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Wrestling for Control at the Merc;Heavyweights Battle It Out Daily With

Stock Index Arbitrage: [FINAL Edition]
Crudele, John. The Washington Post (pre-1997 Fulltext) [Washington, D.C] 19 Nov 1989:
h13.

Abstract (summary)
Kidder and Salomon are attacking the S&P index futures hard. Both are making bids ferociously. With
hands raised above their heads, Salomon and Kidder are looking to buy 400 contracts apiece at the
opening price of 339.10.
The midgets just can't stop the onslaught from Kidder and Salomon this morning. There's nothing they can
do, except play along. The midgets are now buying stock S&P index futures, too, making the contracts
that Salomon and Kidder bought at 8:30 a.m. even more valuable.
By the way, Salomon-or the client it was representing-really did end up on the canvas for a while on Nov.
10. Early that afternoon, the Federal Reserve Board unexpectedly tightened credit conditions a bit, which
had a depressing effect on stock and stock futures prices. Salomon's buying alone couldn't keep the prices
up. And when the futures fell, Salomon was on the mat. The venerable brokerage didn't return a call for
comment.

Full Text
Welcome to the fights.
You've already heard how program trading-especially stock index arbitrage-is making life miserable for the
vast majority of investors. But do you really understand how the maneuverings of a few big brokerage
firms are making a day in the financial markets as exciting as a wrestling match?
To bring you a blow-by-blow description of just what these brokerage houses are doing to get the
financial markets in a headlock, we have to go to Chicago. The day is Friday, Nov. 10, 8:30 a.m. My
ringside announcer is someone on the floor of the Chicago Mercantile Exchange who is watching the big
guys wrestle for control over the Standard & Poor's 500 index futures.
Today, we have a tag team match. In one corner are two super heavyweights, Salomon Brothers and
Kidder Peabody & Co. In the other corner is everyone else. It's the giants vs. the midgets.
There's the bell.
Kidder and Salomon are attacking the S&P index futures hard. Both are making bids ferociously. With
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hands raised above their heads, Salomon and Kidder are looking to buy 400 contracts apiece at the
opening price of 339.10.
For those of you who are new to the game of index wrestling, let me explain the rules. An S&P futures
contract is a proxy to buy the 500 stocks that make up the index. It's for someone who wants to play the
500 stocks without buying them outright.
In reality, however, the contract's buyer doesn't want to own those 500 stocks any more than Andre the
Giant wants to hurt Hulk Hogan. The contract's bidder only wants to make money buying and selling index
futures contracts as they go up and down in price.
This arena, folks, is better for making money than the New York Stock Exchange. Here you only have to
pay $6,000 for a contract. That's only 3 percent of the actual price. And for that small amount you get to
control not only the contract here, but you also get indirect influence over what those 500 stocks do on
the NYSE.
And watch those 500 stocks dance. All you have to do is buy the futures contracts here in Chicago-like
Salomon and Kidder are trying to do this morning-and the stocks will go up automatically in New York.
(This morning there isn't much impact on the underlying stocks because trading on the NYSE has been
delayed by a fire.)
One S&P futures contract has the muscle of about $175,000 worth of stock bought in New York. So those
400 contracts that Kidder and Salomon are both trying to buy will have an effect on the financial markets
equal to the purchase of $140 million worth of stock.
Now back to the action.
The midgets just can't stop the onslaught from Kidder and Salomon this morning. There's nothing they can
do, except play along. The midgets are now buying stock S&P index futures, too, making the contracts
that Salomon and Kidder bought at 8:30 a.m. even more valuable.
Kidder is apparently satisfied with the money it has already made, but Salomon just won't give up. It
wants another 1,000 contracts, even though the price is now up to 341. An amazingly large purchase.
Oh, oh! Here come the midgets. Shearson Lehman Hutton is selling 100 contracts to Salomon. Gelber
Group, one of the smallest midgets, is hitting Salomon with another 100 contracts.
"No more," Salomon is crying. "I don't want any more." Salomon has withdrawn its bid for the other 800
contracts.
Prices are falling. Salomon is down. One, two, three ...
This was a re-creation of what actually happened on Nov. 10. It shows how a big brokerage firm, through
concerted buying and bluffing that would make a card shark proud, can influence the S&P stock index
futures market.
And by influencing the stock futures market, the firms can ultimately have a big say over what the stock
market does.
While manipulation of any financial market is forbidden, even those who run the financial futures market
admit that big customers like to "have an impact."
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Investment firms, of course, throw their weight around all the time in subtle ways. And bluffing-like that
being done by Salomon Brothers on this day-is an old tactic for commodity traders.
I purposely wrote this account like a sporting event because to the people who take part in this marketconfounding behavior, it really is a game-a very profitable trading game that has a big advantage over the
old-fashioned way the financial markets used to work.
In the old days, something had to happen-a report on the economy or on a corporation-before the stock
market would move. Nowadays, big investment firms can speed up the action themselves by their activity
in the financial futures markets. No outside event is necessary.
Over at the Chicago Board of Trade, sources tell me that professionals are constantly tugging at the
strings of the 20-stock major market index.
And when either the major market index or the S&P 500 stock index dances, stock prices in New York start
doing a jig. And that's when traders are able to make money from the discrepancy in the various markets.
That's index arbitrage.
Banning index arbitrage-as many people have proposed-isn't really going to make the financial markets
any less volatile. Even if brokerage firms abandon index arbitrage trading practices, markets will remain
tumultuous as long as that wrestling match is going on in Chicago.
Other things also make index wrestling a profitable sport. If someone knows, for instance, that the stock
index futures market is about to rise (maybe because he's planning to place a big order to buy futures
contracts), he also can make money by buying stocks on the NYSE in anticipation of that move.
By the way, Salomon-or the client it was representing-really did end up on the canvas for a while on Nov.
10. Early that afternoon, the Federal Reserve Board unexpectedly tightened credit conditions a bit, which
had a depressing effect on stock and stock futures prices. Salomon's buying alone couldn't keep the prices
up. And when the futures fell, Salomon was on the mat. The venerable brokerage didn't return a call for
comment.
The following Monday, Salomon, Kidder and the rest of the gang were back in the ring for a rematch. John
Crudele is a columnist for the New York Post.
Copyright The Washington Post Company Nov 19, 1989

Indexing (details)
Title

Wrestling for Control at the Merc;Heavyweights Battle It

Out Daily With Stock Index Arbitrage: [FINAL Edition]

Author

Crudele, John

Publication title

The Washington Post (pre-1997 Fulltext)

Pages

h13

Number of pages

Publication year

1989

Publication date

Nov 19, 1989

Year

1989

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Section

FINANCIAL

Publisher

WP Company LLC d/b/a The Washington Post

Place of publication

Washington, D.C.

Country of publication

United States

Publication subject

General Interest Periodicals--United States

ISSN

01908286

Source type

Newspapers

Language of publication

English

Document type

NEWSPAPER

ProQuest document ID

307221805

Document URL

http://search.proquest.com/docview/307221805?
accountid=38148

Copyright

Copyright The Washington Post Company Nov 19, 1989

Last updated

2010-07-19

Database

National Newspapers Core

Copyright 2014 ProQuest LLC. All rights reserved. Terms and Conditions

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