A Day in the Life of a Dealer
Vol #166: February 15th, 2024
Market makers are fascinating subjects to observe. But unless they are wearing a particular vendor's swag, you’re unlikely to recognize these financial market creatures on the street. Behold a peak behind the curtain, at a day in the life of a liquidity provider.
Scene: Downtown Chicago. Monday morning.
6am: The office doors unlock, but everyone already has 24 hour access. No techs in the office means something didn’t break over the weekend. Or no new exchange launches. One of the old guys (he’s 42) still comes in early to review his sheets. Other than that it’s senior management filing e-mails and clerks - sorry, analysts - trying to look bushy tailed after three hours of talking about their number at Ceres last night.
7am: The bauhaus inspired space is humming, and smells like breakfast sandwiches. (The okay ones from downstairs, not the really great ones from across the river. You have to buy a 22 year old chess prodigy breakfast to get that delivered.) There’s a crowd forming around the Keurig machine, which everyone insists on drinking. Shit coffee makes you humble.
Breaks are what happens when one side knows a different trade than you do. The clearing firm sends sheets every morning with what they see your position as, and it gets compared to the internal record. Millions of electronic contracts clear fine, but a sales desk order often lands in the wrong account (did she say QXG or QXB?), or the stock meetup got dropped in the Midwest. Ops sorts most of this quickly, but sometimes you need to wake up a broker or poke a trader.
The risk desk is reviewing the daily PnL and fielding questions from finance about whether a $-12,769,420 mark in BYE is accurate. Obviously not, they had a stock split. A complex web of cross account positions is sorted by the morning bell. Counting and allocating the beans is as important as growing them.
7:34am: The head of Trading, Risk, and CEO get on an ad-hoc call because a top producer is pushing for broader market access. SaasPlay Inc is IPOing today, and DHL wants to trade it, along with at least 2 other guys he shares PnL with. Guessing the right footprint for these ZIRP grenades is difficult - you know the trading will be great for a few turns, but how quickly does -90% happen. Also what’s the borrow going to be like? As with most things in trading, data points that have commas (PnL) outweigh those that have percentages (market share, capture). Fire up the lasers, we’re putting 2 more on MIAX, 3 more on BX and 4 more on EDGX.
7:49am: The COO’s instant messages are lighting up. He’s also the resident shrink, busy coaching an ambitious director on how to keep his mouth shut. “Bro, you are correct, you just can’t SAY that. Especially not to Britney.”
The immediate fire that requires attention is a plumbing question. A problem of far greater complexity than options pricing is how to set up market access. Every exchange has a different method and technical structure for how badges match accounts match ports. The cost structure has layers that are constantly changing.
Currently the AMEX has been seeing a lot more quote traffic. The pipes are hitting their limits, and it looks like it's time to buy another one. These digital ports can be opened in a few seconds, but they’ll cost you $3k a pop. Risk, Trading, and the CEO are again brought in to opine on the prospect of future AMEX opportunities and cost benefit. A couple thousand extra contracts should cover that, but get sloppy on the margin and you’re paying an extra salary.
8:17 am: DMs fly back and forth between frenemies as traders settle into their twelve monitor cocoons. By this point the exchanges have opened up the pre-market feeds and participants can monitor the opening imbalances.
During live trading, with a bid and an offer if you hit one side there’s an execution. Options can’t trade until 9:30 ET / 8:30 CT, but you can enter orders several hours before. Whether it’s automated, or just because you’ve got a real job and dentist appointment, many customers put out limits before the opening bell. These might very well cross, and they’re often unlikely to adjust if stock moves.
As game theory would have it, everyone else is watching these, and deciding how they’ll price the opening imbalance. You want to capture as much edge as possible, but can also see others nudge markets tighter.
Messages from the risk desk reminding traders about their vega get ignored.
8:30am: Ding Ding Ding!
8:56am: Trading in SaasPlay has already fizzled, Allegheny is putting out penny wide markets. Fortunately there’s still a lot of interesting action in KindMan, the biotech that doesn’t stop. There are currently fourteen different sets of quotes streaming in this, and it’s been a revenue bonanza.
Risk is constantly refreshing the gap matrix to see who’s over limit. Except you can’t call them risk limits any more, they’re “guidelines” per our most recent compliance review. The levels are a function of your seniority and production. The more edge you collect in back and forth trading, the risk you can take.
10:21 am: After the opening dies down management files into meetings and traders work on their positions. When something is busy, you don’t pay attention to anything but getting on markets and in front of orderflow. But alas, that’s only about 20% of the job.
As the saddle curve of volume slides towards its nadir, it’s time to do some pruning. Activity washes away all sins, but open interest in a ghost town weighs heavily. Inventory has a radioactive half life, and if something has been sitting on the sheets and not moving, it’s time to adjust pricing. Deploy your risk capital where it captures live opportunity.
The framework here is orthogonal to how investors think about positions. There’s no cost basis or get-in price. The direction of volatility or the underlying doesn’t matter. Long or short, it’s about running the bilge pump on dead weight. If the music has stopped, it’s time to get more aggressive about taking some of this off.
And if something is going well, you want to free up capacity. Volume pays the bills, but it also moves inputs. The perfect zen of liquidity provision is having flexibility to trade size in either direction. Nobody puts baby in the corner.
11:02am: Jefferson Brokerage thinks they can sneak a fast one past the DPM who’s trying to pull together a Graziano’s lunch print. There’s a 2000 lot berry in ZVZZT that was priced bid to offer upstairs and is looking for a hole to cross.
All options trades must be matched on an exchange. Unlike equities where buyer and seller can meet and report this to a TRF, an options cross must be exposed either on the floor, through an electronic mechanism, or meet a specific “qualified” requirement. This creates a unique dynamic, where market makers who weren’t on the original print might want to participate and even improve the order, but brokers who get paid on both sides don’t want to lose a cut of their commission.
Electronic mechanisms are dangerous because the whole order could get priced away. Sure that’s good for one side of the trade, but it hurts the brokers ability to do business in the future. Having a high touch on this lets them negotiate.
On the CBOE the crowd is asking for 20% of the order. The broker goes back to “check” but is actually calling his buddy on the PHLX to see if they’ll get away with less. Everyone’s wise to this game, and goalies are in place before Jefferson can slip something past. Charm and promises of future orderflow try to grease the wheels, but collectively the firm holds tight.
Now that everyone settled on 19%, the politics of dividing the spoils are just as important. How do you incentivize someone to push an order away from themselves to help the collective? DHL is again saber rattling in semi-public chat rooms and making the risk team sweat.
12:27pm: Graziano's finally arrives.
1:12pm: The same order in WUT keeps coming across the auction feed. A partnership has recently been set up to purchase orderflow from B*Trade. Anything that comes down these pipes means a bill at the end of the month, along with a requirement to meet a certain level of price improvement.
While this should be non-toxic flow, someone keeps lifting offers. MDs are alerted so they can pick up a phone and try to find out what's happening. The example is tucked away for the next meeting when EQ targets are brought up.
Settings are adjusted in WUT to account for this flow. Skew curves are moving automatically, but the amount of edge required to trade this has to increase. Nudge value 27 up and 34 down. Also time to get a little more aggressive raising that back month vol, and consider that their developer conference might be after March expo.
2:24pm: Sorry risk, I just saw your message, I’ll get on that tomorrow.
Deltas have been traded all day, but positions have evolved, and fills have whiffed. If you’ve been trading a VWAP in a thin name, it might be time to up the aggressiveness - force complete even. Hedging here is not so much one big event that adjusts for the last 23 hours, but a polishing of the corners.
Throughout the day a position grows, shrinks, and decays in multivariate ways. But no matter how big your size is, the subtle shift of the greeks is regularly swamped by the fresh reality of new orderflow. Vanna might slowly give you deltas, but Jack from Long Island is in your face with a few thousand going the opposite way. You hedge what remains.
3:00pm: Ding ding ding!
3:22pm: A poker game has come together and traders file upstairs for a meeting. The development team is working on an overhaul of the quoting scripts, and needs feedback on the prototype.
WTJ sits alone in a NY conference room waxing philosophical about the nature of join size, while the Chicago office puts the microphone on mute and lets him cook.
Trading developers and developing traders mingle in ways that would leave Jane Goodall speechless. But their detailed obsession and micro specificity of knowledge is what builds completely bespoke trading platforms. How the trader captures edge must be communicated and converted into a series of knobs that form logic into FIX messages and return market data with meaning.
More questions were asked then answered, so everyone’s satisfied. Besides, did you see that DUM canceled their dividend? PTJ is short half a million shares in Nov.
4:17pm Beers, finally.