the bid price was $20 according to your trading software.

Limited Liquidity

This problem is called “limited liquidity” in trading circles – you receive less than the “paper value” of your position because there aren’t enough bid orders at the price you thought you were getting.

As a human, you could simply monitor the market all day long and be on the lookout for those $20 bid orders.

That’s extremely time-consuming and labor-intensive, but that was exactly what agency execution traders did in the “old days.”

And that’s why algorithmic trading was invented – to manage the trading process over an extended period of time and get as close to the “paper value” as possible.

A trading algorithm for this scenario might divide the order up into many smaller pieces – 1,000-share blocks rather than 1 million all at once – and execute them over the course of a day or longer.

This is one of the key reasons why algorithmic trading has become so popular: there’s a high upfront investment, but a single machine can replace tens of pure agency execution traders – so you start seeing huge cost savings once you’ve been up and running for awhile.

Trade Origination

Algorithmic trading saves traders a lot of time and money, but there’s a small problem: you still have to make your own decisions.

To make the process truly automated (in theory), various systems to originate trades were created.

There’s a huge variety in the strategies these systems use – just think about all the hedge funds and prop trading firms out there and all the different trading strategies they use.

To give a concrete example of how these systems work, though, we’ll focus on just one for now: non-statistical arbitrage.

Non-Statistical Arbitrage

Arbitrage refers to buying and selling multiple securities at the same time in the hope of making a profit.

The simplest type is non-statistical, or deterministic, arbitrage, where you find and exploit price discrepancies between 2 or more securities whose prices should be related. Ideally (ignoring technical issues), this kind of arbitrage is risk-free.

(Statistical arbitrage, by contrast, deals with expected values of securities over the long-term. There’s no guarantee that the future will behave like the past and so this is not risk-free in any form.)

Here’s how you might apply non-statistical arbitrage, and then how a computer could make it more effective:

The S&P 500 index has a futures contract associated with it – that just promises to deliver the stocks at a certain point in the future and is traded on an exchange.

The underlying stocks of the S&P 500 trade on exchange as well, so you can take their prices, figure out how much it would cost to hold the stocks until the future expires, and based on that decide whether the future is a bargain or rip-off at the current price.

So let’s say you think the future is too expensive – it’s $1,000 but the underlying stocks are worth only $990 and it will cost you $5 to hold them until the future’s expiration.

You can then sell the future and buy the underlying stocks – you deliver the stocks when the future expires and then make a profit based on the difference between what you thought the future was worth and the higher price you sold it for.

Does That Actually Work?

This is a very simple example, and it would never work in real-life because everyone else is looking for the same price discrepancies.

And even if you’re Rain Man, it would still take at least a few seconds to spot this type of price discrepancy…

…which is where machines come in. They can spot arbitrage opportunities like this in milliseconds rather than seconds or minutes, and make trading decisions far more quickly than any human.

If you were creating an algorithm like this, you might program in the specific securities or trends to look for in the market and then give exact instructions on what to buy and what to sell when certain conditions are met.

These days algorithms have become far more advanced and go well beyond just looking at prices – some actually try to scan news stories to determine “sentiment” for or against a company and make trading decisions based on that.

Still Confused?

So going back to the terms at the top of this article, what does each one actually mean?

  • “Algos” – Short for “algorithms” – Could be either algorithmic trading or trade origination.
  • “Trading machines” – Generally trade origination.
  • “High-frequency trading” – A type of trade origination system where securities are held for milliseconds (or less) rather than hours or days.
  • “Black-box trading” – Might refer to either algorithmic trading or trade origination.

Many of these terms could refer to either variety of “computer-assisted trading,” so you need to dig in and ask what’s really going on when you see them.

Time to Retire to the Beach?

So you have a trade origination system set up and you’re making a lot of money with no intervention or decision-making on your part… time to retire?

Not so fast.

All types of automated trading systems must be supervised, checked, and updated constantly.

Even if the software itself is correct and has no bugs, market conditions themselves can be a “bug.”

We saw this back in 2008 during the start of the financial crisis when hedge funds started blowing up – supposedly “once-in-a-lifetime” events started happening every day and breaking all the old algorithms.

So no matter how great your algorithm is, it will only be effective until the next crisis, the next “unusual market condition,” or until everyone else starts copying you.

The top banks have spent a small fortune developing trading algorithms, and the tens of millions of dollars (or more) you need for such technology puts it well out-of-reach of anyone small.

And then there’s the small matter that no software is ever bug-free – especially when the algorithm is new, you need a human to monitor it all the time.

So even if your new automated trading program is making bank, you might want to hold off on buying that beach bungalow.

For Further Learning

This was just intended as a brief overview of automated trading – if you want to find out more, get a copy of Algorithmic Trading and DMA: An Introduction to Direct Access Trading Strategies by Barry Johnson.

Good luck with your trading, and let us know if you ever do make it to the beach for early retirement.

M&I - Brian

About the Author

Brian DeChesare is the Founder of Mergers & Inquisitions and Breaking Into Wall Street. In his spare time, he enjoys memorizing obscure Excel functions, editing resumes, obsessing over TV shows, traveling like a drug dealer, and defeating Sauron.

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