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Friday, June 24, 2011

Financial Markets Trading-WAY beyond terminals and phones

Popular perception of a trader is someone who works in a vegetable market. Those who have read 'Liars Poker' or watched 'Wall Street' may have a slightly refined impression of traders, as those who trade commodities over the phone instead of on the floor. For this, the only necessary skills seem a finely honed sense of prices, sharp negotiation skills etc. These skills ARE necessary but not sufficient, and do not explain the outsized pay which traders command. In this post, I share my understanding of what traders do.

Those of you with demat/trading accounts would have probably placed online orders/called your sub broker with orders. Either way, the order goes to a central trader who then executes at the best rate possible. Do not confuse those traders('retail interfacing ones') with the investment banking traders here. People will place online/telephonic orders only when the item is in existence, and traded on a liquid market. Both these conditions are routinely violated in complex products(where the real 'juice' is). After the sales guy 'sells' the trade idea to the client who then closes the deal with a recorded telephone call to the trader, who then 'manufactures' the trade idea, transfers it to the sales guy at a predecided price, and then profits on managing the risk.

Suppose the client needs to hedge a certain exposure, and approaches his salesperson at XYZ bank.The salesperson confers with the Structurer and Trader, who then decide that a certain product combination is best(say a options, b futures, c swaps etc). The trader would then price that product, using his client knowledge to decide the spreads to charge. The salesguy then follows up with the client to close the trade. For large trades, the trader/structurer often need to accompany the salesperson to the client presentation, and be ready for Q&A/emails/termsheet requests/presentations.  If it involves sacrificing weekends, so be it.

What I have described mainly relates to non FX OTC deals. In FX, the markets are liquid and largely exchange driven. It is the markets in credit, commodities and rates which are more OTC driven. And OTC transactions need a very high quality of people, with both technical and client facing skills(which prop traders hardly need!).

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