FTX is where gambling and Wall Street collided

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One of the secondary elements in the sudden collapse of Sam Bankman-Fried’s $32 billion crypto empire are the gaming-related tweets of Sam Trabucco, the former co-director of Alameda Research, the trading arm of FTX. . Trabucco claimed to have learned his trade by trading cryptocurrencies at the blackjack and poker tables. This revelation was treated as a novelty, alongside reports that FTX’s corporate psychologist thought the 20- and 30-year-old employees were undergendered nerds and complaints that the premises were overpriced. real estate in the Bahamas when FTX was booming. But I think the history of Trabucco’s game deserves more serious attention if we want to understand what happened at FTX.

When I grew up in the 1960s, the only legal gambling in the United States was crowd-controlled Las Vegas, along with horse racing and bingo. Small-stakes recreational gambling was widespread and generally tolerated – if illegal – but public attitudes towards people who gambled for significant personal stakes were strongly negative. You were either a winner or a senseless loser. Winners exploited others’ weaknesses at best and were cheaters at worst.

Mindsets changed dramatically over the following decades and a new stereotype was born: the advantage player who could win consistently without cheating and exploiting weak people. The archetype was math professor Ed Thorp, who wrote “Beat the Dealer” in 1962 on blackjack card counting and “Beat the Market” in 1967 (with Sheen Kassouf) on applying the same principles to blackjack. financial markets. The sensationalized adventures of Massachusetts Institute of Technology blackjack teams and clever game theory experts who replaced the “leather Texas road bettors” at the World Series of Poker were part of the fuel for the new image.

The flood of high-stakes game players on Wall Street began in the late 1970s. Mortgage-backed securities and derivatives required a level of math beyond the capabilities of bond and stock salespeople with college degrees. from the Ivy League (not math or science) that filled the investment banks and trading houses. But most people trained in math lacked the intense focus on money, as well as the psychological and risk-taking skills necessary for successful trading.

The only candidates available were from high-risk gamblers who had honed their skills in poker, blackjack, gin rummy, backgammon, bridge and sports betting. I once estimated for my book “The Poker Face of Wall Street” that at one time 40% of traders on the American options exchange were gambling players recruited by a network of bridge and backgammon, and some of the remaining 60% were also game players.

The main reason these people were successful was not math or psychology proficiency. It was the experience of living off high-stakes calculations. Most of them had gone bankrupt once or twice, learned important lessons, and come back to win big. They knew that betting big when you had the edge is as important to survival as cutting losses. They were accustomed to making sound decisions under intense pressure and at the highest stakes, where one gross miscalculation could wipe out the profit of a hundred good decisions or even end your career forever.

Over the years, Wall Street has found other sources for quants. The fall of the Soviet Union brought in armies of communist-trained mathematicians, and the cancellation of the superconducting supercollider brought in physicists. Wall Street became one of the standard career options for students who were good at math. Many of these people had never played, or had never played for high stakes, or had never won consistently, or had never experienced winnings. They had to learn their risk lessons from the Wall Street stakes, which I personally think was a bad idea.

Based on his tweets and other public information, Trabucco appears to have been a serious and successful poker and blackjack player. He also traded for a few years at Susquehanna International Group, a firm known for cross-training its traders with poker and other games, and another reason to suspect Trabucco understands risk taking. When Alameda was supposed to be a very successful quantitative crypto trading firm, he seemed like exactly the kind of person you would want in charge. Skeptics didn’t imagine Alameda was losing money, as it now appears. Speculation was that he was making too much money, cheating by top FTX exchange clients.

Trabucco left Alameda in August, about three months before his losses became known. Public opinion has changed 180 degrees like it used to do Alameda traders are the smartest guys in the room Alameda was ruled by idiots who made very high bets that the crypto would never fall. But the backgrounds of those involved, as well as the opinions of experts who have reviewed FTX, are strong arguments that the truth lies somewhere in between.

Currently, FTX’s biggest problem seems to have been embezzlement of customer funds, although this has yet to be proven or officially alleged (but it appears to be lacking enough money that it is difficult to credit alternative explanations). But a separate and interesting question is whether Alameda was good at trading or not. Did he take excessive and miscalculated risks early on and use the FTX exchange plus the crypto bull market to cover mistakes? Or did he make profitable, risk-controlled trades until the rest of the company imploded after Trabucco left?

For many people, Trabucco’s background only reinforces old notions about gambling, and the collapse of Alameda is just another illustration of the old gambler’s ruin principle. But in the modern attitude that recognizes the similarities between risk-taking in the casino and the financial exchange, if Trabucco was a consistently winning high-stakes gambler, that makes the latter theory – that Alameda fell victim to the problems of FTX rather than their cause – more plausible.

This column does not necessarily reflect the opinion of the Editorial Board or of Bloomberg LP and its owners.

Aaron Brown is a former Managing Director and Head of Capital Markets Research at AQR Capital Management. He is the author of “The Poker Face of Wall Street”. He may have an interest in the areas he writes about.

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