Preface: This was written in collaboration with Gemini. 

We were talking about how Epstein got to Wall Street by the recommendation of Alan "Ace" Greenberg as a junior assistant to a floor trader. I’m particularly interested in this since I’ve long been wanting to know more about what exactly goes down on Wall Street. What is this quantitative trading I keep hearing, and why did it start becoming a profession around when Epstein was there? I want to know. 

I was curious what a floor trader is. Apparently, in the context of the 1970s and 80s when Epstein started, a floor trader was a very specific, high-intensity role that barely exists today due to electronic trading. Before computers took over, all stock and options trades happened in "The Pit" on the floor of an exchange (like the New York Stock Exchange or the Chicago Board Options Exchange). And a floor trader was an individual who stood in these crowded, chaotic pits and traded stocks or options using their own money or their firm's money (like Bear Stearns). They used hand signals and shouted at the top of their lungs to communicate buy and sell orders. Kinda like an auction house, but perhaps about 100 times more chaotic. 

Floor trading required two things: Physical stamina and insane mental math. Most floor traders were "gut" traders—they traded based on the energy of the room. Epstein, coming from the Courant Institute, brought a "Quant" (Quantitative) approach. While everyone else was shouting, he was mentally calculating the arbitrage (the tiny price difference between two related assets). He could look at an option price and instantly know if it was "mispriced" based on the math, which gave his floor trader a massive advantage. He was so smart, so smart that he practically invented quantitative trading it seems. 

Bear Stearns loved floor traders who were "PSD": Poor, Smart, and a deep Desire to get rich. You didn't need a Harvard degree to be a floor trader; you needed to be fast, aggressive, and never blink. Epstein used this environment to prove his worth. In a room full of aggressive "street guys," his ability to handle complex math made him look like a wizard. He worked hard, and he got noticed. 

Initially, Epstein’s job was to bridge between the shouting chaos of the trading pit and the firm’s back office. Basically, every time his trader made a deal via hand signals or shouting, Epstein had to record the price, quantity, and counterparty on “tickets”. Tickets, or order tickets, or trade tickets, were small, rectangular slip of paper, often color-coded that contained information of a multi-million dollar deal, such as ticket symbol(IBM, AAPL), quantity(number of shares or contracts), price, type(market order or limit order), and timestamp(vital for proving when the trade happened to prevent fraud). 

Imagine: a floor trader shouts a buy order for 10,000 shares, someone screams “Sold!”, then the following steps would happen. First, the trader scribbles the details on a ticket, then it’s handed to his assistant, Epstein, who then “time-stamps” the ticket using a heavy mechanical clock machine. The assistant would then ensure the ticket was sent to the “wire room” to enter into the firm’s central accounting system. This was a high stake job, because if an assistant lost a ticket, it would cause a “DK”(Don’t Know) trade, and the two firms involved would have to argue over who owed what. In a fast-moving market, a lost ticket could cost a firm hundreds of thousands of dollars in minutes because the price of the stock would have changed by the time the error was found. I’m guessing this was a very adrenaline-rushed, exciting job. Screaming, testosterone, high-stake, and mostly importantly, he was able to cheat and take shortcuts. 

Most assistants were just paper-pushers, however, Mr. Epstein used the tickets to learn the “flow”, by handling thousands of these slips of paper, he could see who was buying what, what patterns were emerging in the market, where the profit margins were. You can imagine how an environment like that would breed tremendous growth in an impatient math genius with a questionable moral compass. He wasn’t just recording numbers, he was analyzing the data on those tickets to understand how the “big players” moved their money. He would show his traders how to use formulas to find arbitrage, which is a fancy way of saying guaranteed profit from price gaps. When the traders saw their profits spike because of his math, they demanded he be given more responsibility. 

Epstein understood that Wall Street is as much about proximity to power as it is about numbers. He didn’t socialize with the other assistants, he spent his time observing the senior partners and learning their language. Because he was already teaching at Dalton, he had a certain level of “social polish” that other street-level clerks lacked. He could talk about physics, philosophy, and high-level strategy, which made him stand out to Ace Greenberg as someone who could eventually handle “big-ticket” clients. Combined with the explosive growth of the options market at the time, in the late 70s, Bear Stearns moved Epstein from being a floor assistant to Option Desk. 

As a trader on the Option Desk, Epstein moved from being a “recorder” of trades to the person actually pulling the trigger on multi-million dollar bets. His role was centered on Quantitative Arbitrage, which as previously was just a fancy word for guaranteed profit. At the time, very few people understood how to do this correctly, and he was one of them. He would look at the price of a stock and the price of its “options” (the right to buy that stock later). If the math suggested the option should cost $2.10 but it was selling for $2.05, he would buy thousands of them instantly. He also specialized in what is called “Delta Neutral” trading, which meant that he would buy a stock and simultaneously sell an option against it in a way that he would make a small profit regardless of which way the market moved. Let’s say Epstein buys the stock for $100, he then almost simultaneously “sells an option” to someone else at $105. Because he sold that right, he gets paid a fee immediately, let’s say $3. This was an upfront, non-refundable cash payment for selling an option. If the market stays flat, the stock is still $100, the option expires and is worthless. Epstein still has his stock and he keeps the $3 premium. If the market goes up, and the stock hits $110, the other person exercises their option and buys the stock from Epstein for $105. Epstein makes $5 on the stock price increase, plus the $3 premium. But let's say the market goes down slightly, the stock drops to $98. Epstein loses $2 on the value of stock, but he still collects a $3 premium, which makes the profit $1. 

Epstein used this model, which is called the Black-Scholes Model to calculate how much the premium should be. If his math told him the “fair” price of the premium was $3, but the market panicked and paid $4, he would do the trade instantly. He was selling people options at an overpriced rate. 

(continued in the next post)