that the house had cheated. It doesn’t cross his mindthat the very nature of card play means that, to beat the house, youmust play only at certain times with any systematic approach becauseany systematized approach cannot play forever. The approach of systematic card play is based on probability theory, and that theory findsits expression from an assumption of timelessness. If you could flip acoin forever, you would get 50 percent heads and 50 percent tails. Butyou can’t flip a coin forever so that inequality shows up as either about52 percent heads or tails, or some ratio subject to random bell curvedistribution depending on how long you flip the coin. This mighthave actually been explained in the book (“the markets are a zerosum game”), but because the book formed whatever it concluded inthe way it did, this person believed it would be that way when hepersonally sat down and began to play at that particular moment. Whenit wasn’t, he concluded from his point of view, based on his lens ofexpected results, that something was “wrong.” That couldn’t be himor the book, therefore, someone cheated. Since he wasn’t, that must bethe house. He will now demand his money back if he is certain of thisrelationship enough to make that effort. In the markets it works out asarbitration or a lawsuit.
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I won’t go into the whole idea about “fair play.” Suffice it to saythat if the casino was cheating, and if this was a certain fact, no onewould play in that particular casino. They would go to a fair casino.Casinos know this, but they also know that since they are open 24-hours,and card play is actually going on forever, and they know that any oneindividual can’t play forever, it is absolutely certain that they will takemore money from people than they pay. You would be surprised howthin a casino’s margin is. That is why, when you are winning, they willdo everything to reinforce the belief that you can win anytime you like.Why do you think they have limousines and Lear jets for the bigplayers? Why do you think they comp them rooms at the hotel orgive you free booze if you are at any table, even the smallest? If youtake a lot of money from them, they really consider it a loan. That iswhy certain players get a limit on their play or can’t play at all. Thatis why it is always in the casino’s best interest to keep the games fair.If they cheat at all in any way, or you think they do, they are out ofbusiness or you go to another casino. That is why they work so hardat showing you they are fair. Things like the dealers always showingtheir hands to you after they touch your chips. They won’t encourageyou to take a card or influence your play. If they spot someone taking your chips when you are distracted, that guy goes to jail. If theydidn’t do those things, they would be out of business. I’ve played incasinos all over the world. For the most part they are the fairest business people you can find. They really don’t have to “tip” the oddsanymore than they already are in their favor. They just have to be therelonger than you are.In the markets it works like this: Because every trade is done in apit, sooner or later, if someone in that pit is doing anything to tip hisodds or not take responsibility, he can’t be a member of the club. If apit trader has more than his fair share of out-trades, someone notices.If he refuses to own up to the responsibility of his side of those trades,no one trades with him. If he is “front running,” he is called on it. If heholds an order, he is called on it. If you can’t play nice, you can’t playat all. The markets police themselves. Even the huge FBI investigation,done under cover a few years back without the exchange’s knowledge(boy, did that make people mad), found only a handful of traders whocould be considered “over the edge.” The FBI even admitted that the
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integrity of most pit traders was beyond dispute. Most of the infractionswere minor in nature and could have been simply from the fact thatwe all make mistakes or get overworked. Somebody somewhere cried“foul” loud enough to the right people and the government decided,since so many people had lost money (from their point of view), themarkets were a “scam” and, “we’re gonna get to the bottom of this.”What they discovered is what all the rest of us already know. The markets are one of the fairest places on earth for executing an order. Youcan’t cheat and be in this game. That’s why we have been here so longand the whole issue of financial futures is a reality. The problem comesin when the public gets involved because they don’t know the rulesin the first place, they only think they do. The public doesn’t knowwhat zero-sum really means: Nothing except trading creates losses. If youtrade, and you can’t trade for whatever reasons of your own, the lossesare yours. It doesn’t matter if somebody or something helped you. Whoopened the account? Who wrote the check? Who agreed to place himself at risk? No, you can’t have your money back. But some of themthink they can have it back and it’s the government’s responsibility todo something for them to protect them from their own state of mind.As a group, they (the public) think that they have the “right” tomake money. If they don’t, it was somebody’s “fault.” They go runningto the government, who believes this anyway (but is supposed to protect me, too), and say something to the effect, “If I would have knownit was this way, I wouldn’t have played.” In other words, when they satdown to play and didn’t win, somebody must have cheated somewhere.The government then “investigates” why these people couldn’t havewhat they wanted and makes someone, who does nothing but say “weare open,” pay these people something.To prove you haven’t done anything questionable requires the wholetrial process done by people who don’t know this business or arbitrationby people who do, and that costs money. But neither will result in a victory for the accused, even if he is so far in the white that you would thinkhe was standing in the doorway to heaven because that becomes partof the public record. Now it’s harder to find work at “good” brokeragehouses (you could be a problem) or to open new accounts from “good”clients (just because you were found innocent doesn’t mean you are).
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This is why anyone accused of wrongdoing simply settles for someamount. Why go through the hassle and the expense?If the accused is in the public eye, he says something like “withoutadmitting or denying guilt.” Since nothing causes losses except trading,and the trades were all done properly, they must find something besidestrading to “fit the bill.” As things go, the largest part of the business isoutside the pits (which are fair), so the regulators focus on “how theaccount was solicited, opened, or traded,” but that could be anything.Therefore, all the people who are in this part of the business spendhuge amounts of time trying to prevent lawsuits from happening. Thenet result is that the total environment is less effective to do anything.Or they make one mistake and they’re out. So, all those silly little thingsthat could happen by people drawn to this business become fair game.Nevertheless, the government, by its actions, created the environmentthat this happens in. I’ll show you how this is the case.The actual result is that when the regulators put so many rules inplace to protect the public, they create an environment where thoserules can be ignored if you choose to ignore them. All you have to dois settle, which is always less than you made. The worst part is that evenif you do business squeaky clean, from the point of view of the higherreality (seeing this from the other person’s point of view), no matterhow well you follow all the rules, someone will cry “foul” and youwill find the regulators saying, “Okay, you are guilty. Prove you are notbecause this poor person lost his money and he didn’t have to.” A broker has no rights. Since the smart brokers give the client absolutely noadvice (he doesn’t want a lawsuit), the client never gets to see that thisis a zero-sum game. It is never explained to him. He never gets any help.If you do help the client, sooner or later someone will conclude thatthe “help” caused his losses, not the actual trading. “Therefore you stolemy money” or something to that effect. That’s the part that really bothers me. Where are those people who stand up and say, “Hey, you lost.That’s life. Keep playing until you figure it out if you can. Otherwise,too bad, find another sandbox.”If the regulators were to say to some of these people: “Sorry, it’s azero-sum game. You played and you lost. Take responsibility for yourself. There’s no evidence to support your claim you were cheated. Thank
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you for playing, we have some lovely parting gifts for you and the homeversion of our game. Next.” Things would get more equitable in a hurry.I will admit a lot of lawsuits are headed off at the pass when some brokers or owners say exactly that to a client and remind him that he signedthe disclosures, and the recordings of the trades will be available for discussion. However, that doesn’t solve the problem entirely because youcan’t teach some people common sense. Furthermore, the regulatorsassume that your compliance doesn’t matter anyway because you mustnot have told the client what that really meant when he signed andagreed to trade with you, otherwise he never would have complained.The broker is “wrong” in any event.I’ll tell you how I found this to be the case. I’ve had a total of fourarbitrations. I was found “not guilty” on two of them and the other twowere settled. In all cases, every complaint imaginable was in every oneof them. (I didn’t disclose the risk, I lied, I churned, and so on.) The firstone should have been the eye-opener. This guy, who I spent at least anhour describing exactly how options work and their risk, not to mention all the other time invested with all the other stuff, claimed I liedto him. “He didn’t tell me how it worked.” This guy did one trade. Wehad discussed this trade and I taped his approval to do the transaction. Iplayed the tape for the regulators. Their conclusion was that, althoughI did have approval for the trade, the client didn’t know what that reallymeant. Therefore, the process of arbitration proceeds “to get all thefacts.” How could you misunderstand “Your total potential loss couldbe $3,000 if the market moves against you”? The client accused me ofchurning. The very definition of churning means “excessive trading forthe purpose of generating commissions.”How could that be the case if you only did one trade? And you agreed to itanyway?I finally just settled with this moron. You know what he said? Letme quote him for you: “I knew you guys were cheats. I already havean account at another company. They’re making me money. I’m sticking with them.” In other words, “As long as I’m winning, I won’t sueanybody.” If you are thinking, “That’s not everybody,” you are completely correct. But if you are a broker, you never know who thatsomebody is until the paperwork comes in the mail. It could be any
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one of your clients at any time, for any reason that is not to the clientsliking. Why? He has the “right” to be “protected.” Who is that guy? Sowhat do you do? Make as much money as you can, anyway you can,and settle.I personally don’t think that way, but most of the people in the business of serving clients do to some degree. The worst part is that sincethe regulators have to assume the client might have been correct—andeverybody just settles—it never gets any better. Clients will always runthe risk they really are being lied to or being dealt with unfairly by anybroker whom they do business with. So they “gotta find out.” Brokerswill always run the risk that no matter how clean they sell or handle theclient’s money somebody who didn’t understand what they were getting into, no matter what you did to explain it, will sue you. “Fine, here’ssome money; get the f— out.” If you are clean, prove it; if you are dirty,so what? It gets better. Some of the really bad clients know this relationship exists and will simply threaten some kind of legal action unlessyou give them at least some money back. The conversation goes likethis, “If you don’t pay me back, I’ll file an arbitration and you won’twork in this business ever again. I know you are afraid of that and Ialso know they (the NFA or CFTC)1 think you are already guilty. AllI have to do is make them think you did it again. I don’t care if wefollowed the rules or what I signed. You don’t want the headache. Ialready know that, so pay up.” It’s like a kind of stop-loss order forthose people.I had a client threaten me with that before I learned how the gamewas played. At the arbitration I beat him, but it cost me more than hehad paid in commissions. Up until that point he was the sweetest guyyou could ever meet. I discovered that was only so he could trade withthe hopes of winning. If not, my blood would allow him to trade anotherday. Or at least that is what he expected.I’ll tell you how far the regulators go to “find out if everybody’sdoing this clean.” Regulators have to justify their jobs in some fashion. The things they do to justify their jobs are behind some of theproblems that they think they are solving. I worked very closely witha young man, maybe 22 or 23 at the time. He was one of the goodones. He and I had a strong relationship in the office. One day the
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NFA came in to do an “audit.” This is the process where they checkto see if you are following all the rules they have in place. The ownersknow they will find something out of place somewhere. That “something” is immediately disclosed as “what we are trying to improve.”They know it’s what the NFA would get pissed-off about if they hadfound it on their own. The next thing is to say, “We want you to helpwith this.” So they work together to do so and the net effect is nodisciplinary action until the “next time.” But there is no next timebecause by then, everybody’s gone somewhere else. And the company’s gone.In the mean time, just to make sure the wool wasn’t pulled overtheir eyes, they start a client-contact process. This is where they takea handful of accounts and call these clients to discover how “satisfied”they are with their investment in the markets. Because the clients allhave losses, there will always be someone who isn’t happy about that.To their credit the NFA does not make this an issue most times; sometimes they do. But if you were a client, and you got a call from the regulators “checking up on your broker,” wouldn’t you wonder why thatwas? It’s like a game of Russian roulette. If the NFA calls 10 percent ofyour clients, is one of those guys going to be the one that cries “foul”only because the regulators were calling and he thought he “smelleda rat”? The NFA in this man’s case did that. My friend had been inthe white the whole time, but now he has this new problem, a clientsuing him. The client said, “The NFA wouldn’t have called unless youwere doing something wrong.” This broker quit because he believedthat at some point, the regulators must be on his side too. In reality,they created his problem and had to assume he was the guilty partyuntil proven otherwise, which costs time and money. This broker said,“I can’t believe this,” and went into another field of employment. TheNFA, by its actions, drove a qualified honest broker out of the business.I will tell you another story you absolutely will refuse to believe,but it is fact. One individual I worked with had a client tell the NFA,more than once, “I’m completely happy.” The NFA representativetold him specifically, “If you have losses, those losses may have beencaused by your broker. Do you know the forum of arbitration is available to you to resolve a dispute?” This client asked, “Are you suggesting
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I sue my broker?” The NFA representative replied, “Well, um, no. It isour intention to keep trading fair and equitable. But losses may haveoccurred through negligence on the part of your broker.” The clientsaid, “I’m happy with him,” and finally hung up. This client called hisbroker and asked him if he knew the NFA would encourage the pointof view that all brokers are crooks. This broker was furious. He wentover to the NFA (their offices are in Chicago) and demanded an explanation. They called security and threw him out.Here’s the whole point: There was no audit being done at thatfirm. Apparently, someone from the NFA went over to this broker’s clearing firm and just asked for a few copies of public accountforms. They never told anybody what they were going to do withthem or why they demanded personal and confidential informationabout people. This client was simply working in the garage when,out of nowhere, on a Saturday, someone is suggesting he is a victim.Do you see how certain clients might conclude: “Wow, I can get mymoney back”?This kind of regulation has actually made problems possible, without providing benefits to the client. Meanwhile, the whole intentionwas to help the client “get in” fair. Once he’s here he’s fine; if he knowswhat he’s doing or can find someone who does. If he doesn’t knowwhat he’s doing or can’t find someone who does, it doesn’t matter ineither case.The bottom line is that anyone who wants to get into this business wouldn’t know that until he came to discover it for himself. Goodpeople, with all kinds of good intentions, skills, and desire to do thisethically will find it doesn’t matter if they do. They will suffer; perhapsmore if their sense of justice is more acute. Bad people, who are looking for a way to “work a deal” somehow, or figure they have found easymoney, find this business can be an open door for them. Both of thesepeople come and go, but for the most part the good ones throw inthe towel sooner. The net effect is by attempting to do the right thing,which is full disclosure of risk and how the game is played, they set thestage for that to be ignored in the long run. All the “little things,” suchas missed time stamps, missing paperwork, and so on, are violations insome form, subject to fine or expulsion from the industry. Some guys
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get so fed up with chasing paper tigers and unnecessary B.S. that theythrow in the towel too. These guys say things like:“I’m just gonna make enough money to pay all the fines if I misssomething.”“Screw the NFA, it will take years to yank my license, by then I’llhave enough money to do what I want anyway.”“Who cares what the client thinks? He can’t afford to sue me. If hedoes I’ll just settle.”It goes on and on. This happens every day.I’m going to tell you the story of how I came to fully realize thiswhole process. I was working at a medium-sized retail brokerage housethat was only in the business of options. They did this because somehow, in the mind of the public, everyone is completely convinced thatfutures trading will ultimately cause a “margin call” or cause you tolose more money than you originally opened the account with. Thisis a legitimate concern and does occasionally happen. It is avoidable99.99 percent of the time if you use some common sense with regardsto position size, protective stops, staying out of markets at certain times,and money management. But that doesn’t matter. If you try to explainthis to a first-time customer, they get the impression this is all very riskyand complicated. Therefore, it’s not for them.To avoid this problem, our main selling point was that because yourrisk is only exposed to the premium that the option costs, you couldnever have a margin call or lose more than you initially invested. Yourrisk is defined so “you can sleep at night.” Which is true. The other sideof the coin is that any market you trade with an outright long optionposition must move a long way to make it profitable. If you buy calls,expecting higher prices, you need that market to make a big move,especially if you buy out-of-the-money calls in the first place. Corncould make a dollar a bushel move your way and you could still losemoney if you held a certain option. Then you get this phone call: “Themarket went my way—how could I lose? You cheated me.” Again, thiswas all explained but that doesn’t matter.Anyway, I was there because my initial project to go on my ownhad blown up, but not before I had some success with it. Plus I knewthe owner of this office and I knew he was a square shooter. If I wanted
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to do something differently than the company wanted, he was fine withthat as long as it was okay with the clients. It was an opportunity to getenough cash to do what I wanted. He was fine with that too and hatedto see me go when I did. It was ironic that the last place I worked atwas the best experience of the bunch.I got on the phone to raise capital. Since I had come to betterunderstand the markets, I used that knowledge every now and then. Thiscompany, in order to demonstrate to the regulators that they fully controlled the sales process, had hired an independent company to “eavesdrop” on conversations between brokers and clients. The fact that theycould do this from Connecticut, when we were in Chicago, is a frightening “Big Brother” concept in itself, but that’s another issue. They weretrying to do the “right” thing. They told you this was going to happen but they never told you when. The whole idea was to get the “realstory” on your selling, and review it with you to both improve yourapproach and to remain in compliance. I thought it was a good idea.At some point it was my turn and my personal tapes came in. Wediscussed it and that was that. What the company didn’t tell us was thatthey were also sending copies of the same tapes to the NFA for review.This was a “show of good faith” so that the NFA would leave themalone for the most part. However, they were the only people in thebusiness doing that voluntarily. Naturally, the NFA thought that was agood move and decided they would review the tapes.Remember, the NFA, although a self-regulatory body, must followthe guidelines of the CFTC charter and mandates. Therefore, whatever it does is basically redundant. Also, a few cents out of every tradecommission is their only source of funding, which means my tradingpays them. They work for my benefit too (allegedly), but as we haveseen that is not the case. To keep the rest of the government off theirbacks, the NFA follows the entire Fair Reporting thing, the EqualOpportunity thing, and so on. The bottom line is that the NFA is abureaucratic nightmare. Ask someone who has tried to get anythingdone with them. Anyone working there is some automaton who is toldto do something and to do it one way—no questions and no exceptions. The net result is some guy making $25,000 a year, who has noidea how trading or raising equity is really done, who was only hiredbecause the law said he has the “right” to a job, and who could have
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just as easily been flipping burgers last week, is able to bring the wholeprocess of earning an income and servicing clients in one of the mostdifficult financial environments in the world to a grinding halt becausehe is “just following the rules and doing his job.”Now remember, I had been in the business for eight years at thispoint. I had serviced hundreds of accounts. I had won two arbitrationsand probably would have won the other two. I had proved to someonewho knew this business that I had never broken a rule. So here’s whathappened:One day I was in my office and one of these NFA androids walksin. He asked the boss to take a package and point me out. So my bossdid. This worker drone says, “You have two weeks to comply withthis investigation. Until then you cannot solicit or service any accounts.Goodbye.” Then he walked out. My boss looked at me and said, “Theremust have been some kind of mistake. Whatever you’re doing is fine.Don’t do anything, I’ll handle it.” Mistake or not, I wasn’t workinguntil I “complied.” So I asked my boss to let me get started on myend while he tried to sort the whole mess out. We review the package and here’s what we found. I am in “violation” of NFA guidelines(not laws, guidelines) with regards to the solicitation of client accounts.They very courteously cited for me about 10 or more different ones,all with a very stern warning that any one of them is grounds for having my Series III license revoked. They then listed all the things thatI had said for each point. Without fail, all but two comments had beentaken completely out of context from the entire conversation. This hadall came from one tape of one conversation. (What about all the other tapesthat were in “compliance”?) In other words, make one mistake (fromour point of view) and your career is over. It didn’t matter that to proveany individual was a problem required systematically looking for a clearpattern of abuse that must be very clear as abuse. That would take time,attorneys, and a lot of evidence. But that is not how they are thinkingover there. Make one mistake, you’re out. That pile of papers made itvery clear that unless I could answer their questions and substantiatewhat I said, and do it in the next day or two, I was out. They assumedthat if it happened once, it was happening every day, all the time, witheveryone I spoke with.
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The package also included the review process to get my licenseback if I so chose. In other words, they assumed I was guilty of whatever it was I was guilty of and it was up to me to decide if I wanted tocontinue my career.I panicked. Wouldn’t you? If I hadn’t kept my own records on myown accord (and they hadn’t disappeared off my desk), I never couldhave provided them with the written documentation for the kinds ofinformation they requested. If I had trusted someone else to hold thoserecords and I couldn’t find them, that wasn’t good enough. (“Maybesomeone was counting on that?”) For each “violation” I had to showthem exactly what day what position was done that showed a profitto my client, provide a copy each of the time-stamped order tickets, atranscript of the tape documenting that I had approval to do the trade,and independent documentation of when that conversation was held. IfI couldn’t do that, I was out. I had to show them exactly how I determined that Japanese Yen futures were moving higher, and why theywere moving higher. Furthermore, how the trade did, in fact, occurexactly as I said it did, meaning analysis of some kind for that particularday, which proved I knew “what the market would do.” If I couldn’t dothat, I was out. If I said, “You could profit by 30 percent on that trade.”They said that was a “guarantee.” They wanted me to produce a written documentation of how I could “guarantee” any profit to the client,even when the markets went our way. They said that the phrase “thereis a risk of loss in trading” did not accurately describe to the clienthow that could happen by using options and therefore was an attemptto “minimize the risk so the client would open an account.” It didn’tmatter that the previous 30 minutes on the tape was that very discussion. At that point I hadn’t said it again, which assumes the client wastoo stupid to pay attention or think for himself.I could go on and on and on. The long and short of it was I hadto drop everything, which means not service the clients on the books.I couldn’t touch their positions to protect them or keep profits. Someoneelse had to do that, which means time away from his business. Not tomention that he had no idea why or how those trades were done anddidn’t even know those markets. Is that fair to my clients, or his? I spentthe next few days getting everything they wanted together. It was either
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that or I was out. Even if I got it together, I didn’t know if it would makeany difference because almost everything they accused me of needed tobe held in context of the entire presentation, which they weren’t doingin the first place.The fact is I never told the potential client anything that wasn’ttrue. I could substantiate everything I said to him. I put this all togetherand gave it to the NFA. I was told I couldn’t solicit accounts or talkto any clients until the “results of the investigation were in.” In otherwords, the merest suspicion of wrongdoing in any form will put yourincome at zero. Suppose I was supporting a family? The bills don’t stopcoming. After enough finagling from the company, my boss, and me,I was able to “temporarily” work until this was done. I never heardfrom them. Not a peep. Six months later I got a letter in the mail sayingin effect “Okay, all clear but we will continue to keep your file active.”In other words, we are watching you. “You got away this time, but youwon’t forever.” For six months I never knew when they might walk inand tell me my career was over. They never gave me an opportunity todiscuss the “charges” against me in any case. If I wanted to keep trading,“Well, that’s your problem.” To the best of my ability as best I could,I had followed every rule they have on the books. All of this from agroup of people, who otherwise would have no authority of any kindanywhere, are really not necessary in the first place, and they are paidby my trading. It’s simply unreal.Once I knew that no matter what I had done to show good faith,their bureaucratic process will always leave me at risk, I had no choicebut to assume sooner or later that I would have to go through it allagain. If one dot was missing or one “t” not crossed, I could be outof business. At the very least, I would have to jump through hoops tostay servicing the clients I had at the time. This would happen if I wasworking somewhere or owned my own company. If I had my ownbrokerage house, I would have to go through an audit. Which is fine,except I won’t play the “we are working on it” game. I would say, “Hey,I followed everything in this book you gave me to follow. There it is inblack and white.” Without a doubt I’m certain they would come backwith, “But you aren’t doing it exactly the way we want. We have toclean up this industry. What are you hiding?”—or something equallystupid that says, “It’s not good enough.” No matter what you do, it’s
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going to cost lots of time and money in attorneys, arbitrations, reviews,and the like with a bunch of people who are from the public, havenever traded, and are following the letter of the law but not its spirit.In other words, I never knew if my fiduciary responsibility toprotect my clients or my skill at trading would be interpreted as “anatt