Tag Archives: financial market

Episode 6. The decade when greed became good.



We can’t make sense of contemporary stock exchanges without understanding the huge changes that swept through finance in the 1980s. This episode explores those upheavals at the level of states and markets, and the of lived reality of Britain’s markets: the collapse of Bretton Woods, the Iron Lady’s reforms, striking miners and a new kind of investor called Sid. This really was the decade when greed became good.

Transcript

Under the great dome of the Old House, close to the edge of the floor: here you would have found the post-war boom in the shares of dog-tracks, and here you would have found a remarkably tall man, one Sidney Jenkins, sometimes known as ‘King of the Dogs’, reputable dealer in all shares leisure-related. On 1 April, 1960 – April’s Fools day – Sidney Jenkins and his son Anthony formed S Jenkins & Son Ltd. Sidney’s son John started work as junior in the early 1960s.  It was, says Anthony, ‘a family firm and everybody knew one another.  We knew when people had families and passed their driving tests, and they were good days.’

The firm specialized in leisure stocks, dog tracks and the holiday camps – Butlins and Pontins – that boomed in the days before cheap air travel opened up the Costas. This was often described as the ‘spivvy’ end of the market, but it lacked the defining characteristic of spivviness – financial sharp practice. Sidney Jenkins may have been ‘King of the Dogs’ but his firm was conservatively run. It had a good reputation and deep personal connections to the directors of the businesses whose stocks they traded. Jenkins had a horror of overtrading and the ‘hammerings’, when gavels wielded by the Exchange’s top hatted waiters sounded the end of a firm and the confiscation of a partner’s assets. Jenkins eschewed excessive risk wherever possible. The firm never borrowed money or stock: ‘Father’s attitude was “I like to sleep at night,”’ says Anthony. ‘We earned a good living out of the business and the staff all did well, and Father’s attitude was “Why should I over-trade?” That was something that he was always frightened of.  You’ve got to remember also father saw a lot of hammerings, a lot firms went broke in his time.’

People remember the Jenkins family for two things: for being tall, and for being decent. One former broker’s boy remembers going down to the floor on his first day unaccompanied – an unusual occurrence – and looking helplessly at the crowd: ‘I was sort of wandering around, a little bit lost, and a very tall man bent down and said, ‘Your first day, sonny?’ and I said, ‘Yes sir’. He said, ‘How can I help?’ and I told him, and I showed him the list of prices I’d been obliged to collect. That man was Sid Jenkins.’

The family were generous to a fault: ‘If you had a charity that you wanted to raise something for’, said another broker, ‘they’d often put a bucket in the middle of the floor on a Friday afternoon and fill it up, or make people fill it up.’ In all, they had a good name, and on the floor of the old Stock Exchange that mattered.[1]

I tell you this anecdote for two reasons. First, John Jenkins is a name we will hear again in coming episodes, because he actually did build a stock exchange. And second, it just captures the state of finance at the onset of the nineteen eighties – a bit threadbare, small-time, parochial. Careful – the kind of world that tidied the books every night and slept soundly on the takings, however meagre. Sid Jenkins died in 1981, and Anthony briefly became senior partner. A year later John became senior partner. That’s in 1982, when S Jenkins & Son was still the smallest firm of jobbers on the Exchange. In 1984 this same firm made a million pounds in a few minutes of trading. In 1986 it sold out to investment bank Guinness Mahon and thence to Japanese Giant Nomura. In 1987, the firm – now a trading desk in a global bank – lost £10 million in a day’s trading and clawed most of it back over the following few.

Something, it seems, has changed…

Hello, and welcome to How to Build a Stock Exchange. My name is Philip Roscoe, and I teach and research at the University of St Andrews in Scotland. I am a sociologist interested in the world of finance and I want to build a stock exchange. Why? Because, when it comes to finance, what we have just isn’t good enough. To build something – to make something better – you need to understand how it works. Sometimes that means taking it to pieces, and that’s exactly what we’ll be doing in this podcast. I’ll be asking: what makes financial markets work? What is in a price, and why does it matter? How did finance become so important? And who invented unicorns? You know, at some point I’m going to have to answer that question – thank you Dr Cheded for reminding me…

So far, I have set out four key themes for understanding financial markets. I have sought to show you how the finance that dominates our world is the result of colliding factors: social, political, material-technological, and organizational. I’m telling you the story of our exchanges as a lens on finance, because we can’t understand how markets are without knowing how they came to be like that – markets have histories and path dependencies, like any other organization or even person.

And I don’t think that it’s possible to understand contemporary markets – let alone think about building new ones to make the world a better place – without taking stock of the colossal changes that struck the markets in the 1980s. In Britain, change centres on 27 October, 1986, the day named ‘Big Bang’. But that day, though it turned the world upside down for those who lived and worked in the London markets, is only a pivot in a process of change that spans three decades, from the 1970s onwards. I want to try and tell that story at the grand, theoretical level of states and capital and politics; and at the local level, what it felt like on the ground. There are other stories, too, the massive digitization and automations of exchanges, moving bodies from trading floors to desks, changing the shape of markets altogether, and the evolution of increasingly complex financial transactions that shift the power relations between finance and business forever. I will be dealing with these over the next couple of episodes. Let’s start here with states and capital, and a two minute tour of post-war political economy…

—-Timer sound—-[2]

The period from the late 1940s to the end of the 1960s saw sustained gains in productivity and quality-of-life on both sides of the Iron Curtain. These came from an expansion of industrial employment as agrarian workers moved to the cities and took up jobs in factories. An economist would call this extensive growth, adding new factors of production, rather than intensive growth, getting more out of the same resources. In the liberal West a political-economic settlement centring on the Bretton Woods agreement of 1944 secured America’s global economic leadership, with the dollar exchange rate pegged to gold and other currencies pinned to the dollar. New institutions such as the International Monetary Fund and the World Bank came into being as international banks that facilitated this global – or at least semi-global – structure. Weaker economies could hold dollars in their reserves as a source of financial stability. Fixed exchange rates and a strong dollar meant relative luxury for the United States, particularly in the form of cheap, imported oil, partly guaranteed by exploitative political pressure on the producers in the Middle East. International currency flows led to a growth in global financial markets, and by the 1970s US regulators had become increasingly inclined to laissez-faire regulation. If you want to go looking for a time when America was great – and you don’t mind overlooking its foreign-policy adventures under Kennedy and Johnson and the constant threat of nuclear annihilation – this was probably it. Of course, it couldn’t last. These international and now ungovernable financial markets pressured the overinflated dollar. In 1971, America abandoned the gold standard and tried instead to devalue the dollar to improve prospects for its exports.

This, in turn, caused massive collateral damage to those developing world countries holding dollars in their central reserves, and since many of them produced oil, they clubbed together and put the prices up. The Shah of Iran remarked that ‘the industrial world will have to realize that the era of their terrific progress and even more terrific income based on cheap oil is finished.’ (This comes from historian Daniel Sargent’s work, as does much of my potted history – and as always, full references are provided in the transcript on the podcast website.) Multiple economic shocks followed across the West, with Britain one of many countries struggling through a toxic combination of recession and inflation – from January to March 1974 the country even endured a three day week as coalminers, whose wages had been eaten away by inflation, went on strike and coal-fired power stations ran short on fuel. We should add to this a slow decline in the influence and popularity of post-war Keynesian economics, which now seemed unable to cope with these kinds of crisis, and in its place a growing vogue for free-market, monetarist policies of the kind advocated by Friedrich Hayek and Milton Friedman. The free marketers were radical and organised, seekers of individualist utopia inspired by the writing of Ayn Rand. Their ideas spread.  In 1979, the federal reserve under Paul Volker adopted an explicitly monetarist – anti-Keynesian – policy that forced dollar interest rates upwards, leading to a rush of capital back home to the US and a stinging recession everywhere else.

There was something else at work, too. With ever less value to be had from industrial production, so capital begins to circulate elsewhere, through the financial economy. It becomes increasingly self-referential: rather than investing in productive assets, it invests in debts, derivatives and other kinds of financial instrument. It dislikes financial assets sitting quietly on balance sheets, and seeks to parcel them up and move them around. Such assets become an end in their own right, and commercial arrangements are reshaped to produce them. Wall Street discovered new concepts – like securitisation and financial engineering, a phrase that subtly places financial models and debt securities in the same category as railways, bridges, factories and other sturdy trappings of industrial production. This is financialization, and in the mid-1980s it looked like the beginning of a new world, at least for those on the right side of the fence.

There is a just so story that Margaret Thatcher’s Conservative government tore down sacred cows and hacked through red tape to turn London into a global financial powerhouse. In truth, if the government’s policies transformed London, they did so accidentally. Historians argue that the government displayed a remarkable timidity in terms of targeting the financial sector for reform during its first term, through to 1983.

It did not want to be seen as pandering to its friends in the City, nor did it want to upset its friends in the City. But the wheels were already in motion, and the reforms of London’s exchange were in many ways an inevitable consequence of one of the earliest reforms the new government had made.[3]

In 1979 the Conservative government scrapped legislation that restricted the flow of capital in and out of the country. These ‘exchange controls’ were designed to preserve the stability of Sterling and were part of the post-war financial settlement, which had revolved around Bretton Woods and the gold standard. Now that settlement was collapsing, and in 1979 the government struck down legislation that had limited the flow of capital in and out of Britain so severely that tourists’ holiday money was restricted. Wikipedia notes an approving comment by Sir Nicholas Goodison, then chairman of the London Stock Exchange, to the effect that exchange controls had done great harm to Britain as a financial centre.[4] This is ironic, because the great beneficiary had been the Exchange itself. Currency controls had made it impossible for overseas investors to trade in the shares of British companies and protected the jobbers with their comfortable, fixed commissions.

This trade was a lucrative business, with big orders and low costs, so brokers in New York and elsewhere began dealing the shares of British companies as soon as exchange controls were cancelled. They were already in town: during the 1970s many international businesses had opened up shop in London, lured by the growing international securities and ‘Eurobonds’ market. They could cherry-pick the large orders and deliver them cheaply, undercutting the London jobbers who were bound by the fixed commission regime. The London market was now in trouble, losing its lucrative trade to foreign competition and still bound to offer competitive prices on smaller, less cost-effective deals. Without cross-subsidy the jobbers were left in the worst possible world, and they pressured the Exchange to reform its rules. The Exchange was willing, but the main obstacle to progress was the Conservative government. In 1979 the Government’s Office of Fair Trading had taken the Exchange to court over its restrictive practices. Goodison tried to open up negotiations but the Government, fearful of what the tabloids might say, declined. As the Exchange defended itself against the OFT, it became ever more entrenched in the systems of single capacity and fixed commissions, exactly what the Government hoped it would reform.

In 1983, however, the Conservatives won a second election victory. Thatcher exploited the jingoism of the Falklands War and the Iron Lady, as she was now known, had a mandate for more confrontational policy.

The newly appointed Secretary of State for Trade and Industry, Cecil Parkinson, was amenable to a negotiations with the Exchange and a deal – the Goodison Parkinson Agreement – was agreed. Minimum commissions would be abandoned. Single capacity would have to follow soon afterwards because the ability to negotiate commissions would swiftly cut out the middleman – the jobber – as brokers simply did deals between each other. The deadline for these reforms was set three years into the future, for 1986. Monday 27 October was the day singled out for London’s Big Bang.

The London Stock Exchange, you will remember, had run in a peculiar way. Its ‘single capacity’ prevented brokers from trading on their own account or settling deals in their own office away from the Exchange floor. Jobbers could settle deals for brokers but never met clients. The system, which had evolved alongside the Exchange itself over the course of two centuries, elegantly prevented profiteering, as brokers never had the opportunity to offer their clients anything other than the prices available from jobbers, while these latter were forced to offer good prices as they competed for business. In other words, single capacity and fixed commissions were part of a package that allowed the Exchange to act as a regulator, maintaining standards of dealing with ordinary investors, as well as a trading institution. The downside was that dealing was expensive for customers and that the market could only be accessed by brokers offering advisory services, whose own rules and costs ruled out participation by the everyday punter. It was, says Andrew Beeson, then a small company stockbroker and more recently chairman of investment bank Schroders, a ‘cartel’. In 1985, the prospect of life outside such a cartel may have seemed unappealing, even terrifying. Again, hindsight helps us see things in a different light: when I meet Beeson the city grandee – tall, elegantly tailored and immaculately spoken – in the executive suite of the bank, with its discreet lighting, Chesterfields and old masters, it seems that those fears had been unnecessary.

In fact, this should alert us to another vital aspect of the sociology of markets: those that have carved out profitable positions try hard to hold onto them. If they do, they soon become part of the furniture. Their advantages ‘congeal’ into the organization of markets, so that, as the sociologist Greta Krippner so neatly puts it, ‘congealed into every market exchange is a history of struggle and contestation… In this sense, the state, culture, and politics are contained in every market act’.[5] At the time, however, things looked less comfortable: the Exchange found itself open to foreign competition, with firms forced to cut their commissions to keep business.

In order to survive in this newly deregulated financial jungle firms needed to be bigger, wealthier, and able to integrate a much wider range of services. The reforms to single capacity trading and commissions were, therefore, accompanied by a third ruling, allowing Stock Exchange members to be owned by foreign firms. But what had these firms – some tiny enterprises like S Jenkins and Son – to offer that could possibly interest global investment banks?

—— Report from the ‘Battle of Orgreave’, 1984—[6]

Those growing up in the 1980s will remember the violence of industrial unrest, miners hurling rocks and bottles while police charged on horses, raining truncheon blows down on the heads of protesters. Margaret Thatcher’s reforms gutted industrial Scotland, the coal mining north-east of Britain, coal mining and engineering Yorkshire, the steelworks of the Black Country and the potteries of Stoke, in fact most of the British regions. This was class war, but class war between working classes in centres of industrial production and the newly propertied class of shopkeepers and small-time entrepreneurs that she had bought into being across the nation. It was internecine strife, and underlying it was a broader project to shift political power away from workers and to those who owned assets – from labour to capital.

The destruction of the unions through confrontation – the armed repression of the miners’ strike and the print unions’ ‘Siege of Wapping’ – was only one weapon at Thatcher’s disposal. The other, much more effective in the long run, was to greatly enlarge those on the moral side of capital, the property-owning classes, and this she did. Her political followers were exemplified by ‘Sierra Man’, worker turned property owner, polishing his car on the drive of his recently purchased council home.[7] Sierra, by the way, refers to the Ford Sierra, the archetypal affordable, mid-range family vehicle of the time. So the post-war social contract of solidarity and mutual protection came to an end alongside the economic institutions that accompanied it. New thinking scoffed at collective action – there is no such thing as society, said Thatcher, parroting the free-market economist Milton Friedman – and worshipped instead individuality and family values. Its disdain for the state, again  inherited from Friedman, saw national ownership of assets – be they council houses, infrastructure, heavy industries or utilities – as wasteful and undemocratic. The government needed to rid itself of the state-owned industries that it had inherited, inefficient, bureaucratic behemoths needing nothing less than a good dose of private enterprise and market discipline to knock them into shape.

Through a series of huge privatisations the government sold shares in these institutions – now corporations – to members of the public, often at knockdown prices that guaranteed a quick profit. No one seemed to be unduly bothered by the fact that, as citizens, they had already owned the assets that had just been sold back to them, nor that by abolishing the principle of cross-subsidy through a nationalised industry they would make it possible for private enterprises to scoop up lucrative, cheap parts of the infrastructure while abandoning the rest, a recipe for long term exclusion and unfairness. Nor indeed, by the fact that in the longer term private enterprise would be unwilling and unable to compete with cheaper foreign labour and that many of these corporations would simply close, leaving a wasteland of post-industrial despair over much of Britain.

—‘If you see Sid’[8]

Quite the reverse. The privatisations were seen as manna from heaven, pound notes raining from the sky, and generated a huge popular interest in the stock market. A new category of investor was born: Sierra Man could add a few British Gas shares to his ever-growing collection of assets. This new investor even had a name: Sid. The government commissioned an series of ingenious television adverts for the new share issues. Sid is the protagonist. We never meet him, but simply hear a series of strangers passing the news of the latest offer with the catchphrase, ‘If you see Sid, tell him’. The messengers are postmen, milkmen, men in country pubs, old ladies out shopping, all pillars of the emerging, Tory-voting, economic majority. Regional accents abound. As these everymen and women pass the message to the ever absent Sid, it becomes quite clear that it is intended for you, the viewer, whoever you may be. Economic times, they were a-changing – though perhaps not as much as all that, because the advert’s final voice-over, advising a call to NM Rothschild &Sons, is in a cut glass, upper-class accent and the established order holds firm.

—-Voiceover—

For those on the floor of the Exchange, these deals really were manna from heaven. The first big issue was the British Telecom flotation, offered for sale in November 1984. While lucky investors made a few hundred pounds, the jobbers made a killing. Though many of the jobbing firms were still really quite tiny, the government broker scattered riches without discrimination. S Jenkins & Son, smallest of all, received almost the same allocation as the larger firms, despite its complete lack of experience in the telecoms sector.

‘The boys heard about this BT issue coming up,’ says John Jenkins, ‘and they went up and saw the shop broker and said “We want to have a go at this”.  We had no track record at all in British Telecom, nothing, or any electronic business, nothing at all.  They went and saw the shop broker and all of the market makers were issued with the same amount of stock…900,000 shares in British Telecom, which we sold first thing on the morning of the float and we took nearly one million profit.’

‘We actually finished up with something like 950,000 shares,’ says John’s brother Antony, ‘and when you think that Akroyd and Wedd all the large people got 1.4 million, for a little tiny firm of our size to get 950,000 was absolutely amazing because we got all these profits. But at the same time I wasn’t entirely happy with this because whatever bargain you’ve got you are still at risk.’

Jobbers who signed up to the issue had to pay for the stock the next day, whether they sold it or not. ‘If anything happens to Maggie Thatcher,’ thought Anthony, ‘or if another war breaks out then its pay and be paid with this sort of stock’. But it is hard to find much sympathy with Anthony’s predicament, or to believe, in view of the tectonic shifts in British politics and the sudden explosion of enthusiasm for the market, that these jobbing firms took any real risk at all. The British Telecom issue was the most profitable bargain that anyone in the Exchange could remember. Ever.

More flotations followed, and the profits poured in. Of course, this could not go on for ever so now would be an ideal time to sell your business at a vastly inflated price to someone wealthy and foolish, someone who did not understand the social upheavals besetting Britain. Such a shame that foreign banks were not allowed to own members of the London Stock Exchange. Oh, wait a minute, that rule had just been abandoned as well…

Suddenly, the treasure chest that was nineteen eighties London lay open to all. It offered a bridgehead for American firms looking eastward and European or Australasian firms looking west. Here was an opportunity to gain entry to the august London Stock Exchange, a closed shop for two hundred years. The easiest way to get a seat on the Exchange was to buy a firm that already owned a membership, and bidders circled: there was a deal-making frenzy. Foreign buyers found the jobbers fattened by the profits of these public issues, and snapped them up at inflated prices. S Jenkins & Son was sold to Guinness Mahon, which was soon bought by the Japanese bank Nomura. Beeson’s firm was bought by Grindlays Bank in 1984, and the whole was almost at once consumed by ANZ. The sums at play were extraordinary by the standards of the time.

‘1980 was a very difficult period…’ says Beeson, ‘Four years later, suddenly someone was going to pay us £11 million. You know, [pay] all the partners for this business and we thought that Christmas had come.’

Among other deals, US bank Security Pacific paid £8.1 million for a 29.9% stake in Hoare, Govett; Barclays swallowed the jobbers Wedd, Durlacher and the brokers de Zoete & Bevan, making eighties stalwart BZW. Citicorp grabbed three brokers, Vickers da Costa, Scrimgeour [Scrimjer] Kemp Gee, and J. & E. Davy, while Chase Manhattan, writes Michie, who has catalogued the deals, ‘contented itself with two, namely Laurie Milbank and Simon & Coates. Even the chairman’s own firm, Quilter Goodison, sold a 100 per cent stake to the French bank, Paribas, in 1986.’[9]

Note Beeson’s phrasing: ‘pay the partners’. Not the staff or the shareholders, but those who happened to be standing at the top of the escalator in October 1986. Big Bang, then, did more than dismantle a system that had been in place for two hundred years. It completely destroyed the social infrastructure of the City. The old firms had run on the partnership model. Jobbers traded with the bosses’ money; they had to ‘mind their fucking eye’ and wince inwardly as the partners ran their careful fingers down each day’s tally. Apprentices earned little but could work up the ladder to a seat on the Exchange and a place in the partnership where they would be comfortable, secure and one day even wealthy. Everyone’s interests were focused on the long-term: if the firm went broke, everyone lost.

Big Bang tore this apart. The partners, almost overnight, became richer than Croesus and took with them the spoils that might have gone to future partners.  The era of time-served jobbers was over. Youngsters, often with university educations, ruled the roost. They traded long hours at screens before dashing to exclusive wine bars or the BMW dealership; less middle-age than Mercedes and more accessible than Porsche, the BMW had become the young city slicker’s car of choice. Firms that did well were those that catered to their new tastes, often fronted by flamboyant entrepreneurs: Richard Branson’s Virgin, Anita Roddick’s The Body Shop, Terence Conran’s Habitat, and Paul Smith’s expensive-but-fashionable suit shops all flourished in the centres of global capital.[10] These youngsters were tasked with making as much money as they possibly could, seemingly irrespective of the risk. The bonus culture replaced the partnership culture. But who cared? It was boom time, and the money rolled in.

This really was the decade when greed became good.

To keep on rising, stock markets need a steady stream of money. Much of that money came from private investors, these newly minted Sierra men and women, taking their life savings from under the mattress  – or at least out of the building society –  and hurling them into the ever rising stock market.

That it stopped rising barely a year later came as a great shock to many – not just private investors but also a new generation of freshly wealthy, young financial professionals who did not have the life experience to know that investments can go down as well as up. But the really big money – enormous sums – came from another source. Throughout the 1980s corporate raiders, epitomized for ever in the tanned and slicked Gordon Gekko, dreamed up new mechanisms for making money, and in doing so forever reshaped the relationship between finance and business. Their greed was of monstrous proportions – and as Oliver Stone makes clear, wasn’t good at all. I’ll be looking at what they did, and why it matters for all of us in the next episode.

I’m Philip Roscoe, and you’ve been listening to How to Build a Stock Exchange. If you’ve enjoyed this episode, please share it. If you’d like to get in touch and join the conversation, you can find me on Twitter @philip_roscoe or email me on philiproscoe@outlook.com. Thank you for listening, and see you next time.

[1] Quotations are from Bernard Attard’s interview with Anthony Jenkins, and my own oral histories, see

https://research-repository.st-andrews.ac.uk/handle/10023/11688

[2] Sound recording from ‘Ancorapazzo’ via freesound.org, under an attribution creative commons licence from https://freesound.org/people/ancorapazzo/sounds/181630/

[3] For detailed accounts of the Big Bang see, among others, Michie, The London Stock Exchange: A History.ch.12; Clemons and Weber, “London’s Big Bang: A Case Study of Information Technology, Competitive Impact, and Organizational Change.”; Norman S.  Poser, “Big Bang and the Financial Services Act Seen through American Eyes,” Brooklyn Journal of International Law 14, no. 2 (1988).

[4] https://en.wikipedia.org/wiki/Exchange_Controls_in_the_United_Kingdom [14.05.19]

[5] GR Krippner, “The Elusive Market: Embeddedness and the Paradigm of Economic Sociology,” Theory and Society 30, no. 6 (2001): 785.

[6] https://www.youtube.com/watch?v=d2jH53e6_jQ

[7] For further commentary on the development of the housing market under Thatcher see chapter two in Philip Roscoe, I Spend Therefore I Am (London: Penguin Viking, 2014).

[8] https://www.youtube.com/watch?v=n5aOO7Aem4M

[9] Michie, The London Stock Exchange: A History, 555.

[10] I’m following Bryan Appleyard’s characterization here, drawn in three very prescient columns, ‘A Year after the Big Bang’, published in the Times 19-21 October, 1986.


Episode 5. ‘Mind your eye!’ Rules and rituals in the markets



Social interactions – rules and rituals, norms and codes of practice – are the glue that holds a stock market together. This was especially so in the open outcry markets of the twentieth century. The episode looks at the strange societies of Chicago’s pits and London’s ‘Old House’. What did it feel like to cram into a trading pit or inch your way up the Exchange’s social ladder, where cockney sparrows rubbed shoulders with the old elite? A meritocracy of sorts, so long as you were a man. This episode contains some strong language.

Transcript

Let’s step back to a different time. Imagine an enormous room, capped by a vast dome measuring 100 feet high and 70 feet in diameter, said to be on a par with those of the cathedrals of St Peter in Rome and St Paul in London. This was the great trading room of the London Stock Exchange, known as the Old House. A mottled marble faced its walls and pillars and the wags called it ‘Gorgonzola Hall’ after the blue cheese. There was not much furniture, just ramshackle chalkboards covered in figures. Each firm of traders – or jobbers – occupied a particular spot on the Exchange floor, where the chalkboards marked their ‘pitch’, while the brokers spent market hours in their ‘boxes’ at the edge of the floor. Business stayed in the family, and these pitches and boxes were often passed from father to son. During trading hours as many as 3000 people jostled under the dome, manning these pitches or circulating through the crowds.  The room was jammed with bodies, all male; women were not allowed even to set foot on the floor.

There were games. One etching shows young jobbers, wearing proto-hipster beards and frock coats, competing to throw a roll of ticker tape over a bar fixed high up in the dome. And there were pranks. Ehatever the weather, every self-respecting member of the Exchange would come to work with bowler hat and rolled umbrella. On a rainy day it was entertaining to unfurl a brolly, fill it with a confetti of shredded paper and roll it back up again. There were nicknames as sophisticated as the japes: one man was named the Chicken, another the Lighthouse because he was ‘always moving his head around and it reminded people of the light flashing on the top of a lighthouse’. Then there was ‘the Tortoise…he was a little bit round-shouldered, he always wore a bowler hat, brown suit, carried his umbrella and his nose would remind anybody that he was a tortoise. And he used to walk very slowly through the market.’ One short, very ugly man in the mining market was affectionately named Don’t Tread in It. When business was slow, on a Friday afternoon, songs would burst out: the jobbers would sing the Marseillaise to a supposedly French colleague and slam their desk lids – the clerks had old fashioned schoolroom desks – as cannon. A thousand male voices raised in song together, echoing under the dome: noise, camaraderie and the dreaded ‘banter’. A bygone age, a different world.[1]

And when was this? Oh, not so long ago: the Old House closed in 1966, the same year that England won the football World Cup and still very much living memory for some.

Hello, and welcome to How to Build a Stock Exchange. My name is Philip Roscoe, and I teach and research at the University of St Andrews in Scotland. I am a sociologist interested in the world of finance and I want to build a stock exchange. Why? Because, when it comes to finance, what we have just isn’t good enough. To build something – to make something better – you need to understand how it works. Sometimes that means taking it to pieces, and that’s exactly what we’ll be doing in this podcast. I’ll be asking: what makes financial markets work? What is in a price, and why does it matter? How did finance become so important? And who invented unicorns?

Let’s take stock for a moment. In the last episode I poked fun at charmless Sixtus as we explored how equity can finance all kinds of new venture. We looked at the Ponzi scheme of valuation that underpins the Silicon Valley model and more prosaic efforts nearer to home, seeking to use novel subscription methods to develop new, worthwhile and socially productive kinds of venture. That is beginning to look like a worthwhile ambition for our project of building a stock exchange, and we recognised that exchanges can come in all shapes and sizes: Sixtus’ magazine was just one end of the spectrum that stretches all the way to the global, blue-chip providers of exchange services that we know today. We recognised, though, that stock exchanges all have something in common – at least as we know them now. They are all businesses. In the second episode we explored the birth of the Chicago Board of Trade, seeing how agricultural markets and a confluence of railways, telegraphs and civic ambition led to the formation of early derivatives markets. From the beginning, these were economic entities driven by commercial concerns; it is only later, when Justice Holmes opines that speculation ‘by competent men is the self-adjustment of society to the probable’, that such matters achieve a moral mandate too. In London, as the early market coalesced from the disorganised trading in the coffee shops of Exchange Alley, the exchange took a physical form as more prominent stockjobbers purchased a space and began to charge for entry. London’s market, like that of Chicago, flourished at the intersection of commercial and political concerns. Where the Chicago Board of Trade was linked to the city’s prominence, the London exchange gathered momentum as a vehicle through which the new national debt could be bought and sold, often churned through the shareholdings of the new joint-stock companies: the Bank of England and the East India company in particular. London’s traders became the point of passage between the nation’s Exchequer, greedy for funds to fight foreign wars, and the bulging pockets of merchants looking for a reliable and safe return on their capital.

We have, in other words, begun to sketch out the material, political, and historical entanglements that go into the making of a stock exchange, and of which we must be cognisant when we seek to build our own. In this episode I will pick up a final important aspect of the function and organisation of stock exchanges: the role of the social.

——Trading pit and bell—-[2]

Exchanges, it is clear, depend upon social interactions, habits, relationships and customs. They are, or have been until very recently, filled with bodies. You remember how I described the trading pit as a human powered computer, taking the information that flowed into the exchange as buy and sell orders and turning it into prices. This computer works quite literally by the power of voice. Every bid or offer – every attempt to buy or sell – had by law to be shouted out into the pit. In the din the accompanying hand signals did most of the work. A trader buying would turn his palms to his body, while palms out signalled a sale. Fingers could denote the final unit of the price – as everybody knew the rest of the number there was no need to count it out each time.

The anthropologist Caitlin Zaloom records these details. She visited the Chicago pits in the final years of their operation, during the late 1990s. Zaloom notes the sheer size of some of these men, some big enough to be American football players, others with built up soles to give them extra height. Traders talked about learning to control their voices, sharp enough to carry across the pit yet not sharp enough to show panic, and coordinate their shouts with jumps and looks. ‘The body,’ she writes, ‘is a key interpretive instrument for the pit trader’. The rhythms of the pit signify rising prices or falling ones, and the ambient noise shows the depth of trade. Trading must be immediate, intuitive: ‘In training their bodies as instruments of both reception and delivery of the underlying information of market numbers, the first step is learning not to calculate.’[3] Such essential connectedness with the rhythms of the markets had always been the sine qua non of the pit trader, captured by Frank Norris’s turn-of-the-century novel, where one protagonist would

‘feel—almost at his very finger tips—how this market moved, how it strengthened, how it weakened. He knew just when to nurse it, to humor it, to let it settle, and when to crowd it, when to hustle it, when it would stand rough handling’.[4]

Of course, such primal, embodied trading demands a personality to match and Zaloom found the traders constructing for themselves hyper-masculine, profane, even debauched behaviours. She notes the ubiquity of the Sun tabloid newspaper which at the time carried topless photographs on page 3; I too can remember the traders’ myth that the gradient between the model’s nipples was a sure indicator of the direction of travel for that day’s market.

Zaloom records arguments and even physical fights, as does the sociologist Donald MacKenzie, who visited Chicago’s pits in 2000. One trader showed MacKenzie his spectacles, covered with flecks of spittle after the close of trading; another recalled that he could lift his feet off the ground and be suspended between the bodies of those pressed against him. Traders may not have been friends, but they worked together day after day, year after year, and got to know each other’s habits and tactics. ‘In the pits, social information is founded in deep knowledge of the local environment. Traders organise trading strategies with the situations and motivations of their particular competitors and compatriots in mind.’[5] (That’s Zaloom again, and as always full references are provided in the transcript on the podcast website.) Both Zaloom and MacKenzie caution us not to romanticise the pits: ruined voices and worn out bodies, financial ruin and even tragic stories of suicide, all these form the background hum to the in-your-face noise of the pit itself. Moreover, it is not clear how cleanly the human computer worked. ‘The subtle webs of reciprocity and trust needed to keep open outcry trading flowing smoothly,’ writes MacKenzie, ‘could turn into informal cartels that operated to the disadvantage of other pit traders or external customers.’ Social relationships, the very things that kept the market running, might all too easily lead it away from the longed for – though never achieved – goal of efficient market function. [6]

——

That was Chicago. London’s trading, though every bit as ruthless, had a more gentlemanly exterior. In Chicago those trading for speculative profit were known as scalpers. In London, they were jobbers, an occupation that had evolved alongside the exchange itself – as we saw in episode three – and whose name dates back to the seventeenth century stockjobbers of Exchange Alley, those low wretches so despised by Dr Johnson. Where the Chicago men crammed into a stepped pit and yelled orders at each other, London’s jobbers strolled across the floor of the house and chatted to their counterparts, eye to eye as they squeezed their rivals into the toughest bargains possible. Specialisation was tied, not to individual pits, but to areas on the floor which serviced different sectors. There was the Government broker, trading gilts in the smartest part of the house, or the mining market, and the now-offensively-named Kaffir market, trading the stocks of Southern Africa. Jobbers stood at pitches comprising little more than notice boards. Larger firms might carve out an established pitch by a wall or a pillar, furnishing it with makeshift shelves and even a seat; smaller firms simply had to stand among the crowds.

The boards listed the stocks traded, names engraved onto magnetic strips, an attempt to give some sense of permanence to the otherwise ramshackle stalls.  A junior trader, a blue-button, would be in charge of marking up prices in red or blue crayon, next to the opening price, lettered in black. The boards themselves might be put to strategic use, updated a little more slowly than prices moved, obscuring market action and helping jobbers take a turn.

Communications on the floor were rudimentary, to say the least. The Exchange retained a staff of top-hatted ‘waiters’ whose function was to ensure the smooth running of trading. One of the many problems was keeping track of people in this great crowd, especially the brokers who stalked the floor in search of the best price for their clients. Waiters used speaking tubes like the ones found on old ships to speak to brokers, blowing through them first of all to make a whistle that summoned someone to the other end. If a broker could not be found a number would be illuminated, and it was up to the individual to spot their number and raise their hand. A waiter would point them to the telephone room or the meeting room where they were required: telephone booths were located around the outside of the hall and had a movable floor that sunk down when the user stepped in, flicking out a marker to show that the booth was occupied. Waiters managed the circulation of bodies around the room, preserving the rules of conduct in the seeming chaos. They even conducted the dreaded hammerings, when firms that could not meet their obligations were shut down by the blow of two gavels and the partners’ assets turned over to the administrators.

Business was conducted buying and selling according to a complicated verbal etiquette set out at length in the Stock Exchange’s Code of Dealing. Here’s an example, from the sociologist Juan Pablo Pardo Guerra’s study:

‘What are XYZ?’ Answer: ‘125.8’

Broker: ‘I am limited I’m ½p out in 250’

Jobber: ‘I could deal one way’

Broker [hoping for the one which will suit him]: ‘Very well, you may open me’

Jobber: ‘Give you ½p’

Broker: ‘Sorry, I’m a buyer at 127½’ [7]

It’s unintelligible to us, but perfectly clear to the jobber. No agreement has been reached, and no deal done. Traders had to use a particular form of language to avoid being snared in an accidental bargain: one might say ‘I’m only quoting’ to make this clear, just as a lawyer might raise a point ‘without prejudice’.

Jargon apart, both London and Chicago worked on the principle of the spoken deal. The entire social infrastructure served to reinforce the primacy of this bargain, epitomised in the London Stock Exchange’s motto, my word is my bond. Prices were continually in flux. Written reports flowed long behind the deals made by jobbers, spilling first onto the boards and then the settlement clerks located beneath the trading floor. Throughout the day, Exchange officers came to the pitches and collected prices, which hardened overnight into the print of the Stock Exchange’s Daily Official List and the Financial Times; by the time these printed records were made the verbal transactions of market itself had left them far behind. The slowness of any record keeping made ‘my word is my bond’ of paramount importance, for the market could only function if spoken agreements were honoured, even if the deal caused one counterparty considerable financial pain. Sanctions were informal and effective, and anyone who defaulted on a bargain would have great difficulty making another. Everyone knew one another. Like the traders in the pits, jobbers did not need to know the prospects for a company or the long-term economic forecasts for the nation. They simply needed to know who wanted to buy, and who wanted to sell. All the information was ‘on the floor,’ says one jobber, ‘eye contact, sweat, movement. You could always tell from the eyes of the junior trader whether his boss was long or short, and how badly they wanted to get out of their position’.[8]

——— Market traders——[9]

The Exchange was strangely meritocratic, with an apprentice-based career system that welcomed cockney sparrows as well as the dim-witted younger sons of the old elite. Although it preserved in microcosm the nuances of the British class system, it had an egalitarian demeanour where boys from the East End rubbed shoulders with graduates of august Oxbridge colleges: ‘I like talking to you,’ an old jobber told one young Balliol graduate, ‘‘cos you’re the only bloke in the market, wot I talk to, wot talks proper.’[10] The old Etonians drifted towards the posher firms, the gilt-edged brokers, while the lads from Hackney and Islington sought out opportunities in the less grand stretches of the market. That meritocracy did not extend to women though, and Ranald Michie, historian, records the details of the struggle to secure equality of access to the institution.[11] In 1966 – the same year that the Old House was closed – a Miss Muriel Bailey, highly commended brokers clerk, sought membership of the Exchange, in order to apply for position as partner in her firm.

One of the first women on the trading floor, 1973

To be a partner, one had to be a member, and to be a member one had to be a man. Miss Bailey, who had run her broker’s office throughout the war and in the intervening years had built a substantial client list, naturally felt that obstacles were being unnecessarily placed in her way. The Council of the Stock Exchange agreed to support her application so long as she promised not to set her profanely female foot upon the sacred mancave of the trading floor, but the membership resoundingly rejected this proposal. That was in 1967. At least the membership proved to be consistent in its bigotry, in 1969 rejecting the membership of foreigners, defined as those not born in Britain, and voting against the admittance of women again in 1971. Nor should the Exchange itself be entirely exempt from scrutiny: in 1962 it had refused to accept a listing application from automotive firm FIAT, presumably on the grounds of being too Italian.[12] Only in January 1973 did the membership consent to allowing female clerks to become members, and even then it took until the summer of that year before rules banning them from the trading floor were abandoned. Miss Bailey, by now Mrs Wood, was elected to the membership in January 1973, aged 66.

To become a member, even if you were a man, you had to serve a lengthy apprenticeship, joining as a youngster and working through clerical and junior status until eventually you became a dealer, then partner. Brian Winterflood – a central character in our story – was one such lad. Now in his eighties, he is a short, jovial man, still full of energy. He is known for his anecdotes, as well as his opinions – he is an outspoken supporter of Brexit – and is unerringly generous to the press. They treat him well in return, filling diary columns with stories about his long career. Sometimes these verge on the shameless, like Winterflood passing off a recent finger amputation as frostbite sustained on an arctic cruise. Despite his pleas, the paper reported, the ship’s doctor refused to operate and Winterflood had to be treated on terra firma. I noticed that Winterflood doesn’t eat dessert and suspect another later-life explanation. Luxury arctic cruises would be much less popular if one paid in digits as well as dollars, but it makes for good copy all the same.[13]

My lunch with Winterflood was a spontaneous affair. We were supposed to be meeting in the office, but he didn’t show up. Instead Stacey, from the front of house, appeared. But Brian had called: he couldn’t find a parking place near the office, so he was going to pick me up instead. The lads on the trading desks – gender roles are still very much alive in the city, as you see – joked about the gaffer keeping a picnic hamper in the back of his Rolls, but neither materialised.

Instead Winterflood took me to a favourite spot – a stripped down Italian restaurant in Southwark – where he could chat to the staff like an old friend, sip a blend of angostura bitters and ginger beer he called ‘Gunner’, and park his modest executive runabout on the disabled-badge space right outside. On a second meeting he recounted a recent encounter with an unknown item on a cruise ship menu – poivron. He can read most French menus, he told me, but was stumped by that – still, he didn’t believe the Philippine waiter who claimed ‘Poivron’ was a region of France. The secret ingredient turned out to be leeks. Brian Winterflood, arch-Brexiter, is a most amusing man.

Winterflood is  a legendary figure in the smaller-company market world. His career has tracked the markets’ ups and down more closely than anyone; in fact, his name is almost synonymous with small company trading. Growing up in a suburban household in Uxbridge, West London, his arrival in the City was the gift of a generous school teacher, who asked him what he intended to do for a living.

‘I said I don’t want to drive a bus – because my father was a tram driver,’ he recalls, ‘what I would like to do is to make some money.’

‘Well,’ replied the schoolmaster, ‘if you want to make money you should go to where money is made. I have a friend who is a partner in a stockbroking firm and I wonder if you would want to go up the City.’

‘Yes, I would’, replied Winterflood, without thinking more. And so one of the most influential men in the small company world began his career as a messenger at the very bottom of the heap.

‘Thank God I did start there,’ says Winterflood, ‘running round the City, getting to know the City, getting to know the people. It was magical, absolutely magical.’

Would-be jobbers like the young Winterflood served a lengthy apprenticeship, first as messengers, then ‘red buttons’ and ‘blue buttons’, each colour of badge denoting an increased level of seniority and certain powers and responsibilities. Established jobbers wore no buttons and junior employees would have to remember who was who, lest they disgraced themselves by speaking out of turn to a senior member. Blue buttons ran messages between jobbers and brokers, as well as marking up prices on the boards. They asked questions and learned from their employers who doubled as tutors and mentors, sponsoring the careers of juniors and preserving the future of the Exchange.

Eventually, after several years of long hours and low pay, checking bargains with longhand arithmetic and slide rules, balancing the books, and learning the etiquette of the House, the lucky ones were promoted to ‘dealer’, able to trade for the first time.

The moment of appointment was a theatrical Stock Exchange ritual, the young dealer sent up from the floor to the partners’ office to be given a badge. Another East End blue button, Tommy, whose memoires were captured by historian Bernard Attard, recalls his transition to ‘authorised clerk’ with awe:

‘I was called into the partner’s room and they said, ‘How would you like to become a dealer?’ I said, ‘I don’t know’.  I was absolutely dumbfounded. Where I come from I couldn’t have anticipated anything like this. So ‘I said I’d love to, I’d love to have a try.’ So I was authorised, and I’ll never forget the first morning…’[14]

Winterflood’s first day was quite different; not for him the stately induction in the upstairs office:

‘I had a particularly nasty senior partner,’ he remembers. ‘He was a moody so-and-so and he used to gamble everyday on the horses, his life was terrible, he ran off with another woman. The day that I got authorised to go on to the floor of the Exchange, he puts his hand in his pocket…and he says, ‘All right Winterflood, now you are authorised’, and he took his hand out like that and he gave it to me, it was my badge, my authorised badge. And he said, ‘Mind your fucking eye.’

Mind your eye – an old expression meaning ‘take care’, often translated into comic dog Latin: mens tuum ego. Winterflood remembers the sudden responsibility of holding a trading book as an authorised dealer in a partnership, trading with the partners’ own money and, moreover, their unlimited liability. Partners took a keen interest in their own property and the menacing presence of the waiters’ gavels:

‘It was good looking over everybody’s shoulder when they were [trading], but when the senior partner says, ‘Mind your fucking eye’, I mean you are terrified…I remember when he came back from a bad day at the races, which was the bookie outside the Exchange, he would sit in the pitch and say, ‘What have you done?’ I would say, ‘Well not a lot Sir, but there are one or two things that you might like,’ and he goes across and looks at the page, I say ‘Have you noticed sir, so and so,’ and he said, ‘It only pays for the bad ones.’’

This process of apprenticeship served to reproduce the social structures that held the exchange together, years spent learning who was who and what was what before being allowed anywhere near the money. Eventually it was possible to buy a ‘nomination’, a seat on the Exchange, and become a member. You could then embark on your career proper, building a reputation in a particular sector or for a particular strategy: a specialist in Tanganyika concessions, a specialist in insurance, an expert in arbitrage, in contango, a bull or a bear, depending on one’s personality, skills and good fortune.

It was the process of apprenticeship, as well as the distributed structure of the London Stock Exchange’s membership, that made the institution so extraordinarily durable and yet simultaneously so conservative and resistant to change.

So that is one last thing to add to our mix of key ideas when we come to build our stock exchange. Social relationships, webs of reciprocity and trust, and bodies – up close and personal,  mostly male, I’m afraid  – are  just as much  part of the  structure and function of stock exchanges as their material architectures and political alliances. As I pointed out in the last episode, Aditya Chakrabortty identifies the alternative economic projects he has reported on as being ‘thickly neighboured’. That’s true of any exchange – even, as we shall see, those contemporary digital structures that seem to have banished bodies altogether – and will be something to which we must look if we are going to succeed. But, and as this episode has shown, stock exchanges are constitutive of community as well, forming engines through which people can be bought together in cooperative activity. Once again, we just have to choose the shape we wish that cooperation to take.

——

Times were hard for the London Stock Exchange during the 1960s and the depression of the early 1970s. Members held other jobs and scrabbled to make ends meet. Winterflood and his wife ran a small bric-a-brac shop named Fludds in Valance Road, at the end of Petticoat Lane. Others did worse: Winterflood recalls meeting a colleague selling carpet squares – ‘not even whole carpets, carpet squares!’ It is hard, now, to believe that finance could have been so impoverished a profession. Jobbers would talk about making their daily ‘two and six’, the cost of the train journey to work and home again.

In January 2017, just after his 80th birthday, Brian Winterflood rang the Stock Exchange bell to call time on his career. The man who ran a bric-a-brac shop to make ends meet is now a multi-millionaire, able to charter a private jet to his holiday home in Corsica or spend the winter in a Floridian holiday village where there is line dancing every evening. Winterflood Securities – Wins – the firm that he founded and sold in the early 1990s, but ran for many years after, is reported to have made £100m in 2000.[15] How did such a change in fortunes come about? How did these impoverished market-makers go from metaphorical rags to very real riches in the space of two decades? To answer those questions we must explore the extraordinary transformation in finance in the 1980s.

I’m Philip Roscoe, and you’ve been listening to How to Build a Stock Exchange. If you’ve enjoyed this episode, please share it. If you’d like to get in touch and join the conversation, you can find me on Twitter @philip_roscoe or email me on philiproscoe@outlook.com. Thank you for listening, and see you next time, when we get to grips with the decade of greed.

[1] The background detail in this chapter comes from varied sources, my own research into London’s markets, see https://research-repository.st-andrews.ac.uk/handle/10023/11688, and Ranald C. Michie, The London Stock Exchange: A History (Oxford: Oxford University Press, 2001). In 1990 Dr Bernard Attard of Leicester University conducted a series of oral history interviews with former jobbers, capturing the details of what was by then a vanished world. Transcripts and recordings can be found https://sas-space.sas.ac.uk/view/collections/lseoh.html

[2] Sound recording from ‘touchassembly’ via freesound.org, under a creative commons attribution licence https://freesound.org/people/touchassembly/sounds/146268/

[3] Caitlin Zaloom, “Ambiguous Numbers: Trading Technologies and Interpretation in Financial Markets,” American Ethnologist 30, no. 2 (2003): 264.

[4] Norris, p.90, quoted in Christian Borch, Kristian Bondo Hansen, and Ann-Christina Lange, “Markets, Bodies, and Rhythms: A Rhythmanalysis of Financial Markets from Open-Outcry Trading to High-Frequency Trading,” Environment and Planning D: Society and Space 33, no. 6 (2015).

[5] Donald MacKenzie, “Mechanizing the Merc: The Chicago Mercantile Exchange and the Rise of High-Frequency Trading,” Technology and culture 56, no. 3 (2015). Zaloom, “Ambiguous Numbers: Trading Technologies and Interpretation in Financial Markets,” 261.

[6] MacKenzie, “Mechanizing the Merc: The Chicago Mercantile Exchange and the Rise of High-Frequency Trading.”

[7] Juan Pablo Pardo-Guerra, “Creating Flows of Interpersonal Bits: The Automation of the London Stock Exchange, C. 1955–90,” Economy and Society 39, no. 1 (2010): 90.

[8] Eric K. Clemons and Bruce W. Weber, “London’s Big Bang: A Case Study of Information Technology, Competitive Impact, and Organizational Change,” Journal of Management Information Systems 6, no. 4 (1990): 50.

[9] From www.freesound .org under a creative commons licence. https://freesound.org/people/deleted_user_1116756/sounds/74460/

[10] From my own interview notes.

[11] Michie, The London Stock Exchange: A History, 453f.

[12] To be precise, the application was rejected on the basis that the firm’s accounts did not meet UK standards. Ibid., 477.

[13] http://www.cityam.com/226688/how-the-winterflood-founder-went-from-freemason-to-gangster [accessed April 2017]

[14] Bernard Attard, “The Jobbers of the London Stock Exchange an Oral History,” Oral History 22, no. 1 (1994): 45.

[15] Financial Times, 30 April 2017, ‘Winterflood’, by Chloe Cornish. https://www.ft.com/content/42764c22-29c6-11e7-9ec8-168383da43b7?mhq5j=e3


Episode 4. Pickles, public schoolboys, and the business of financing start-ups



This episode takes an anecdotal wander through the business of financing start-ups. Our guide is Sixtus, an old-Etonian who imported ‘business angel’ investing to the UK. Along the way, I’m waspish about public schoolboys, perceptive about pickles, explore the difference between equity and debt, and wonder whether stock markets must always be about those billion dollar valuations.

Transcription  

I have long harboured a prejudice against old Etonians.  You can drink with them, or listen to their stories, or watch them on television – they’re everywhere when you start to look – but just don’t let them hold your wallet or take your significant other for coffee. I’m almost prepared to make an exception on that point for our present Archbishop of Canterbury, but no, I think not. And God forbid, don’t let them run your country. I used to try and sneak this snippet of wisdom into lectures. If you learn anything from me, I would intone, let it be this…Unfortunately, the spectacle of British politics over the last few years has made such warnings redundant. Cameron, Boris, Rees Mogg… I am almost speechless with rage when I see the damage done to our nation in pursuit of petty self-advancement.

Another deeply held prejudice involves the wearing of velvet collars, so when I spotted a photograph of JRM sporting one such, well, I felt like ‘some watcher of the skies when a new planet swims into his ken’. But this is beginning to sound like one of Rees-Mogg’s own man in the street moments so I am reluctantly forced to concede that I am unfairly singling out that great educational establishment. It would be more simple and accurate to say that one should never trust a former English public schoolboy. For those listening beyond the UK, a public school is – inexplicably – a private one. It’s an educational system built for empire, modelled on Sparta; the ancient world offered two models for a state, one based on democracy and philosophy, the other on military might and hierarchical caste segregation, and the Victorians chose…

Well, enough said. Back to its products. We are mendacious and unreliable. All we can do is talk. There’s James Dyson, the engineer who persuaded us all that vacuum cleaners should look like spaceships and campaigned for Brexit before shifting his factory to Singapore. Or youth icon, gangsta rapper and YouTube phenomenon KSI, who learned his vowels at the same school that I did. We are long on patter and short on substance. Have a look at the KSI youtube fight night if you doubt me on that.

On the other hand, that mixture of assured self-presentation and a natural economy with the actualité – in the words of the late Right Honourable Alan Clark, old Etonian, confessing to lying to Parliament – does suit us well for some occupations outside of politics. We make good actors, acerbic columnists, and amusing enough podcasters, I hope. And financiers. ‘There is,’ writes Michael Lewis in Liar’s Poker, ‘a genus of European, species English, to whom slick financial practice comes naturally. The word for them in the Euromarkets is spivs.’ And then, unusually, Lewis makes a wrong call. ‘Oddly,’ he writes, ‘we had no spivs. Our Europeans-especially our Englishmen-tended to be the refined products of the right schools.’ They, dear Michael, are the spivviest of all.

It seems appropriate, then, that the next step in our journey through stock-market skulduggery is guided by an old Etonian. His name is Sixtus (or something equally silly) and he invented ‘venture capital’ investing.

Hello, and welcome to How to Build a Stock Exchange. My name is Philip Roscoe, and I teach and research at the University of St Andrews in Scotland. I am a sociologist interested in the world of finance and I want to build a stock exchange. Why? Because, when it comes to finance, what we have just isn’t good enough. To build something – to make something better – you need to understand how it works. Sometimes that means taking it to pieces, and that’s exactly what we’ll be doing in this podcast. I’ll be asking: what makes financial markets work? What is in a price, and why does it matter? How did finance become so important? And who invented unicorns?

In the last episode, I opened up another key idea for our building project: that stock exchanges are – and have always been – entangled with states. We saw how countries and markets have formed an uneasy alliance since the beginning, one with the laws and the other with the money. I explored how London’s fledgling stock-market exploded at the end of the seventeenth century when the English government issued its first national debt, a tradable, interest-bearing security. The early corporations recycled this debt through their own shareholdings, forming the basis for a liquid market in stocks. The demand for trade attracted professional speculators, known as jobbers and generally disliked by the population. Their instruments, trading on time, may have been morally questionable but formed the basis for a global mercantile economy. We saw too how moral questions sometimes have to be settled by the state. Chicago – whose dominance as a centre for financial derivatives we explored in the second episode – wrestled with the limits of permissibility in trading financial abstractions. The matter came before Justice Holmes of the Supreme Court, who declared that speculation ‘by competent men is the self-adjustment of society to the probable’. The judge was influenced by Henry James and fashionable pragmatist philosophy to make such a probabilistic argument; in doing so he made a link between stock exchanges and risk management that persisted until, and arguably underpinned, the credit crisis of 2008.

Is this really what stock markets should be doing? Remember that they started out as a means of raising money for struggling exchequers. Remember too that the narratives of shareholder obligation, which I discussed in the very first episode, hinge on the claim that stock exchanges have funded business from the beginning. So it sounds as if raising capital for organizations of all kinds might be one of the primary obligations of exchanges, but the reality is that stock markets don’t do nearly enough of this kind of thing. Raising money for new ventures is risky and a specialist occupation. Let’s re-join Sixtus to find out more…

The son of an esteemed civil servant, Sixtus grew up in the days when esteemed civil servants could afford a rambling pile in near the Thames, a flat in a smart part of town and still have small change left over to push several children through Eton. Oxford followed. But being possessed of a maverick bent Sixtus eschewed a job in the City and instead, in 1969, headed for graduate business school at Harvard. He returned to Britain in 1971 and after an unhappy year consulting for Hanson – Sixtus knew by then he was a ‘doer’, not an ‘adviser’ – he determined to start a business. But doing what, exactly?

‘The problem,’ he says, ‘was that not only did I have no idea of what business to start, but that I also had no money… Also I had no track record of any kind, being then only nine months into my first job, and that not a success, so that the prospects of persuading someone to back me did not seem bright. On the other hand, I had little to lose by trying.’[1]

Only an Old Etonian would muster this level of sangfroid in the face of such appalling odds. On the other hand, being an Old Etonian does seem to shorten the odds considerably.

So Sixtus wrote a business plan to set up a chain of American-style hamburger joints in the provinces. He raised some half a million in today’s money, from a friend made at Harvard, another friend from back home, and a few high risk investors recruited via a small-ad in the Daily Telegraph. He set up his own outfit in a former truckers’ café in Bristol, mopping floors, making milkshakes and flipping burgers. By 1977, he had three restaurants, fifty staff and a manager. He sold the restaurants off in the early 1980s, just before the golden arches arrived in Britain and did to Sixtus’ burger joints what they had done to just about every other burger bar in the USA. He even made his investors a profit.

Then, in 1978, Sixtus did something truly maverick. In the same era that that the UK government was waking up to the galvanizing potential of small company investment and converting the sleepy government venture capital house ICFC into the dynamic behemoth 3i, and Ronnie (now Sir Ronald) Cohen was importing US-style venture capital through his legendary Apax Partners, Sixtus launched a magazine. It featured write-ups of small companies seeking to raise equity investment from business angels. He would charge subscribers £350 a year, charge the companies for a write-up, and take a percentage of any investment completed by means of an article in the magazine. His thought honed along classic business school lines, Sixtus sought to put together the pent-up demand for investment and for investment opportunity by a means more elegant than small ads in national newspapers. He would become an intermediary: a broker of information.

The magazine was never more than moderately successful. It had black and white photos and a small circulation and was sustained by successive investors whose business school training inclined them to see its potential and overlook its profit and loss account. The company was staffed by cheery, sporty doers who had never quite managed to make the break from their alma mater. Sixtus would invite them to the crumbling mansion, which he now occupied, and persuade them to play croquet. Anyone mistaking him for a harmless eccentric in a threadbare white school shirt and knee high socks would soon be caught out by the competitive malice with which he wielded his mallet, sending opponents’ balls hurtling into the flowerbeds at the slightest opportunity.

As a proto-spiv – worse still a proto failed spiv – I’m in this story too. I joined the magazine in the summer of 1998, fresh from a Masters’ degree. The firm occupied two small office suites in a science park outside the city. The room I worked in was small and filled by piles of boxes containing unsold copies of Sixtus’ self-published book. There were three of us in that office, while Sixtus and his assistant had a room adjacent, from which he ran his newly-launched investment funds. It was a hot summer, and the first thing a new employee noticed was the smell. A sewage farm lay on the other side of the science park, and when the wind blew in the right direction, as it did most afternoons, a heavy, foetid pall would settle on the office. Of course, one could brave the lack of air conditioning and close the window, but there lurked a Scylla to the sewage farm’s Charybdis. Sixtus had been forged in a time when real men did not wash, and belonged to a class that regarded personal hygiene as the surest sign of the petit bourgeoisie. An office legend held that many years previously the staff had drawn straws as to who would tell Sixtus that his musk was making their lives a misery.

The short straw fell to one of the firm’s few female employees. She tarried for a while, planning her strategy, and eventually sidled up to the boss:

‘Sixtus,’ she said, ‘I must say, you’re smelling very manly today’.

‘Thank you very much’, he replied.

And that was that.

Despite his eccentricities and his absurd, frontiersman do-it-yourself-sufficiency –Sixtus did, in his way, contribute something to British business. He had imported another concept beside hamburgers. What he grandly called venture capital wasn’t really venture capital in the established sense of the word today. Modern day ‘venture capitalists’ put much more emphasis on the second word than the first: they prefer low risk deals like takeovers and management buyouts where margins can be squeezed and quick profits returned to investors. What Sixtus had in mind were informal venture capitalists, happily known as ‘business angels’, who are prepared to put up moderate sums in return for a share of the ownership of a firm. They are often successful business people in their own right. These angels have been glamorised as the Dragons in the BBC’s reality TV show Dragons Den, but the principle is much the same as it was when Sixtus first brought it into town: a tough negotiation, a stake, a partnership.

—–

Let’s go back to basics. This kind of investing is a variety of equity financing. The distinction between equity and debt is important. Someone who buys equity buys an actual stake in the firm; the firm takes the money into its legal body and issues more shares in return. Debt is just a loan. It has to be repaid while equity does not. Debt incurs interest, while equity does not. If debt repayments fail the creditor can go to court and perhaps even wind the company up; if the company goes bust creditors stand at the front of the queue while equity holders (shareholders) kick their heels at the back. But debt only earns interest, and never more, whereas equity holders have a stake in the company. If it all goes to plan, the sky is the limit.

This asymmetry gives rise to a structural problem. Because lenders can never earn more than their interest they dread losing the money loaned, or ‘principal’. Even if one were to charge absurd interest rates it would take several years to recover from a default. Lenders tend to cope with this in two ways.

The first is only to make investments in rock-solid businesses. Assuming for a moment that risk and reward increase hand-in-hand, it follows that anyone who believes that their business will be able to repay a loan at 20% is a riskier proposition than someone who can only pay 5% on dull-as-dishwasher trading. For this reason ‘better safe than sorry’ was the collective motto of the banking industry for the second half of the 20th century. It is also the reason that the less in need of money you are, the more cheaply you can borrow, while the truly needy seek out loan sharks and payday lenders. Lending is an industry hard-hearted to its DNA. The bankers’ caution is another variant on George Akerlov’s Nobel prize-winning ‘markets for lemons’ thesis. Akerlov demonstrates that in a market where buyers cannot distinguish quality they will protect themselves by offering low prices. Sellers of high quality goods will react by leaving the market and soon only the problematic ‘lemons’ will be left. He is talking about the used car market – hence the lemons – but he could be talking about banking too. If you offer bad enough terms, only rogues will take them; better to offer good terms and be very selective about the loans you make. [2]

The second thing bankers do, having assured themselves that you are respectable, reliable, that your business is solid and that they will absolutely get their money back under all circumstances, is to ask you to personally guarantee the loan, just in case.

I am not suggesting that commercial banks should not be lending money to high-risk businesses. The money that they lend belongs to us and we do not want the banks losing it. When, periodically, banks get carried away and make excessively aggressive loans, as happened with sub-prime lending in the run-up to 2008, the result is catastrophic. Depositors queue up to withdraw their money and banks suddenly go bust and have to be rescued by the taxpayer. Nonetheless, the lack of lending does deter anyone from contemplating starting a risky venture, which really includes anyone considering any kind of entrepreneurial venture at all. Slow-growing, traditional business start-ups may be able to get by on debt, but more capital intensive start-ups will struggle. Anything truly innovative has no chance.

There is a second, more insidious, consequence, in that a culture of careful lending creates a culture of perverse distrust in equity investment. Those entrepreneurs who have somehow managed to start a business, who have put their house down as a deposit to satisfy the bank manager, who have been under all kinds of stresses as a result, can console themselves with the fact that they own every single share, and that when the business finally does well it will all be theirs. Given the choice between expanding further by letting go of a stake in the company and pedalling along very comfortably where they are, entrepreneurs will take the second option.

Equity investors are seen as greedy outsiders, ‘vulture capitalists’, stepping in to profit from the business when the hard work has been done. The economic theory elaborating this line of thought is called the ‘Pecking Order’ of financing, and it gives an intellectual framing to what entrepreneurs intuitively know: they are often better off not pursuing a worthwhile project if they have to sell shares in order to fund it.[3]

Equity investing also conceals a kind of financial alchemy, one that makes much of today’s world go round. Let’s say that I start a firm and persuade you to invest. You propose to take a 33 percent stake in the firm – Sixtus’ rule of thumb said one third for the management, one third for the idea and one third for the money. I believe I need £500,000. You are an easy negotiator, and I get my way. You pay the money into the firm, and it issues new shares in return. The firm is now worth £1.5 million: if things are worth what the market says, and we did a deal at that level, who is to claim otherwise? My stake is worth £1 million, and I am now a millionaire, on paper at least. It all goes well, and a year later the prototype widget does what it is supposed to do. Now I need to build a factory, and that is going to cost £5 million. An investor putting in serious money is going to demand 50 percent (for the sake of easy numbers) of the firm, valuing the whole at £10 million. You and I have seen our percentage holdings diluted by half, so now I have just one third of the firm, and you one sixth. But my third is worth £3.3 million, and you are holding £1.65 million. And so the process goes, so long as we can sustain momentum. But notice that the money is always coming from somewhere, especially if we want to cash out: the valuations are sustained by the influx of new capital at every round.

At some point people will start to use other methods for valuing the venture, for example asking what the eventual profits might be. We have an answer for that in the shape of a business plan that begins with baby steps and culminates in our widget being on every desk in the known world. So long as we keep hitting the short-term targets – and these are well specified and achievable – so we can justify all kinds of wonderful figures. We might even be a unicorn – an unlisted, loss making business worth over a billion dollars. We have lots of money and can court journalists and give lectures about the future too, just in case anyone doubts us. In fact, making a profit might seem quite a bad idea, because suddenly all the analysts’ models will start to work and it will become apparent that the valuation is much higher than the profit should support. Better to keep focused on the horizon and let the shares float towards it.

This is the Silicon Valley model and a testament to the power of well aligned incentives. It never quite made it to our office, though.

The magazine claimed a few successes. There was, for example, an engineer who had invented a gadget to be fitted at the bottom of grain silos, a vibrating cone that kept the contents flowing, and whose firm grew large and profitable. More usually, a succession of peculiar would-be entrepreneurs came through the door. I worked alongside a man named Charles, a gentle, cultured former financier. At home Charles had three small children, a grand piano, and a picture of his father shaking hands with the Pope. We would sit, listen to eccentric pitches and decide whether to help them or not. Our decision invariably hinged on whether the would-be entrepreneurs were prepared to write a cheque for £275. You would be surprised how many were not, but perhaps they were assessing us in reverse. Our success rates were very low indeed.

My first write-up involved a tough North Sea diver with a project to expand a hard hat diving operation. It was not funded. I remember a high-end pickle company, though I never saw the pickles on the supermarket shelves and I wasn’t impressed by the firm’s do-it-yourself marketing posters featuring stock photos of the Andes draped in gherkins. There was the ageing Harvard MBA who complained the course had gone soft and not enough people committed suicide these days, and the property-spiv who moaned about having to eat his own shoe leather in lean years. He refused to write the cheque before hopping into an enormous Jaguar. Charles and I used to peer down into the car park after meetings, and it was amazing how many penurious entrepreneurs still had much nicer cars than we did. Then there was the neuro-linguistically programmed former bond trader, a tall and unfeasibly energetic young American who claimed to have been a presidential adviser and waved his arms like windmills as he pitched to us. His project involved a life-size cardboard cut-out of a policeman. He was accompanied by a hard-as-nails sidekick who had been in the South African Special Forces and stood glowering in the corner throughout. They didn’t write a cheque either, though the bond trader was courteous enough to telephone the next day and tell us why not: he thought we were crap.

—-

The problem the magazine faced was that most of the businesses, even the good ones, were simply the wrong kind for equity investment. You need a business model that, in the unlikely event of it paying out at all, pays out like crazy. It’s no good hitting one jackpot out of ten if the jackpot is only 5% a year. Hard hat diving and fancy pickles were just never going to deliver.

I say the businesses were of the wrong kind for equity investment, but what if things were different, what if investors did not demand their 20% a year return from every single business? What is the subjects weren’t business at all, but a diverse range of start-up ventures delivering social good? It doesn’t all have to be financial alchemy, chasing ever higher valuations in pursuit of the unicorn pay-out. Surely, in what I have sketched out – equity fundraising, collective subscription, a tolerance for risk – we have the bare bones of a mechanism that could actually do something useful?

Throughout 2018, Guardian columnist Aditya Chakrabortty toured Britain looking at what he called alternatives, spaces and places where local people had taken control of their economic destiny, perhaps to build social housing or a shopping centre, or to operate the bus services. One such makes children decent school meals: Chakrabortty’s report should make your blood boil. It details the daily indignity and grinding hardship of food poverty in one of the world’s richest countries – where children half-starve during school holidays, deprived of their only daily meal. These enterprises have many things in common. For a start, all are short of cash. The availability of capital is an ongoing problem. Those who have it at their fingertips, Chakrabortty writes, ‘have no place on their spreadsheets for social purpose’. Instead money is begged from grant funders or somehow borrowed.

Could we build a stock exchange to help here? It seems so. There’s something called community shares, a novel subscription method signed off by the financial regulator. Community Shares Scotland, located in Edinburgh, has run offers to support a harbour and a community school, while Chakrabortty mentions a Plymouth housebuilder that has raised £200000 this way.

So this is a private sector solution to social problems, but it’s not one that recognises the logics of high finance: profits are not at the top of the agenda.[4]

My point here is simple enough. The stock exchanges I have talked about so far have been global giants. They’ve been formed by accident by the confluence of capital and political power. They have been shaped by technology, and as we’ll see, that continues throughout their histories. Ever since the regulars at Jonathan’s Coffee House hatched a plan to charge subscriptions stock exchanges have been first and foremost commercial organisations. But they don’t have to be, and if they are they don’t have to be the global providers of data and exchange services that we know today. Sixtus’s magazine was a stock exchange of the most rudimentary variety, and we could see that model working for a different purpose. If the ventures didn’t have the upside for high-risk investors, they might have done for more socially minded.

Between a magazine and the Chicago Board of trade lie an infinity of possible social and material combinations. We just have to decide what we want them to do.

Chakraborrty notes something else that these alternative schemes have in common. They are, he says, ‘thickly neighboured’, depending on social networks for their success. Alas, that is true of any economic venture. Too often, these arrangements are cliques. Poor Sixtus has taken a bit of a kicking here, a stand-in for the privilege and incompetence of the elite. But his story shows the power of social networks and  their ability to channel opportunity and capital. The bitter truth is that getting into such networks depends little on aptitude or talent, and greatly on brass neck and connections. And, of course, where you went to school.

I’m Philip Roscoe, and you’ve been listening to How to Build a Stock Exchange. If you’ve enjoyed this episode, please share it. If you’d like to get in touch and join the conversation, you can find me on Twitter @philip_roscoe or email me on philiproscoe@outlook.com. Thank you for listening, and see you next time, when we try and understand the markets’ social networks a little better.

 

[1] I am quoting from Sixtus’ own account of this start-up. Sixtus is a pseudonym.

[2] Banking economics has given us a library of studies of lending decisions, mostly following two articles: G Akerlov, “The Market for Lemons: Quality Uncertainty and Market Mechanisms,” Quarterly Journal of Economics 84 (1970); JG Stiglitz and A Weiss, “Credit Rationing in Markets with Imperfect Information,” American Economic Review 71 (1981).

[3] SC Myers, “The Capital Structure Puzzle,” Journal of Finance 3 (1984).

[4] You can find Chakrabortty’s series here https://www.theguardian.com/commentisfree/series/the-alternatives


Episode 2. From pigs to prices: a Chicago story



How did Chicago’s stockhouses lead to one of the greatest financial markets on earth? This episode explores how commerce and technology shaped the founding of the Chicago Board of Trade and gave birth to financial derivatives. It tells how the telegraph transformed trading, how the pits functioned as human computers turning pigs into prices, and how when we come to build our stock exchange we’ll have to get a building to fit.

Transcript

‘They went into a room from which there is no returning for hogs. It was a long, narrow room, with a gallery along it for visitors. At the head there was a great iron wheel, about twenty feet in circumference, with rings here and there along its edge…it began slowly to revolve, and then the men upon each side of it sprang to work. They had chains which they fastened about the leg of the nearest hog, and the other end of the chain they hooked into one of the rings upon the wheel. So, as the wheel turned, a hog was suddenly jerked off his feet and borne aloft.’

This, I should say, comes from Upton Sinclair’s novel ‘The Jungle’, published in 1906. He continues:

‘At the top of the wheel he was shunted off upon a trolley, and went sailing down the room. And meantime another was swung up, and then another, and another, until there was a double line of them, each dangling by a foot and kicking in frenzy—and squealing.

…Heedless of all these things, the men upon the floor were going about their work. Neither squeals of hogs nor tears of visitors made any difference to them; one by one they hooked up the hogs, and one by one with a swift stroke they slit their throats. There was a long line of hogs, with squeals and lifeblood ebbing away together; until at last each started again, and vanished with a splash into a huge vat of boiling water.

It was all so very businesslike that one watched it fascinated. It was porkmaking by machinery, porkmaking by applied mathematics…[1]

Hello, and welcome to How to Build a Stock Exchange. My name is Philip Roscoe, and I teach and research at the University of St Andrews in Scotland. I am a sociologist interested in the world of finance and I want to build a stock exchange. Why? Because, when it comes to finance, what we have just isn’t good enough.

To build something – to make something better – you need to understand how it works. Sometimes that means taking it to pieces, and that’s exactly what we’ll be doing in this podcast. In the last episode, I spent some time explaining why finance matters, and why we should take stock markets seriously, both as engines for inequality – which they surely are – and visions of possibility, which I hope they might be. Over the coming episodes I’ll be asking: what makes financial markets work? What is in a price, and why does it matter? How did finance become so important? And who invented unicorns?

Well, from one happy animal to another less so…

You may be wondering why I began this episode with a graphic bit of hog slaughter. My apologies if you found that a little strong, and I hope you are not listening over your bacon and eggs. I said before that markets – not just stock markets – have places, histories and politics and are shaped by the customs and beliefs of their participants. In the last episode, for example, we saw how “agency theory”, a little bit of academic vogue from the 1980s has come to dominate the relationship between companies and their stakeholders. But bricks and mortar – or chips and bits – also matter.[2] The material architecture of a market has a great deal to do with the way it works. That is what I will be focusing on today.  Think about it: Ebay and a car boot sale are both full of householders selling second-hand items to other householders, but inhabit different spatial structures. Those structures cause them to work in different ways. Ebay works out prices through an automated bidding system built into the site, while the car boot uses trestle tables and empty car parks to help buyers and sellers see the market and work out prices. Politics, history, and place are written into eBay as a textbook economic market; into the car boot as, well, just that…

Which takes us back to those poor piggies. Upton Sinclair’s muckraking expose of industrial pork production and exploited labour takes us to the beginnings of a new kind of market, a distinctively modern, technological, Chicago affair. The hogs are going to their doom in the stockyards. By the early twentieth century, Chicago was the biggest railway hub in the United States and the gateway to the agrarian West and. At its peak this heartless pork-making by applied mathematics chewed its way through 13 million animals every year. Caitlin Zaloom, an anthropologist who has studied the growth of Chicago’s financial markets, writes that the ‘disassembly line’ was ‘an important inspiration for a later industrialist, Henry Ford, who mimicked this orderly model of death and dismemberment in his automobile plants. His admiration focused particularly on the meatpacking industry’s refined division of labour, the intricate order behind the foaming rivers of blood that ran through the slaughterhouses.’[3] (I should say, by the way, that full references for all of these works are footnoted in the transcript which is available on the podcast website.) The stockyards supplied canned products across the continent and gave rise to appalling environmental conditions closer to home:

…the residents’ – and this is Sinclair again – ‘would explain, quietly, that all this was “made” land, and that it had been “made” by using it as a dumping ground for the city garbage. After a few years the unpleasant effect of this would pass away, it was said; but meantime, in hot weather—and especially when it rained—the flies were apt to be annoying. Was it not unhealthful? the stranger would ask, and the residents would answer, “Perhaps; but there is no telling.”’

The stockyards created immense wealth. So much money, so much energy, so much stench. All called for civic action, and 1848 saw the foundation of the Chicago Board of Trade. Of course, Chicago has always been Chicago and the Board of trade was hardly a grassroots, democratic organisation. Its members were prominent businessmen and politicians and it was set up as a platform to enhance the city’s stature, cementing Chicago’s position as a national centre for trade. They built a headquarters in the centre of the city and sought to shape the urban architecture in such a way that products could flow in and out more easily; one still cannot visit Chicago without the sense that it was not built as a city for people. Nonetheless, as the Board’s influence spread, and with it the volume of trade, members encountered a problem. America is big, the Midwest vast. Even with modern communications it takes a while to get around, and in the late 19th century things travelled much more slowly. Agricultural goods are heavy, bulky and perishable, not easily taken in the sweltering summer heat to a market hundreds of miles away, thence to be sent off to a new buyer. To deal with this problem, a new kind of contract appeared. In 1857 members began trading ‘to arrive’ contracts, settled in cash.

The point of these contracts was that, despite their name, goods never actually had to arrive. These new contracts – or securities – could be traded in the absence of the physical commodities to which they referred. They were  therefore ‘derivatives’ – a kind of security derived, or based, on something else. As soon as the financial contracts were unhitched from the commodities that they represented, a speculative market could begin to develop. What do I mean? Well, alongside those who need to buy and sell pork bellies, are those who have no interest in supplying the commodity or consuming it but are seeking to make a living purely from the fluctuating price of the goods. They might seek to turn a profit by purchasing next year’s harvest from a farmer seeking to secure a reasonable price, gambling that the summer will be wet and prices will be high; while the farmer is protecting himself against a change in the weather, the speculator is chancing on risk itself.

Speculation is tricky if you have actual commodities to deal with, and almost impossible if those commodities are heavy, perishable or in need of feed and water. The new security, made up of legal contracts rather than bristle and oink, could be passed around much more easily. It is the same with any kind of financial abstraction, the company shares we talked about in the last episode, or the derivative products that underpinned the credit crisis and which will be revisiting soon enough. The market can bring a thousand bushels of wheat into Chicago without moving them from Kansas, can sell them to a man in New York, to another in Baltimore, and to a third back in Kansas who actually intends to use the grain. Markets bend space by transacting in the simulacra of commodities. They compress time, too, selling the summer’s harvest while it is still under the snow of the plains.

The Board flourished and speculators, unconcerned with the hard business of raising pigs or growing wheat, soon come to dominate the market, their capital making them far more influential than simple buyers and sellers. Frank Norris’ classic Chicago novel The Pit, published in 1902, concerns one such and his attempt to corner the wheat market – that is, to own every bushel of wheat in the entire nation. I will not spoil the ending, but Norris portrays the battle of man versus market as an elemental affair, the swashbuckling trader against the forces of nature herself.

—–

These derivatives required regulations of quality and standardised weights, so that one bushel of grade A winter wheat could easily replace another, and in 1851 a rule made the provision of misleading information an offence worthy of expulsion from the Board. The new market also required a material infrastructure that spilled out throughout the western plains, and this took the form of the telegraph, its cables laid alongside the spreading railways and corralling a whole nation’s agriculture into a single trading room. Chicago became a national market not just because goods arrived on railways. Information followed the same tracks.

In fact, it was the new technology of the telegraph that made the market possible, just one of many market transformations driven by technological progress. This new technology gives a market something previously missing: time. And time makes all sorts of things possible.

Alex Preda has investigated how developing methods of communication shaped and then reshaped markets.[4] You see, 19th century markets were all jumbled up. Preda quotes a letter, from a Richard Irvine, of New York, to J. A. Wiggins, in London, 1872. The author slips a few choice stock quotations into a communication concerning equally choice apples, peaches and oysters:

We have shipped to you care of Messrs Lampard and Holt, by this steamer, the apples you ordered in your favour of the 20th September last. We are assured that peaches and oysters are of the best quality, and trust they will prove so. Below we give you memo of their cost to your debit.’ – so, here’s some fruit, some fish, here’s the bill…

‘We think it is well to mention that First Mortgage 6% Gold Chesapeake and Ohio Railroad bonds can now be bought here to a limited amount at 86% and accrued interest. They are well thought of by investors, and were originally marketed by the company’s agents as high as 14% and interest. We enclose today’s stock quotations’.

The letter, and many like it, holds the market together and at the same time tangles it up with all sorts of extraneous material. Our apples and peaches are good, says the merchant, so try our railroad bonds.

The jumble didn’t stop there. Irvine would have purchased the bonds at the New York Stock Exchange, an institution that ran two different markets simultaneously, one formal and one informal, one regular and the other chaotic. Traders of the formal market – called the Regular Board – sat in inside the exchange, wearing top hats and tail coats, and called out prices in a prescribed order. Those in the informal market – the Open Board – stood in the street, where they mingled with the general public. Most of the business was done in the street. Messenger boys carried news on paper slips, marking a time that was full of holes, disrupted and discontinuous. As Preda makes clear, letters and chaos worked surprisingly well, or at least were fit for purpose, if that purpose was hanging on to clients and keeping business going.

—– Ticker sound[5] —–

But time – regular, ordered, bounded time – is something we associate with stock-markets, and for this we have to thank the tickertape. Invented by an engineer named Edward Callahan who had himself started out as a market messenger boy, the tickertape used the telegraph network to transmit prices, tapping them out on a long roll of paper, those same paper streamers thrown onto returning astronauts and sporting heroes in the heydays of the twentieth century. Despite technological difficulties – jammed wheels and batteries comprising large jars of sulphuric acid, the ticker quickly caught on. By 1905 23,000 brokers’ offices subscribed to the ticker. These brokers provided a space for investors to gather, and to consult the code books necessary to decipher the orders transmitted across the tape: Preda gives one example, ‘army event bandit calmly’, which somehow translates as ‘Cannot sell Canada Southern at your limit, reduce limit to 23.’ Brokers rooms became part of the market’s place and remained a feature of stockbrokers’ offices until relatively recently – my colleague Yu-Hsiang Chen visited Taiwanese brokers rooms just a few years ago, a social technology slowly being displaced by electronic messenger services and the Internet. Back in 1902, Norris gives a sharp, unflattering description of one such room. It is a place of ruin, filled with nondescript, shabbily dressed men with tired eyes and unhealthy complexions, as the telegraph key clicks unsteady and incessant in the background.

The ticker brings the market to life in a completely new way. It chatters as the market buzzes and falls silent as trading slows. It moves relationships away from people and into machines. We no longer need to trust that our apple and peach seller is giving us good investment information when we can simply read the tape. It provides a new space for market thinking and market action. The stock market classic Reminiscences of a Stock Operator by Edwin Lefevre talks at length about learning to read the tape, a task Lefevre regards as being the necessary basis for any success. Often, the tape is Lefevre’s metaphor for the market as a whole. The tape does not care why, he says, or the business of the tape is today not tomorrow.

The stock-picking strategy of technical analysis, or ‘charting’, still popular today, has its roots in the regularly-timed series of prices emerging from the tape. The ticker controls – no, imposes – time. It brings speed and direction into the market. It is suddenly possible to say that a stock is going up or down, even if the stock is traded in New York and the broker’s office is in San Francisco. It transcends space, turning a chaotic, confused cluster of marketplaces into a single, orderly, measured market. Its regular patterns live on in the scrolling horizontal stock price displays that one sees outside buildings, or rolling across the bottom of television screens. In our present time, when market trades are completed in microseconds, the gently rolling ticker is an epistemological absurdity but it has become a universal representation of the stock market.

—-

So in those miserable hogs, and the (almost) equally miserable workforce that hacked and scraped in a systematised division of labour that would have horrified Adam Smith’s impartial spectator, we see the beginnings of the Chicago Board of Trade, then and now one of the mightiest financial markets on the globe. We have seen how new rules, measures and contracts have made possible a speculative trade in financial instruments only indirectly related to the underlying commodities. We have seen how advances in technology, the new telegraph system and the automated, chattering tickertape brought the economic world into Chicago. It is not without coincidence that the telegraph ran alongside the same railway system that brought the pigs to market. The ticker made time regular and became a new site for market action; speed and direction are suddenly visible, and with them profit. So connected, the market becomes a single, homogenous entity, the tendrils of its network running out from the great metropolitan centre like spokes from a wheel. It was, wrote Norris, a global affair,

‘A great whirlpool, a pit of roaring waters spun and thundered, sucking in the life tides of the city, sucking them in as into the mouth of some tremendous cloaca, the maw of some colossal sewer; then vomiting them forth again, spewing them up and out, only to catch them in the return eddy and suck them in afresh… Because of some sudden eddy spinning outwards from the middle of its turmoil, a dozen bourses of continental Europe clamoured with panic, a dozen old world banks firm as the established hills trembled and vibrated…’[6]

At the centre of this whirlpool there lay the pit, the monstrous, gaping creature that gave Norris’ book its name. I prefer a more prosaic metaphor: the pit was the processing unit of the humming human computer that made the market work. Its signals were pure information: orders went into the pit, and prices came out.

The pit was a simple structure, an octagonal, stepped ring in which traders could stand. At first they just stood in crowds in the Board’s trading room. But it was hard to see over the heads of the crowd so they took to moving furniture and climbing on desks to get a better view. In 1870 this workaround was formalized and the octagonal pits were first introduced. The pits formed the heart of a new building in 1885, a monument to the civic power of finance with figures of Agriculture, Commerce, Fortune, and Order decorating the trading room. Soon, trade outgrew the architecture and the Board commissioned a new building, the art deco monolith that still looms over LaSalle Street. In this building too the pit-powered trading room dominated the design. It was a vast, open room, for designers by now understood that uninterrupted lines of sight were crucial to the functioning of the market. The world poured into the room through the newest communication technologies imaginable: the telegraph, pneumatic tubes, even telephones. Agriculture and her fellows were absent, though. The new building, completed in 1930, manifests the industrial modernity and bling of Art Deco: as Zaloom cannily notes, machined-finished, stylized images of plants and flowers bear the same relation to nature as the futures contracts, one step removed from the real thing. We might say that the building’s form represents the existential presuppositions of the business at hand; its architectural imagery is far more concerned with the mechanical processes of agriculture and transport than it is the natural underpinnings of commodity production. It’s no surprise that stock markets can be implicated in environmental degradation as well as inequality. When we come to build our stock exchange, if we want justice and sustainability, we’ll have to make sure the building backs us up.

—- Trading bell and pit noise[7] —-

These stepped, octagonal spaces were soon found across the world. Their basic organisation had changed little by the time Zaloom, and other social scientists, visited them in the 1980s and 1990s. A bell sounded to open trading, and to close it, deepening liquidity by compressing orders into a short period of time. Runners brought orders into the pit and carried trade records out to be stamped, recorded and filed, while traders did battle to outwit their fellows and take home a profit. A pit trader did not need to know economics or commodity forecasts. Those things were translated into the orders pouring in from outside. They simply knew how to trade. They read faces and sought fear or weakness in the shouts of their rivals. It was enormously physical work, pushing, shouting and gesticulating, using a complicated system of hand gestures that had evolved over the previous century. Size mattered, so a cobbler in the building’s basement fitted high heels to the shoes of shorter traders.[8] More senior traders, often those prepared to commit to bigger, more risky trades, worked their way to the front of the pit where they enjoyed better visibility and the advantages that came with it. It would be a mistake, however, think of this scrum as anarchic. The trading pits were organised and governed by complex social norms and procedures. Traders had to be prepared to take losses, transacting with brokers or fellow market-makers struggling to unload a position, a favour that would be reciprocated another day. Trades would be made in quarters, not eighths, thereby guaranteeing a certain minimum commission.[9] Those in the pit would respect its politics and status organising themselves according to its invisible hierarchies. But most of all, those in the pit would honour their bargains even though these were simple spoken agreements. Failure to do so, or indeed to comply with any of these routines, would result in exclusion from future trades.[10] In a now classic study the sociologist Wayne Baker showed how these behavioural patterns governed the ideal size of a pit; while economic theory would suggest that a bigger crowd would provide more liquidity and better prices, Baker showed that social controls failed if the crowd became too large and the whole pit suffered.[11] Such social controls were necessary to protect the integrity of the central characteristic of the market, unchanged for a century and from which all else follows: the acceptance of a spoken trade as a solid contract.

You can see this world, perhaps a caricature but still well observed, at work in the finale of the 1980s comedy ‘Trading Places’. The verbal deals made by the heroes are concrete enough to bankrupt the villains after a failed corner in frozen concentrated orange juice, of all things.

But progress marches on, and the pits have all gone.  While they help us understand the evolution of finance, it is unlikely that  we would build our stock exchange around the human computers of old. Things change. As Sinclair said of those unfortunate piggies, we ‘could not stand and watch very long without becoming philosophical, without beginning to deal in symbols and similes, and to hear the hog squeal of the universe…

I’m Philip Roscoe, and you’ve been listening to How to Build a Stock Exchange. If you’ve enjoyed this episode, please share it. If you’d like to get in touch and join the conversation, you can find me on Twitter @philip_roscoe or email me on philiproscoe@outlook.com. Thank you for listening, and see you next time, when we’ll find out how London’s new stock market helped the King of England out of a sticky problem…

References and credits

[1] Upton Sinclair (1906) The Jungle, Ch3. I have edited the passage.

[2] An elegant primer is found in Donald MacKenzie, Material Markets: How Economic Agents Are Constructed (Oxford: Oxford University Press, 2009). MacKenzie is the undisputed leader in this field of study.

[3]  Caitlin Zaloom, Out of the Pits: Traders and Technology from Chicago to London (Chicago: University of Chicago Press, 2006). This quotation from p16.

[4] This and below, Alex Preda, “Socio-Technical Agency in Financial Markets: The Case of the Stock Ticker,” Social Studies of Science 36, no. 5 (2006).

[5] Ticker: recording from ‘Timbre’ via freesound.org, under a non-commercial creative commons licence

https://freesound.org/people/Timbre/sounds/148893/

[6] Frank Norris, The Pit (London: Penguin Classics), 72-73.

[7] Sound recording from ‘touchassembly’ via freesound.org, under a creative commons attribution licence

https://freesound.org/people/touchassembly/sounds/146268/

[8] Caitlin Zaloom, “Ambiguous Numbers: Trading Technologies and Interpretation in Financial Markets,” American Ethnologist 30, no. 2 (2003).

[9] MacKenzie, Material Markets: How Economic Agents Are Constructed.

[10] M Abolafia, “Markets as Cultures: An Ethnographic Approach,” in The Laws of the Markets, ed. M Callon (Oxford: Oxford University Press, 1998).

[11] Wayne E Baker, “The Social Structure of a National Securities Market,” American Journal of Sociology 89, no. 4 (1984).