Transcription
Hello everybody. Welcome to Analyzing Finance with Nick. I have a special guest here. He's a former colleague of mine, one of the brightest minds in options and market making, and how that matters to people who aren't in the world of options and market making. I'd like to introduce Chris Adam. Chris, can you tell people about yourself and your background?
Sure, Nick. It's a pleasure to talk to you again. Right now, we used to talk on a very regular basis, so it's fun to be back here. So, yeah, I, I, I mean, I was an options trader professionally for over 20 years. I started at SIG back in 2000. I grew up on the East Coast in New Jersey and went to SIG right out of college. Went right to the American Stock Exchange, traded equity options down there. And then after a few years of trading equity options, I traded ETFs a little bit on the New York Stock Exchange. And then that was when my career really changed. I went over to commodities in late 2004. I went to the NYMEX to trade oil options. That was a brand new business for SIG, and I stayed there for a little over three years. And then went off on my own with a backer, traded commodity options for, mainly focused on natural gas, but then went into gold, silver, coffee, cotton, all that stuff. Did that for about three and a half years. And then I ended up at Parallax, and I was at Parallax for almost a decade. And that's where you and I crossed paths. So, I, I ran commodity, commodity relative value options trading at Parallax. And then I left, sorry, left Parallax three years ago. I have been writing for since early 2019 on the internet. And the writing is kind of, it's gotten a lot of traction over the last few years. So these days, I'm focused on that. And then earlier in March, I lost it, I launched an options analytic software called Moontower.ai. So between the writing and the software, that's pretty much how I spend my time today.
Yeah, and the first question, really, is given your background in vol trading and more my background as a directional investor, what do you think is the main difference in the approach between directional trading and vol trading?
Yeah, so, so here, well, I would say first of all, let's just to back up for a second. The difference, the first thing is like, the first difference between them is like the instrument that you're actually trading. If you, if you're a directional trader, you're trading an underlying asset. You're trading whether it's a stock or a commodity, you know, a corporation. Versus if you're trading vol, you're trading options. All trading is options trading. So, and options are derivatives. So the value of the option is derived from the way the underlying sort of behaves. So, you know, unlike a stock, options have, they have arbitrage boundaries, they have expirations. So the way you can think about an option is its value is derived from the cost it would take to replicate the same, the exact same option. So of all traders, you can think of a vol trader as somebody that says, this option, most of the inputs that go into that replication are fairly well-known. The one that's not very well-known is the volatility, because we don't know how much a stock is going to move around in the future. So what an option trader might do is sell an option that they think is expensive, and then they would hedge that. That's called delta hedging. And in that process, they're trying to replicate the payoff of that short option by basically creating a long option. So, and if they are right about the price of that option being too high compared to how much the underlying moves, there will be a differential that ends up being their profit. So, in short, like the way I like to think about it is that a directional trader is somebody who has an opinion about what's going to happen to an asset, whether it's going to go up or down. Um, sometimes directional traders use options, and often times they don't necessarily have an opinion about the volatility. That's not their expertise. Their expertise is in understanding if this asset is over or underpriced. A vol trader is in the exact opposite situation. They believe that the underlying is fairly priced. They don't have a view on the underlying, but they might have a view that the option is mispriced, and the volatility is either too cheap or too expensive. And what they can do is by delta hedging, they are sterilizing that position against the movements in the underlying and trying to isolate the thing that they have a view on, which is the volatility. So that's the main difference between a directional trader and a vol trader. Like, one has an opinion about the underlying, one has an opinion about the vol.
And do you think there's more edge in trading for the vol versus the underlying? I've learned this the hard way because I only did like one options trade before I joined Parallax, and that was buying Twitter puts for six months out. And the implied vol was so high that those puts were worth 20% of the whole company. And the stock went about about 19% in those six months, so I didn't make any money even though it pretty much moved the way I expected it to, because I lost on the vol trade. Is it because people are less informed about this element? There is more of an edge in vol trading, or is it kind of an even game between directional and vol trading in terms of actual alpha or edge?
It's a, this is a, it's kind of an abstract question. It's very interesting. So one of the, one of my, I'll just tell you sort of like my feeling about it, which is that I think that options trading is easier than I think it's easier than having an opinion on what's going to happen to a stock. Actually, in the quant world, there's a good reason for this. It's that it's almost impossible to predict asset returns. It's much, the easiest thing you can do if there's, if we think about the three like biggest elements from quant finance, there's volatility, there's returns, and there's correlations. And volatility is the easiest thing to predict. It's not easy, but it's the easiest of the three. Asset returns is by far the hardest and pretty much impossible to predict. And then correlations kind of live somewhere in the middle. So volatility is easier to predict. The, the problem is, like, this is a game. So the fact that it's easier to predict doesn't mean you're going to make more money trading options because it's also more competitive. There's less, because there's a little bit less uncertainty about what this option could be worth, and you have a lot of very smart firms chasing this. And it's a zero-sum game. And it's a small part of the overall market which needs to allocate capital. The derivatives market is just a fraction of that world. All of those things add up to it being incredibly, it's incredibly competitive. I mean, a friend of mine, have a friend of mine, Augustin LeBron, who wrote a fantastic book called Laws of Trading. And he, you know, I think he's the one that's got a saying that's like, there's more houses in the Hamptons built on investing than on trading derivatives. And I think that there's a lot of truth to that. It's just way more competitive to trade derivatives in a much smaller market.
And how does the mean reversion nature of vol affect this, and why does vol mean revert?
Yeah, so we can think about it a little bit in a theoretical way, which is where the short answer would be like, because it can't not mean revert. And the reason why is because you could not, if you took the volatility of an asset to infinity, it would, it would, that means it would touch zero very soon. If it just bounces around at infinite vol and zero, you know, zero is game over. It's an absorbing barrier. So if vol were to go to infinity, that would end the game. So we know that the vol must come down from very, very high levels. And it makes sense that that would also happen because at any asset, at a low enough price, presuming it's not a fraud, an asset that's at a low enough price, there's some bid for it. There's some price that makes sense. So at some point, the cheapness of the asset itself will will bring about its own liquidity. At some point, there's a bondholder that will just take the stock over. So there's like, cryptocurrency though, that may not apply because it has no intrinsic value.
The, what I would say there, it may not have an intrinsic value in the Ben Graham sense of the word, but it has a value in terms of what somebody is willing to pay or not pay for or sell it for, right? Like everything has a value that's based on that bid-ask when you pull it up. And so there's some price at which some somebody will bid it. And that, that fact alone is enough to kind of force the idea that volatility does find some meaner version. It eventually, you basically find some long, if you look at a long-term average of its volatility, they're fairly well behaved. It's not enough of a, it's not true enough that that's useful to necessarily trade around. It's too low-res to make money off of that fact, but it's enough of a resolution for you to be able to see that volatility does mean revert.
Yeah, and so then on the other side, why, why does vol come up then from the ultra-low levels and mean revert higher? Like, it's like VIX a stor is like 15, but you see some regimes where it's 9 to 12, but they usually ends up moving back to the 14 to 16 level when it's all said and done.
Yeah, so I, I would say the, the vol comes back up because that just comes, I think it comes back to, first of all, there's always uncertainty. So because we don't know what the future holds, and the distribution of events that's in the future is, you know, you're sort of bounded at total quietness on one side, but you know, a bomb can fall somewhere. And so there's always this possibility that an extreme stress event can happen. That's always possible. That, you know, I always like to say like, the, the biggest disaster is always in the future. We, we just, we haven't seen it. So the fact that the future always holds some possibility of there being something very surprising, sort of guarantees that the volatility should not get too cheap. The implied volatility cannot get too cheap, even when you see cases where the realized volatility or the way that the asset has been moving, that can drop to really low numbers. You can see the S&P get them to like four, five all over very short time periods, but you never see the implied vol get that low because if it gets that low, everybody sort of says like, well, yeah, but I don't expect the future to be 5% vol. So there's that mean reversion also happens because we know that when a time is quiet, we know it's going to pick up again at some point.
Yeah, and this kind of goes into what my thoughts on this from a more directional perspective. Some of the lessons I learned on AOL desk is that you, you kind of use this to your advantage. Like if you're going to try to, I don't know, to magnify your returns through buying options instead of stock, they call this a stock replacement, where you sell a stock or you just add to a position via a call or a put instead of just adding or increasing to your long or short and the underlying. Is when these is below the historical mean, it actually makes sense to do that. Whereas on the other side, when vol is extremely high, you're better off often times just selling the puts versus buying the underlying and collecting that premium. And because if it goes any lower, another standard deviation lower, that's like the deal of the century, assuming you've done your fundamentals right. And if it doesn't, you collect a nice premium to wait through the chaos. And, and other than like, that's the most notable example I think in terms of how more directional traders can use this, and they should be aware of the level of the vol because you don't want to overpay for a volatility like I did back when I was a rookie options trader on the long side. And on the short side, you don't want to underpay for it because the payouts or the options are mostly zero sum. More times than not, the seller is going to win. But when the buyer wins, the gains make up for all the times that the sellers did it. So what are your thoughts on how directional traders can utilize this type of perspective to help them be more smart with how they use options?
Yeah, so I would say that, so this is actually, this is in a large, in a large way, this is the problem we're trying to solve with the software. Is that we're, what we're trying to do is give people a, the volatility lens. Like I said earlier, most directional traders usually don't have an opinion about the volatility because that's not, that's not their expertise. So they are coming to the market, they have a bias, they they want to go long or short the underlying. And so what they do is they look at, they look at options as these just little directional bets. It's like, there's a, back when I was a long time ago, back when I was like 21, 22 years old, I had a friend, I was a new, I was a trainee at SIG or whatever. And I had a friend that was, he was in a residency to be a doctor. So we would go out on, you know, Friday night or whatever. And he knew that I was doing that work, and I know he was trying to get to his residency. And he would joke around with us like, how's it going over there with you guys in your puts? And it's, I always laugh at that even today because it is actually how most people think of options. They just think about them as calls mean go up, puts mean go down. And they just think about them directionally. And what you really, and what we're trying to show people is that options are fundamentally and always about volatility. So it does not, you can divorce direction from volatility. If the option's price is high and you're bullish, you can do lots of things. You can sell calls and buy the stock, which is the equivalent of selling a put. And you can pick where on the surface you want to do that. If you think the option is cheap and you're bearish, you can buy puts. If the option is cheap and you're bullish, you can buy calls. But no matter what the option market gives you, there is something to do. Like, as, as long as if you have an opinion on the option and you have an opinion on direction, there's always something to do. And that's what we try to show people is that you don't want to come to the market with this like monolithic point of view, like I only sell calls, I only sell puts, like that's all I ever do. It's more of the option market is presenting opportunities to you, and you can marry that with your directional bias to find the right trade. So what we're trying to do is make a directional trader be vol-aware and be like, hey, you have this bias. Fine. Now we can just walk through a flowchart and say, okay, I'm bullish, the vol is high. Okay, can sell calls and buy the stock.
Yeah, that's kind of how I try to do with my own process. It's, I, I use options for my, my clients in selective circumstances, mainly for hedging, but for more speculative ones, sometimes on the directional area. But I always want to be vol-aware because if you overpay for vol, it greatly affects your risk reward payout. Totally. And then the next thing I want to speak about, let's go to this example. And just as a disclaimer, I have to say, like, nothing we're talking about is investment advice. Please do your own research or retain an advisor to help you with your specific investment needs. And if you have any specific questions about your own finances and portfolios, instead of commenting them here, just reach out to me directly through email or my website. As for an example, though, let's talk about covered calls. I did a video criticizing covered calls last year in December, and I kept, I keep getting asked a lot of things about like Jeppy and these similar type covered call ETFs. And a lot of people just perceive them as like a free 8% return, like buying like a high yield bond without the default risk. Whereas I don't think the real payout is that great. And I'd like, and you're better at explaining me because reading your post is what inspired me to make that video. What is your thoughts on the the covered call risk reward payout and why isn't it as great as it is commonly perceived by retail traders?
Yeah, so this has been a bit of a, a little bit of a hobby horse of mine. I've written multiple posts about this topic, trying to kind of peel the orange from a few different angles to try to make it clear. Let me give this a shot here. So, so first of all, the whole covered calls thing is incredibly popular. And I think that there is, there's a large incentive to promote them because, you know, whether your person is trying to sell subscriptions, or whether a brokerage or whatever is trying to get you to churn option contracts 12 times a year by selling these calls over and over again, whatever it is, there is an incentive to promote people to do this. And the incentive comes from the fact that when you sell an option, you usually win. Which says nothing, as you know, like about the expectancy of the trade. It's just that you happen to probabilistically, you're probably going to win. So you can kind of, if you are devising, let's say we're being very cynical and says, if you were devising a grift, you would always start with something that won most of the time because that's the easiest place for the grift to hide. So there's this big incentive to push selling calls. And this whole framing as you're selling this option for income, this is what really sort of irks me because to call it income, I think is really disingenuous. I, I'll give an example of why it's disingenuous. Like, let's just take a, a special situation stock. We'll say it's $100 because it has a 10% chance of being worth a thousand and it has a 90% chance of being worth zero. So the expect, so the, the stock is fairly valued at 100. And maybe it's a biotech stock that has an FDA ruling coming out, has this crazy looking coin flip of it could be a, could be uh zero. If I, if somebody said, what's the value of the $500 call? Well, the $500 call has a 10% chance of being $500 in the money. So the $500 call is worth $50. If I go and I sell that call for $40, have I made any income? And I would say, in a pure cash flow accounting sense, it looks like income because money comes into my account. But I destroyed value by selling something that's worth $50 for $40. And that's obvious because if you play, if you did this 10 times over, you would see that the expectancy was negative. If you played that game 10 times and the stock hit a thousand on one of them, you would be net P&L negative on the entire strategy. So if you sell something just because you collected premium upfront, doesn't mean it's income. The point is, it's only income if you sell it for more than it's actually worth. So, and that really kind of goes back to a point that I think is important, which is like, with trading in general, you really need to think about these things as sort of like a repeated game. If somebody goes out there and they sell a 25 delta call every month, that is pretty similar to just selling 25% of your stock holding every month. It's just that the shape of the payoff looks different. And you can tell that you're short, you can actually understand this idea of being short vol or long vol from that counter example where you say, if I would have just sold 25% of my shares and the stock would have went to zero, I would have been better off than if I was long 100% of my shares and just sold a call option. If the stock price doubled, I would have been better off to only have sold 25% of it and rode the other 75 up 2x rather than selling the call. So on extreme move, I would have been better off to sell a portion of my holdings rather than sell the option. So you can see that in either direction, you're short vol. Yeah, so the covered call world sort of hides behind like, oh, if you go up, you're going to be happy anyway, if the stock gets called away. Well, if you do this on a repeated basis and you keep cutting all your longs, you're going to be sad because nothing is cutting your short. Nothing is helping you when you lose all your money. Like nothing is saving you in that case.
Yeah, because I've ran the numbers on this and I, I, I'll have linked to the video in the description. But basically, if you did this on the S&P 500, most, and your average yield was like 7% on covered calls, you would, most of the most up years in the market were double digits. So you're always giving up something. And the reason why the market average, yeah, the market average is say 7% over the last 20 years. And the reason is because it goes up double digits every up year, and then the down year goes down 25 to 30. So you're still going to gain, you're going to take most, eat most of the loss, but you're going to be giving up most of the upside.
100%. I, I, I always kind of think it's a strange choice because the reason the stocks are in your portfolio is because they have this really large upside. As a matter of fact, I think if you go back, like look at the history of stocks, like, you know, the average life of a stock is not like forever. Most stocks actually go to zero eventually. Like that's it. That's the other thing is the distribution. Like if you're going to do this, you should sell the call to buy a put and to just lower the cost of hedging. If you, if you have like cost basis or other reasons why you need to do that.
Yeah, I, it's, it's, for, for me, it's like my, my, I'm often, I guess I just, this is, I guess what I wish people would do when it came to covered calls. It's to just get rid of the framing that this is, I'm selling these calls for income because that's just an illusion. It's not income. And instead, focus, if you want to sell calls, it's okay. Let's just understand why one would sell calls. And if the thesis is this option is priced, that's a totally fine reason to sell a call. But that's not really what the discourse is. People are trying to be like, oh, no, it's like free money. It's like, no, there's an exchange of value going on here. This option is worth something. And just because you sell it for some positive amount of money doesn't mean you actually made a profit.
Yeah, it's kind of like in the mid-20s, like I was in the hedge fund capital raising world. And they would always have the funds that always have the best Sharps and the best Soros were these vol selling strategies. They would sell vol and they would have very smooth returns and they never, didn't really have any real drawdowns. And they looked perfect for allocators. But then whenever you had like a giant spike in vol, all these firms would go bankrupt at the same time. Like I remember in 2018 during Vol, like in February, there was like everybody, like they were getting rich buying XIV, if you remember that ETF. And then one day it just didn't, the volatility went up for some random reason, up 50%. Since it's double short, you're, everybody got taken to the ambulance. It was done. And like that's like, it seems like that a lot of institutional allocators have wisened up since and don't really buy those things. But that seems to be like the same play on the institutional level, are these sell type alternative funds?
Yeah, I mean, we see it. I mean, this, this kind of, you know, sort of like carry hogging, yield hogging idea. I mean, it exists in other markets, not just purely an options. I mean, even if we look at like, you know, these 15, 20% yields on yield, like the yield for stuff in crypto. I mean, it's all a variation of the same theme. You are taking, you are getting paid handsomely to take a very skewed bet. That's essentially what's going on there. And so I, I, I don't, it's just that the covered call discourse does not look at it that way. And it's not as, it's not as extreme. It's not obviously as extreme, but it's, it, it does mask what's actually happening, which is you're just doing a vol trade.
Yeah, if you really look at it, and this is gonna kind of, we're gonna zoom out to the macro now, that kind of every trade in the market is a vol trade. And even beyond that, every like life decision is essentially a volid decision. I remember back when I worked on the desk with you, I read this article from Chris Cole, Volatility and the Prisoner's Dilemma. And it's about this idea that basically every decision you're making is either a long vol trade or a sell vol trade. Like you're either paying a small amount that you're likely going to lose, but you get a big payout in the event you're right, or you're getting a small piece of gratification now, and you lose big in the event that the tail event happens. Like a good example of this for the long vol would be like, if you're a single guy and you ask a woman out on a date at an event, like 95% of the time you're going to get told no, but the cost is a little bit of your dignity. But then there's maybe a 1% chance that you meet your future wife, and it pays for all the rejections. And then the opposite side is like driving without a seat belt. Yeah, it's more comfortable, maybe to drive the car without a seat belt, and you'll be fine 99.5% of the time. But then the one time you get in a car accident or hit the break too hard, you're flying out the windshield and you're dead. So the loss from that is worth more than all the minor joys of being able to drive without a seat belt your entire life. And it doesn't just apply to these two examples. Like every decision that most people make fits into one of these two frameworks. And I was wondering what you think about this concept that basically every decision you make is a vol decision.
Yeah, so here's what I'll do with that one. It's a, I'm going to piggyback off of some of my training. So, you know, I, I started at SIG, famously or infamously, or your at least in our little world, like Jeff Yass has, um, uh, he said that you cannot be a sound decision maker without understanding option theory. This is, I'll say that's a heavy-handed way of saying that, but I do think that what he's really pointing to when he, when he says that is that decision making is a practice that has inputs into it. So, for example, like what you just described, you talked about the understanding the asymmetry or the risk reward of a choice. An option trader would call that skew. So you could, so like that's an input into your decision. It's like, I'm looking at this decision, what's the risk reward? That's one component of it. That's the, what's the skew of this decision? A second thing you could say is accounting for the opportunity cost. So if you, if you look at in options theory, we have this idea of like, in in arbitrage pricing, we think about the cost to replicate. So for example, if for actually think about a futures contract, you go out to buy a futures contract. If you tell me that there's a futures contract, if I go buy an S&P future and I don't have to put any money down or just a small deposit down to own this future, well, then if I buy that future and I don't have to put any money down, then I could have taken the money I would have put into the S&P 500 and I could go earn interest on that money plus have the exposure to the S&P future. So if that's the case, then if I'm just comparing buying stocks, I'm thinking, wow, my opportunity cost is really high. It's the interest that I could have earned if I would have just bought the future instead. But because of that, the future trades at a premium to the spot. So there's no arbitrage there, but the, the entire pricing framework was aware of the opportunity cost. So if you think of, so options theory very formally incorporates the opportunity cost to how to think about the value of anything. Another thing that comes out that that's very important in decision making, a third component is appreciating second order effects. I, I had read this, it's one of these things that I don't know if it's true or not, but like I read this thing called the Cobra Effect. And apparently like in India or something, they had there was a big problem with snakes. Like this sounds like a fake story, but like it sounds like there was a big problem with snakes. And so they put a bounty on the snake's heads and said, if you turn in the snake, we'll pay you, you know, this many rupees or whatever. So the first order effect is to say, oh, if we impose this bounty, we're going to catch a lot of these snakes. But the second order effect is people just start breeding the snakes and then killing them. So you end up with more snakes than you started with. So it's like appreciating that second order effect. And like in options, what is the second order effect? It's Greeks. It's just gamma is the second order effect of Greeks. So all these things that you have to think about when you make a choice, the risk reward, the opportunity cost, the second order effects, all of those components, they're so formalized in option theory that you can kind of see how thinking about options helps you be a better decision maker. You and I both have a, a presence on the internet. You have a YouTube channel, I have a Substack. If, if you think about having something like a Substack, the decision to paywall or not paywall is an options decision. If I paywall, I make more money today, but if I, but my reach is going to be smaller because I've paywalled. So the question is, is the second order effect of the fact that my stuff gets shared more because it's free, that some inbound that I may get because the reach was further, a bigger payoff than what I can harvest today from putting a paywall on there? I don't, I pay, I write a lot. I paywall a tiny fraction of the amount that I publish. And it's basically right out of this options thinking. I think the reach is more valuable than like the coupon I can clip today.
Yeah, I mean, this also reminds me of Howard Marks wrote a book, I think, The Most Important Thing, which it's all about second order effects. And I think the biggest flaw, really, in modern society, particularly in the United States, is people don't see second order effects very well. Like, yeah, I've often thought about like, it's like one of the, like joking kind of ways of kind of characterizing like the, you know, I'd say like the right thinks everything is a slippery slope, and the left thinks that, and the left and the left ignores second, second order effects. I mean, it's kind of like if I, like put a label on both sides, that's often how I've felt about that.
That's actually a great way of putting it. And I think that second order effects really, I've really built this entire channel on analyzing second order effects. That's not all I do, but it's at least like half the videos. I either directly or indirectly bring up second order effects of things going on in the markets and the economy and what they mean for the broader culture. Like, I think the biggest second order effect that nobody really anticipated was TARP. Like, in the first order effect, the banks actually made the government a profit. They paid back very high interest rates, all the money that they lent. But you set the second order effect precedent, is that look, even if these most big irresponsible banks who made bad bets on the mortgage market, they're going to get bailed out. And even they're the most well-capitalized people in the world, why shouldn't I get a bailout? And we literally have a political culture, a social culture, all built really basically from TARP to present, that everybody should get a bailout. Nobody should be accountable for their own fortunes. Whether I mean, the GFC is, there's a direct line from the GFC to Satoshi, right? So it's, it's 100%. Like I completely agree with you. I think that the, the artifacts of the GFC were so, they're still really being felt today. I mean, I think it kind of altered the course of economic history here.
So I, I would totally agree with you on that. And speaking that kind of leads to the next point I want to make is that a lot of the impact of the second, of the GFC and the loose monetary policy that we've had for most of that point since then has created like this culture of financial nihilism. I don't know if you're familiar with Thomas King's paper about this.
I'm not.
Okay, it's the idea that a lot of younger people, particularly like 35 and under, they feel like they can't save enough money working hard, the honest way, or investing because valuations are too high for both stocks and real estate. And if they ever want to be able to afford a house or to afford retirement or to afford to have a family, what they think that they need to find something that's going to get them more juice, like the 30% plus return. This explains like the mindset towards crypto, the mindset towards like parlays and sports betting or zero DTE options. It's like, look, I need these returns. I don't care if I lose $2,500 betting on this because if I'm right, I can make a million, and it will actually change my life. Whereas if I put that $2,500 in an index fund and it's worth $55,000 10 years from now, that doesn't really move the needle for my long-term fortune.
Yeah, I was gonna say, this is what's, what's, it's not amusing, but it's, I, I find this kind of resonant because I think you, one of the things that I, I feel like when I look around, it's, it's almost like being serious, trying to do good work, being humble, things that are basically things that date me as because I think that these are virtuous things. It feels like if you, if these things matter to you, you're a sucker. How I feel like when I think it's very hard to look at, you know, somebody that the, whether it's the SPACs and the guys that pumped the SPACs, or whether it was this, the, the, was the Huotuo girl, I don't even know how to say this. I don't want to go there. But, you know, she launches the coin, and of course, this is not an investment, it's just a pure gambling token. And, but, you know, if it enriched her, and you're kind of, I think people look at this and they say, what's the point of like working really hard if this is what we're rewarding? Just, it's common Gen Z circles that like they think that the market is just a game of random chance. And so like that's why also you have quiet quitting and people doing the minimum because it's like, you're not getting rewarded to advance. And then this starts to age me too, because I feel like at least living a life of integrity, even if it takes me longer to get ahead, at least I could sleep at night and know that I'm actually doing my best to be a net benefit to society.
Yeah, so I, yeah, I would say like, I, if I had to like think about my view here, it's really, I'm, I'm sympathetic to this kind of falls into like, I'm sympathetic to this nihilistic view because I do see the same things. You're looking out there and you're saying, like, my God, do we just live in an age of unserious grift? And then you about the tech unicorns up in San Francisco for most of the 2010s where these companies are getting just for being a dropout Stanford, you raised $10 million bucks for a venture that has nothing but vapor.
Yeah, but even then, I mean, you know, there was the joke, like this is another ZIRP phenomenon and all that. But then, you know, we have a real interest rate the last couple years. And it does not, and this year, you know, the insanity of 2021 feels like it's, it's kind of, it's reemerged. And our interest rates are much higher. It's not, I think this is goes deeper than ZIRP. It's, it's, it's a, it's cultural in some way. I, I think what I would push back on, like, and this is just me, maybe this is me being a dad, bad, but like pushing back on this, um, that financial nihilism. I, I, I'm sympathetic to why people might feel that way, but I think it's, I think it's a bit of helplessness to adopt the viewpoint to think that you have to gamble your way into into a better station in life. Because at the same time, you know, there's less gatekeeping. You're, you know, you've got a YouTube channel. It took you three years to get to where you are today on that. It's growing. Nobody could stop you from making the YouTube channel.
Yeah, so this is, I do think that there's a lot of opportunity out there. Nothing's easy. Nothing was ever easy. And it's not, there's not, it's going to be competitive the whole way. But there is for somebody that wants to work hard and do well, I think that you have way more opportunity. Things are very democratized in that regard, relative to the way I think people like to look back and think like, oh, it was, there was like some halcyon time where like it was easier or something.
Well, yeah, I actually think for your kids' generation and whenever I have kids, my future kids' generation, this, that will be the easy time, just because the nihilism is creating low birth rates and less competition. But like, I know like when I graduated from college during the GFC, those, most of the big investment banks and hedge funds and long-only mutual funds, they only wanted to hire people from like, 10, like select schools, like the Ivies plus like Stanford and University of Chicago. And I went to a quote-unquote non-target at UCSB. And I was just told, you're not smart enough to be here. And I found my niche. The options firms were more merit-based. They just wanted more just like talent and deviant thinking. And so even in the, and so like today, I see these same big prestigious white shoe investment banks and hedge funds and mutual funds, they're recruiting from the UCSBs and the UCLA and Notre Dames of the world. They're not just going after the Ivy Leagues. It's a lot more, I think, meritocratic. Just that's just one example is the buy-side in the financial services industry. I don't know if you've seen that trend among hiring in our industry, but I've definitely seen the case.
I, I think it's, well, I think one of the things that's happened, it probably, I actually would say that's probably less true in the prop firms. It's different. The prop, there's been a lot of consolidation in in the prop firms over the last 20 years. So, you know, SIG, Citadel, and Jane make up a very large part portion of like the market share, say like in options. And they're all competing for the same kinds of people that an AI company is competing for. It's like they're, they're going to Princeton and saying, give me your top mathematician. That's, and they'll pay them a ton of money at 21 years old. And the, you know, in a sense, these firms are basically looking for X-Men and X-women today. They're looking for super accomplished people. Now, that that said, I think that the antidote to this, even if, if, if we were to say that there was a bunch of credentialism that felt insurmountable that was creating more nihilism, I would push back against that and say, well, we live in the show your work era. You can just go on the internet and show your work. And if you build a following and if you do good work, you, you, you can create quality. I'm very active on on X and I've watched it repeatedly. People that have kind of come out of nowhere, gotten demonstrated that they were very smart and very hardworking, built up a following on X and parlayed their virtual status to great jobs and great positions.
So yeah, I kind of did that with, in a way. What's that? I led at Seeking Alpha when I was first out of school before I broke into the industry. And that's how I got a lot of my original breaks as people saw me there.
Yeah, so it's, it's, I think you just have to remember like, just nobody's going to hand you anything. So if, if this road, you know, if this road feels blocked, you got to route around it. And I just think that there's more ways to route around it today. In 1985, there was less ways to route around it. And for people that kind of romanticize those times, I, I don't, I think that's, I think that's an illusion. I don't think that it was better. I, I, I grew up in a place in a very like insular town in in central New Jersey. I was very underexposed to what was in the world. It wasn't like I could go on the internet and expand my horizons. And I think that, and I've like actually, I think in some way, I felt it as an adult. Like I, like being an adult way more than I like being a kid. And I think it's because I felt a bit trapped when I was younger. The world felt small and I felt like I didn't necessarily belong where I was. And so that's my counter to all this, you know, all this nihilism is like, you choose what to focus on. Your attention is under your own control. And every resource is out there, often times for free today. But you need to be resourceful. You need to like, you know, have a strong sense of personal agency. And this is a great time for you.
Yeah, and that leads to the question I was originally getting to, but this was a great tangent. Was has the financial nihilistic attitude in people's higher propensity to gamble, quote unquote, if affected the how options are priced and how people are managing risk?
I think, well, so we learned some new things. So in 2021, we learned just how how screaming high calls can go as there was all this lotto ticket type driven purchasing. And then we saw the ability for Wall Street Bets to essentially organize in in a digital forum and create its own momentum. And that, I, I would say on the first leg up on all of that and the first leg up on GME and all those things, obviously, I don't know for sure, but I would be shocked if the market makers did in a pretty substantial hickey on the first leg. Now, the trading firms, their whole MO is survival. They know how to manage risk, they know how to adapt, and they know how to size things. So if they took it, and then they learned, and this becomes part of their pattern library and say, oh, sometimes people are going to band together and try to do this. So what they might do is they might raise the vol aggressively when they first see the first signature of that kind of order flow. And if you raise the vol aggressively, you will, the vol will just be too high. The
options will have less gamma mechanically because the vault is so high and that trade won't work anymore. So what what happens is like I always say, you can beat a market maker once, but you can't beat them twice because they've seen the pattern. And so I would say that the the way that single stock calls were priced, they they they caught a new bid. People probably be less wary or more wary about being short them because of what's happened over the last few years.
Overall, I think this is a bonanza for the prop options trading firms because you have a bunch of no essentially noise traders coming in there and punting. And you can kind of see it. I think I saw that Jane Street has made $14 billion through the first nine months of this year after the last two years being being a $9 billion years each and those was those were records and now they're $14 billion in 9 months. I think that the prop trading firms are probably crushing it. So I think all this activity has been good for them.
And the but all the ways in which options have to have been repriced based upon the way retail's behaving, I think does get incorporated into the market very quickly. So like I said, call call options are are they're going to be actually it's a good argument maybe to be selling covered calls now because they are they might be more expensive on average than they have been through historical periods. I I wouldn't take that as advice and I'd go study this rather than you know, I'm just guessing.
Overall, I think that my hope is that you know, you've get a bunch of people that came here for the gamble and some of those people, a small subset will peel off and be like they'll you know, people probably lose money because they didn't know what they were doing. But some group of those people will be curious and say, you know what, I actually like to learn more about how this works. And some set of the people that came over just to gamble will become dedicated learners. And I think will will find that options investing, options trading, it's a very cool discipline. It's very cool thing to try. It's very interesting. It's a bicycle for the mind. It's a great way to express a very surgical view on something.
I don't think that option I don't think most people should be trading options though. I just I think like the people that have seen it and have decided, you know what, I actually want to get good at this or I actually want to try to get smart at this. Um, you know, there's there's never been more resources available for free on the internet to learn. Um, all the stuff that's exists about options today, the fact that people even know what a Vana, what Vana is or what gamma is, that's more common to know that today speaks a lot about how the knowledge has been democratized over the last 15 years. Yeah, I mean, there it's easier now and ever to learn about anything really in the financial markets. This channel is just one example of many like free outlets where you have that.
Um, I just still think options are best used sparingly even by professionals on the directional side because given how we've discussed before, it's it's a it's most of the time it's a pretty efficient market. Like I would argue the fall market might arguably be in some ways more efficient than the directional market just because of the mean reverting nature of it. Yeah, I think that there's there's probably less opportunity for it to be displaced versus like I said, yeah, mostly because it's a smaller market and there's a lot of competition in that smaller market. But the it still gets because it's a smaller market, the liquidity like you do get more sort of like vacuums in liquidity. Yeah, and that's those displacements and liquidity is where the sort of opportunities arise.
Whether it's correct for somebody to go seeking that really, you know, you really need to have a framework. You have to have an approach for for for doing that and you have to understand how to manage the risk around those kinds of trades. But that's that is sort of the flip side is like the LI I mean, the options not being as liquid as an underlying a double-edged sword. It's both danger and opportunity.
And then before we wrap things up, do you have any final comments that you'd like to say to the viewers about fall options markets? Anything?
I would say that I'll just kind of reiterate my view on options, which is that that that they are surgical tools. They're priced for specificity, meaning that if you have a view on a stock and a time frame with that view, an options price is highly levered to that that outcome. But that also means that if you're very wishy-washy about what your views are, you probably just want a blunt implementation of your trade, which is probably the just trade the underlying rather than the situation where you're bearish on a stock but you're really wishy-washy on your you don't know what the end point is basically ex end points to suce. You don't want to buy, you know, the worst thing that happens is like you buy and out of the money put, you overpay for the VA, you're completely right on the stock going down, and then you still manage to lose money. Yeah.
And then how can people find you if they want to read more of your work or learn more about your AI software or really anything else you're doing?
Yeah, the two if if you want to go right to the software, it's moontower.ai. The great thing about that is the learning materials for that are all free. So so there's a lot of education that's available there. And then and then the main place where I I really live is the substack, so moontower.substack. And from there you can find all my writing, you can find my social media, all that stuff. But moontower.substack is a great place to start. Yeah.
For those who like my substack, I think he would like Chris's. It's one of the few substacks that I regularly read myself. And he's all about options and also about using that option shares mindset to understand the second order effects in other parts of both markets, investing and life. So I recommend checking it out. And thank you Chris for joining us. And yeah, we'll be back with more of these interviews in the future. Thanks for watching.