Why Wall Street Traders Are On The Decline - YouTube

Wall Street used to be full of traders.

Buying and selling stocks or bonds in person or in the packed trading

pits in Chicago, New York and London.

Prestigious investment banks boasted of trading desks the size of

football-fields. Now, they're losing money on trading operations and

laying off scores of traders.

There's a very famous anecdote out of Goldman Sachs, where about 15

years ago they used to have about 500 human traders on a trading

floor, making markets in stocks and basically connecting buyers and

sellers using the telephone.

And that's going away. You know, obviously with the rise of

electronic trading in stocks and now today they have three people.

The number of trading, sales and research jobs at the top 12 U.S.

banks have dropped precipitously in the last nine years.

In 2010, those big banks employed about 21,000 people who worked in

equities — or stocks — and 27,800 people who worked with fixed income

or bonds. By the third quarter of 2019, those banks employed about

16,000 people in each category , a drop of about 5,400 jobs in

equities and nearly 11,600 in bonds.

Deutsche Bank, Citigroup and Societe General are just a few of the

big financial firms to announce t rading desk layoffs in recent

months. Deutsche Bank, in particular, decided to ditch its entire

global equities trading operation , about 18,000 jobs in total.

The shift to electronic trading and passive investing are the big

culprits behind the trend.

Now more and more big Wall Street firms are finding it harder and

harder to make money from trading.

The rise of passive investing in algorithmic trading or squeezing

profits in the trading business to razor thin margins.

Experts say electronic trading made markets much more efficient, and

it's made trading more accessible and cheaper for the masses.

But the shift to electronic and algorithmic trading isn't without

risks. We've wanted to see what was going on.

We saw some real panic a little below 11,000.

A quick dip guys came in to buy gold in a hurry.

So what's happening to Wall Street's once prestigious trading

profession? When we think of traders on Wall Street, most people

think of this.

Known as 'open outcry,' the negotiation practice was started in the

17th century in Amsterdam at the first stock exchange in the world.

The Dutch East India Company was the first company to go public in

history. After the creation of the exchange, investors could finance

a group of upcoming voyages by the Dutch East India Company instead

of individual voyages, diversifying their risk and return received

dividends. A few hundred years later, stock exchanges had popped up

all around the world.

And the stock exchange remained the main set-up for trading up to the

1990s. You have to understand that negotiation mattered for a long

time. With Nasdaq, it mattered up until the Nasdaq scandal.

There was a big scandal in an almost billion dollar settlement where

the Nasdaq dealers were colluding to fix the prices basically, and

fixed the bid offer spreads on Nasdaq stocks.

Once that settlement happened, people had to start handling orders

differently. And that gave birth to what's called electronic

communication networks, which were the precursors to the modern

exchanges. And as more and more markets became more and more fair,

electronic markets blossomed and frankly, paper tickets went the way

of the buffalo. Larry Tabb is the founder of TABB Group, a research

and strategic advisory firm focused on capital markets.

When you traded on Nasdaq, you really had to call a market maker.

Before they became an exchange in the early 2000s.

All it really was, was an order routing mechanism and it routed

orders to the market maker who had the best price.

But each trade had to be okayed and then traded really by human

market maker. Prior to Reg NMS and around 2005, the New York Stock

Exchange still took roughly nine seconds to execute an order.

And so most trading was still done manually, even though a lot of the

order routing was done electronically.

The Regulation National Market System, or Reg NMS, was the first set

of ground rules for U.S.

trading. It protected and helped investors and ultimately smoothed

the transition of computers into trading.

Online trading really started to take over thanks to electronic

communication networks, personal computers, increased trading pit

regulation and the rise of online brokerage firms.

Although electronic communication networks or ECNs started in the

late 60s, they didn't become mainstream until much later.

ECNs automatically matched buyers and seller s, removing the need for

negotiation. Now all equity changes are pretty much fully

automated. The New York Stock Exchange still has the floor, but most

of the activity occurs in the open in the close.

Most of the intraday trading happens electronically.

First, let's talk about our definition of a trader.

We're not talking about people who occasionally trade on their

Robinhood and E-Trade account.

We're talking about professional investors who buy and sell financial

assets for organizations like hedge funds, banks and private equity

firms. According to the Securities Industry and Financial Markets

Association or SIFMA, there were 484,500 U.S.

employees in the securities industry in the 1990s.

As of December 2017, there are 952,500 people working in the

securities industry in the U.S.

At investment banks, however, there's been a drop in employment.

Traders, sales and research roles dropped from 49,200 in 2010 to

32,200 in 2019, a decline of almost 35 percent.

Bonuses on Wall Street increased vastly from 1989 when the average

bonus was $24,928.

They peaked in 2006 at $248,223.

The average bonus fell to $225,644.

As of 2018, that average bonus has made its way back to around

$153,700, however it's still down from 2017.

Ever since I would say 2010, 2011, compensation across Wall Street

has been falling. And the reason for that is the fee pool for fixed

income and equity trading has gone in one direction of using

essentially lower. And so when that happens, they have less money at

the end of the year to give people bonuses.

Bonuses are still at least the lion's share of what senior people on

Wall Street make. They eat what they kill.

One of the recruiters I spoke to said, you know, he counsels the

people that he's talking to.

They say, like, if you can't make, if you can't live on this

business, making $300,000, $500,000 , which, by the way is still lot

of money. And, you know, then, you know, then you should leave the

industry. You're never going to make a million dollars a year plus

anymore. From 2010 to 2019, trading revenues in fixed income and

equities at banks like Bank of America, JPMorgan and Deutsche Bank

have dropped from $149 billion to $83 billion.

The move to electronic trading puts scores of floor traders out of a

job. If you look at pictures of the trading floor in 2000 versus

today , it's probably a tenth the number of actual traders.

Today, there's more news reporters and columnists walking around

except for the open and the close .

There's almost no activity that happens on the floor.

It all happens in Mahwah, New Jersey, where the exchange computers

are. That's all really activity.

It's all happening by algorithms and upstairs desks.

With computers filing trading orders, trading volumes have soared.

Prior to electronification in January 1997 , the average daily volume

in U.S. equities was around 1.17

billion shares. By December 2019, it was 6.54

billion shares. It used to be that traders looking at screens would

say this is the price.

That price would be where they would enter their order.

Today, if you want to trade a million shares of Microsoft, you're not

going to do 10 hundred thousand share orders.

You're not going to even do a hundred ten thousand share orders.

You're going to do ten thousand one hundred share orders .

And a computer can do that far faster without getting tired than a

human being. The velocity of trading is dramatically faster than it

used to be, and it's basically taken humans out of that last mile

market. Algorithmic trading is taking over the stock market and it's

not without flaws.

The flash crash of 2010 caused the Dow to plunge 9 percent in a

matter of 36 minutes.

The drop was triggered by a large sell order that was then met by

high frequency trading firms who started buying and selling to each

other. Other market makers weren't able to step in, resulting in the

crash. I don't know.

There is fear. This is capitulation, really.

The machines had to be broken.

A night indicates that a technology issue occurred in the companies

market making unit.

Since 2010, more flash crashes have occurred and regulations have

been announced to deal with the issue.

However, no perfect solution has been put in place.

Another driver of the long-term decline in trading jobs comes from

the competition between active and passive investing.

Many trading firms use active investing, a strategy that involves

tracking individual investments like stocks closely for profitable

opportunities. While it can mean big profits, it can also be quite

costly and risky.

Passive investing refers to index funds and exchange traded funds.

They allow investors to purchase large stock indexes or groups of

stocks. It's called passive because they don't need to constantly

monitor the investments.

One of the reasons the technicals and momentum investing might have

worked so well over the last decade is that the biggest investors

were passive or ETF investors.

These are investors that simply buy a stock if they're seeing inflows

into that their underlying ETF.

When it comes to pure performance over the long haul, passive

investing is beating out active investing.

Only 23 percent of active funds could beat out the average return of

passive funds in the 10 years before June 2019 .

A lot of these trends have kind of push down the level of

participation by institutional investors in the U.S.

equities markets, mostly because they're under greater competition

from passive funds which don't trade as much.

Their fee structures are lower, and because of that, the more active

funds tend to benchmark closer to what the passive funds do.

They're trying to turn over their portfolio fewer times so that they

don't have their expensive trading and they're cutting costs and that

costs push them more towards electronic channels and more human and

more expensive channels.

After the financial crisis of 2008, regulators moved to crack down on

the cash investment banks could use for risky bets.

If you remember, the financial crisis was started in part because of

these hugely risky bets that investment banks like Goldman Sachs, B

of A Merrill Lynch had taken.

And so when regulators saw that know, they said, look, we have to cut

this out. We created something called the Volcker Rule.

The Volcker Rule really prohibited or at least tamp down the hedge

fund like bets that these banks could do using their own money.

With banks strapped for liquidity, they didn't need as much manpower

as before. Prior to the financial crisis, banks provided double the

liquidity that they provide today.

So on a numbers basis, this arguably means that half of the traders

that were required prior to the crisis are no longer necessary.

For these reasons, most big banks are moving away from trading.

The profitability question for trading is also a driver of banks

moving into other higher margin areas within their business models.

And really this cost pressure and this deflation is driven by tech.

So it's driven by technological advances that have created a cheaper

environment in which to do everything.

It's also been created by price discovery.

It's very easy for consumers to shop around for the lowest cost

option. Given the acceleration of information availability in today's

day and age. The decline in trading jobs and revenue hurt the big

banks and large investment firms.

Banks like Goldman Sachs instead are focusing on a new venture, c

onsumer retail businesses.

This is still the classic white shoe New York investment bank, and

something like 40 percent of the revenue still comes from trading and

trading bonds and stocks.

What is Goldman Sachs doing? They're moving into mainstream consumer

retail businesses like markets where they want to gather deposits

which are a cheap source of funding and make loans.

So this is a perfect example.

If you like Goldman Sachs and their strategy, they're moving into

something that's a bit more diversified, that's a little bit less

volatile. From quarter to quarter, you see trading can result in a

lot of volatility. You're going to see the traditional banks get

smaller. You can see

the electronic players, the Citadel's, the Virtu's, the Jumps, the

Jane streets, the HRTs of the world, I think you're gonna see them

get bigger. If you look at the trading

community that's being hired today, they're not the traditional

traders finance MBA background, they all have a very strong

quantitative backed.

When we think about the rise of quantitative traders, these are still

human beings that are developing the algorithms.

It's currently built out by humans, but it could very quickly turn

into pure algorithms that learn on their own through machine

learning. It's a very difficult time for the institutional brokerage

community. On the other hand, I think it's a really good time for

individual investors.

I think they're getting better value and all those fees that were

going to brokers into the buy side are actually staying in the

investor's pocket.