Open Outcry, from Jeff Watson

January 6, 2008 |

NYMEXI read an amusing recount of that $100 oil trade in the paper the other day at the NYMEX. They said that it was a local trader that bid $100 for a one lot in the pit, and was immediately speared in the trade. The article further said that the local pitched his long position with a $0.60 loss. I was shocked to read that they were saying that this trade would be investigated by the NYMEX because the electronic trading (which trades most of the volume) was at a lower price and this local must have been engaging in some kind of market manipulation, wanted bragging rights, or whatever. The article then editorialized about how the electronic markets are so much more efficient, and that the open outcry method is destined to the dustbin of history. They might be right about the dustbin part, but the writers haven't a clue about locals and their purpose in the food chain. One of the jobs of a local, besides providing liquidity, is to see what price the market will trade. If wheat is trading at the top of the daily range, a local will bid the price up a quarter cent just to see what kind of orders might be up there. The local will also sell the market at a new low just to see what's down below. Good locals get a feel for where the stops might be, and try to steer the market toward the stops. In my experience as a local, I bought the top of the daily range and sold the bottom almost every day. In fact, if I didn't buy at the top and sell at the bottom, I felt I wasn't doing my job with 100% efficiency. Although I lost money on those trades, I made sure they were only one contract, and it usually cost me only $25 to see where the edges of the market were. To me, it was worth $50 a day, which is a small price to see the market range. Those losing trades represented good value to me, and the strategy of pushing the market in that manner was very profitable in the long run. In the 1980s, I sold one contract of oil at the NYMEX at the all time low, and didn't feel a bit stupid about it.

Victor Niederhoffer remarks:

Many exotic options might have been triggered at $100 in oil and the trade might have created massive fictitious losses or gains for interested parties.

Larry Williams offers:

Larry WilliamsJeff stikes a nerve with me on electronic vs open out cry.  I'd love to go back to open outcry or one session markets. If there were one session, electronic or pits, with defined time zones it would be a much easier game. Now, thanks the electronic wizadry we have three sessions; 1) the twilight zone after the pits close, no liqudity, lots of false moves — and lots of real moves, massive slippage; 2) volume picks up 1-3 hours before the pits, still erratic but trades better, a little less sloppage (I mean slippage); 3) the real deal hours, better fills, moves are for real.

Anatoly Veltman recounts:

In open outcry Gold futures trading at the Comex in 1989, my volume equaled 10% of the total exchange volume on quiet days — although I was not in the pit, and didn't own a seat at the time. Contrary to popular belief, floor brokers and locals were not raping every customer order going into the pit. Things got progressively worse, as seat prices skyrocketed at the start of this century; it eventually cost $1,000/day for floor rights alone, not to mention all kinds of overhead and error risks! And that's how demand destruction for floor trading took hold. Current electronic execution is much more disadvantageous, from where I stand. Black boxes at a handful of firms scan the exchange order books every millisecond and automatically execute algorithmic trades, ripping any conceivable advantage away from participating public. They are the casino, with structurally embedded multi-billion annual profits — leaving everyone else on the other side of the zero-sum game. Question is: what evolution event will lead to eventual demise of their empire?





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