Classical Conditioning in the Markets

Long ago I had a junior trader, let’s call him M, who worked the overnight shift for me trading interest rates. M was an awesome person to have around (fyi regarding the past tense, he’s not dead, just we’ve both moved on to bigger things at different places, god speed buddy!). M worked insanely long hours and produced quality work; if you set a bar for him to jump over, he figured out a way to do it.

As readers of this blog are aware, risk management is a big deal to me, and I tried to instill these concepts in M as best I could in a HFT prop trading environment. Thus for certain strategies I maintained a list of hard risk limits for parameters like position and PnL (e.g. call me / shutdown strategies iff they’re down 25k or have on 1000 contracts, etc…).

I enjoyed talking with M the first time I interviewed him; in a normal setting getting a phone-call from him should be an enjoyable experience. However, the dynamics began to change once he started working overnights and actually started calling me at the points I set, a priori.

Its not like he called me overnight all the time. There would be joyous stretches of time where everything would crank money and I would walk in to lots of profits and M smashing a tennis ball into the wall with one of his racquets (much to the dismay of the other overnight guys, but when you make money you can do what you want).

But every now and then the government would open its damn mouth and send shit bonkers (that’s a technical term). Thus, over time I developed a classic conditioning response: his ring-tone evoked the fight-or-flight response that precedes a big trading fuck-up.  I would answer the phone and inevitably some central banker or fin-min had said something and we had hundreds of millions in interest rate risk at bad prices.

These were moments when, as a trader, you have to accept you’re going to lose money and then try to minimize how many days of profit you’re giving back. Giving back a few days profit was a cost of doing business in market making. Giving back a week or more hurt. Giving back multiple weeks was a fucking disaster.

The worst part about this conditioning was that it extended beyond market hours. This would occur even if he called me when we couldn’t possibly be actively trading. I had been conditioned like a dog or a rat. But the stimulus was so specific that once I realized WTF was going on it was just a matter of changing all my ring-tones to be generic so no differentiation was possible. As someone who normally considers himself to be a rational being, experiencing this level of sensitivity to a simple auditory input was a shocker.

The upside here was that I went through the experience: having to wake up, jump-start my brain in seconds and then actually make a decision worth real money with minimal information / market color. Then, and this was the critical part, to get out of bed at the small hours of the night and trek through the city down to the ‘Change, dodging sleeping transients and their effluent the whole way. One day at 3am I realized that the Loop’s morning fog was being produced largely by an evaporation of the moisture in the sewers and dumpsters. Smells like money. I once saw someone expressing their dislike of Rahm Emmanuel by voiding themselves (thoroughly) on City Hall. Jump! Almost there now… Point is, you’ve got to be motivated. To this day I wake up ready to bite the ass off a bear.

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