TDI Podcast: Thomas Peterffy Unfiltered (#964)

0:01Thomas Peterffy:The Disciplined Investor is all about you, your money, and the markets. Sit back and get ready for this edition of The Disciplined Investor Podcast. This episode of The Disciplined Investor is sponsored by Horowitz & Company. If you're looking for a portfolio manager, look no further. Horowitz & Company, from seed through harvest, cultivating financial success.

0:30Oil's big move, one for the record books. Markets in and out of panic. So far, not too worse for wear. Inflation numbers are out. I don't think anybody cares. And our special guest today is Thomas Pederfee, chairman and founder of Interactive Brokers. All this and much more on episode number 964 of the Disciplined Investor Podcast.

1:06And welcome to The Discipline. Welcome to the podcast that is here for you to learn, explore, and hopefully make some sense out of the crazy things that we call investing and the markets. I'm Andrew Horowitz, your host here in the chair since back in 2007, one of the earliest podcasts, And I think now the longest running independent financial podcast out there. And over the years, it's been a long time we've been doing this. We've been faced with some crazy things that are going on, right? I mean, all the way back to the challenges that you and I have seen, like the financial collapse of 2008-09.

1:47We had COVID shutdowns, remember that? That was just a couple days ago, it seems. We had this massive inflation in 21-22. you. And each time that something happens, it seems like, wow, it's never going to be never going to be good. And this is the worst ever that I've ever seen. Never before have we seen anything like this and markets react. And then all of a sudden it's like, well, nothing happened. We look back. We're like, well, that was bad. But if we were smart about it, we were disciplined. We made it through pretty well, didn't we? And why is this? Why does this happen? Why is it that markets have a short term memory when things like that happen, when it's feeling really bad, but then all of a sudden we jump because mostly not a lot of really, really bad was allowed to happen.

2:31Sure. We can concede. I can concede. Listen, 2008, 2009 was the worst of it. Banks were failing. People were losing their houses. It was horrible. But the government stepped in and did whatever they could do to generate a better outcome. And we saw that. Saw the same thing happen in COVID. Money was splashed along the streets, basically, when the entire world was shut down. Because it's not allowed to happen. And what I mean by happen is, I mean a deep correction that lasts a long time. Like we saw in the 70s. Like we saw in the beginning of the 2000s. A recession that painfully resets the system.

3:19like the old days, like we saw back, I don't know, the 30s. There was a bunch of them in the 60s, 70s. This is no longer allowed in our current economic environment. The Fed has taken the side of, well, we have the ability, we have the tools to do things like quantitative easing, creating money out of thin air, and we're going to do what we can to make sure that nobody feels extraordinary pain. When I say nobody, yes, there are people that are going to get hurt. But when I talk about the markets and the people invested, that's where they want to protect. Because any time anything goes sideways to Dow, the government steps in with schemes that eventually are going to end up in higher debt like we have record debt loads, floods of money in the economy.

4:04And it's not just here. The lessons that were learned with this quantitative easing, with this modern monetary policy and modern monetary theory is spread all over the world. Central banks with lower rates, creating money, government spends. And what happens? That money particularly finds its way into risk assets. There's nothing new here, just what's going on. And then we have to ask ourselves, is this time different? Oil skyrocketing. The VIX hitting above 30 for a minute there. Stocks have been under pressure. And in the past, there's been no better way to foretell a recession and market corrections and bear markets, etc., than incredible oil spikes.

4:56But it feels like this time there's a need to end this quickly, especially before the midterms. That's going to be a big issue. Which is why we're hearing things like the war has reached its objective, the war is complete, and in a way it's kind of sounding like mission accomplished that we know didn't really end well into that one. And what we're watching now is if the whole thing just turns off just as fast as it turned on, if we can get this to subside somehow, I think it will be kind of a short-term blip for business and then back to business as usual. But that's a big, big if. You can see there's still a lot of money that's flowing into the system.

5:42And buyers really keep on stepping in at any time they see any inkling of any good news. And that says a lot. Yes, we're in a downtrend. No question about it. I can't even for a moment think about any other classical downtrend that can't be recognized such as what we're in right now. And it started way before this war. There was a lot of things happening in the market, specifically with technology that was a bit of a tell. Of course, the oil spike spread itself through the rest of the market. So we are in a downtrend of sorts. But let's also recognize that the latest move has been situational.

6:20And that's much different than something that is economic. Now, this could spread to an economic circumstance. That's what everybody's really concerned about. That's why the markets are readjusting and revaluing. because if it does last for a while, well, all bets are off. If it clears soon, things will be kind of okay. So like I said, I've seen plenty of these types of conditions and what worries me now is not the war footing that we're having right now. More so there's other market structures like private credit that is also happening at the same time. the funny dealings in the tech world that we've been discussing that I think are far more important for us to understand right now.

7:06And we're going to continue to explore this, right? Keep your eyes on the news flow. Even the smallest of small items like gating of money that we saw a couple of days ago and throughout the week on private credit in particular, that could, I think, unravel. People are going to get pretty nervous because not only do we have the private credit situation going on, now we have this oil spike. And that is going to be problematic. That could unravel if this conflict is elongated. So that's something that really concerns me right now. So let's keep an eye on that. I want to get to our guest because I'm sure he has some great insights.

7:46Our guest today is Thomas Petterfi. He's the chairman and founder of Interactive Brokers Group, which is a global electronic brokerage firm. He has been at the forefront of applying computer technology to automated trading and brokerage processes since soon after he immigrated here from Hungary to the United States in 1965. Today, Interactive Brokers is one of the largest publicly traded electronic brokerages with market value of over$100 billion. And the firm provides direct access to trade executions, clearing, and custodial services for a wide variety of products, including stocks and options, forex, futures, bonds, funds, CFDs and funds and over 170 markets and in over 29 currencies around the world.

8:29Wow. Pretty impressive. Let's get to it. So Thomas Petrfi, how are you? Welcome to the show. I'm very well. Thank you very much. And thank you for having me. Yeah. I want to get an understanding of who you are first before we get into some of the nitty gritty about some of the things your company's doing and how you built this, I would call a magnificent company. So here's some of the things that I have. Tell me where I've either gone wrong or whatever. So you were born, this is my understanding, in the basement of a Budapest hospital during a Russian air raid in World War II, right? That is correct, although I'm not sure if the air raid was Russian or American.

9:12Okay. I don't know which. But either way, there was something going on in the background. Or maybe German, right? Right, could have been, right. So here's the start of your life. You're born under bombs. You grew up under socialism. And you ended up building the machinery that replaced trading floors. And I was thinking about this. And I was wondering if you see your life's work as basically one successful challenge to disorder. Well, yes. You see, I'm not a very tall person. So when I went on to the floor of the stock exchange, I was surrounded by these huge guys. And everybody, you know, had a louder voice.

9:56And, of course, they didn't have an accent. Nobody could understand me. So I was thinking that, you know, if we could do this with a computer, it would be a lot easier for me. Right. And for everybody else also. because you see the way it was organized is that the specialists had to keep track of who was bidding what for which options and what price they were offering it. And, you know, as you know, there are maybe 23 in those days, 23 different options on underlying stock and maybe five to ten people in a crowd. So it was impossible for the specialist to keep track of who was bidding and offering what.

10:45So even though the rules called for that, that's not how it actually took place. So, you know, the specialist would call out a price and then people who wanted to participate put up their hands. And the specialist liked the price for himself. and he gave very little to the people who wanted to participate. And when he didn't like the prize, he gave it all to them. So you grew up in socialist Hungary, where you didn't have access to free market literature, right? My understanding is what shaped your early thoughts were, I guess, pre-World War II novels, like Dickens and Balsock. That's right. In fact, not traditional economic texts, right?

11:29That's absolutely correct. I didn't know anything about economics except from what I learned maybe from Zola, because Zola, one of the French writers, had several books on the French stock exchange in the late 1800s. So that was interesting. So do you think that modern finance as we know it today is missing the human side of the markets? the human side of the law. You know, kind of what you learned, again, some of the things you learned were more of a humanistic standpoint regarding, I think, the economics rather than just textbook economics. Am I wrong about that? Maybe that's... Well, you know, practice always helps.

12:15Yeah, I mean, so I basically learned most of what I have done by doing it, not by reading about it. Right, right. That's true. So, so I don't, you know, I don't even have a college degree to tell you, frankly. And is that something that has bothered you? You've built yourself into... It hasn't bothered me in the last three years, but it has bothered me in the preceding 50 years, because, I mean, preceding, you know, it didn't bother me when I was a baby. Right. But, you know, since I've been in my in my 20s all the way up until I became successful, it bothered me because if I knew that if I would fail, then I would have nothing to fall back on.

13:01Yeah, well, we have that. By the way, you and I have that together. I don't have a college degree either. So I guess as a point, though, you can be successful if you study, learn, stick to it, and you have a discipline, right? And then you can do something and not suggesting, I would suggest that somebody doesn't go to college, but that doesn't mean that you are prohibited from being a success, by the way. Right. You're absolutely right. But the fact is that, you know, lately people have woken up to the fact that it is not as important as it was made out to be 10, 20 years ago. So people would not hire anybody without a degree.

13:43And even probably today is difficult to get a job without a degree. Yeah. So you own over, this is, I found this out, I was a little bit taken aback by this, over 560 ,000 acres, primarily in Florida, of land. That is unbelievable. Now, I think that's fascinating because you didn't accumulate yachts. You became one of the biggest landowners in the USA with all that you've done that you built. You know, you built one of the most automated trading firms in the world. Are you automating your farmland? Well, you see, if I spent a lot of time thinking about what goes on there, I would. But, you know, I just have to focus on interactive brokers.

14:27So I do not spend my time figuring out how to manage it the best possible way. But if I did, I would. What's also great about, I think, your firm is that you had people that were very loyal to you and that worked with you for years and that helped build Steve Sanders, as an example, who recently retired. Great guy. I got to know him over the years. These are just people that really were dedicated to it. And what's part of the culture at Interactive Brokers that helped build a team like that? Well, you know, I used to, my management style was letting people do what they wanted to do and see what they were the best thought.

15:07so they could succeed. And when they were successful, I let them move into the jobs they basically wanted to do. So it was all up to them. And as long as you have some control over that, it works very well. Also, many of the people have gotten very, became very wealthy because the company was successful and everybody got stuck every year. So they all accumulated. And so that was, it's easy to do when the company is successful. It's much more difficult, I would think, if the company is not successful. Yeah. So let's fast forward into how you built this because I think it's just fascinating. So in the 1980s before laptops, you built custom handheld computers so your traders could price options faster than the competitors on the exchange.

16:06floor, right? That's right. So in fact, I hear that you hid the handhelds in a briefcase because computers were banned on the trading floor because traders feared automation. Well, you know, so on the CBOE, we were not allowed to use the handhelds. Of course, we were not able to use them. So putting them in the briefcase didn't help because we couldn't use it when it was in the briefcase so we were just told that no you cannot use it so i i i sued them they sued me and so we had all kinds of uh regal wranglings over the years and it was it was because of the wireless part of it or because of the handheld well basically the the the people who who didn't want to have their competitors use aids that helped them to become better and make a tighter, narrower market, they didn't like it.

17:16So it had nothing to do with the virus, any aid that they could have objected to, they would have objected to. Yeah, because I heard there's some story about once upon a time, there was something about a wire down the sleeve of your coat or something like that? Some weird story. No, they have many times cut our wires, you know, communication wires, right? Right, right. And they just cut it with a plier. And this was because, what was that? Was it because they were so afraid? Sabotage, sabotage. No, but why didn't they want it? It would seem like this was good for all sides. Was it because they didn't want tighter spreads to kill the commission?

18:02No, because they couldn't make equally tight spreads. So they didn't want to be competed out of business, right? Which they eventually were, right? But does any of this ring true with you with kind of the worry about AI these days? Is there a similarity between the two times? I don't see the big opposition to AI. I think I find it surprising that many, that not more people seem to be vocally opposed to it, like the software companies that, you know, spent many, many years building up their software now see that AI can do the same thing in much shorter period of time. But they, I mean, no, they are not, they don't come out to oppose it as they did in those days.

19:02I mean, you know, unions in those days were much more vocal. So what are my, the things about all this that I think is really interesting that back in 1990, kind of moving through the 80s where you created these machines and back in 1980, you declared, I think, to the point that open outcry, which a lot of people probably don't remember what that is, but open outcry trading would disappear. And at that time, I think it was considered like heresy, right? Could you first explain what open outcry was back in the day and kind of why you thought this? So open hot cry is when you had to cry out the order you had or the bid you had or the offer you had.

19:46It was all done by voice. People in a crowd by voice making agreements with each other. And then use hand signals like a palm out, palm in. The clerk signaled to the broker, and the broker then did the trade, and he signaled back the execution. So, yes, the brokers used hand signals with the clerks. The traders and market makers were, of course, on their own. and then there were brokers who are also trading for themselves and they use send signals when they were trading for customers and they did it on their own when they were trading for themselves. Did you think at that point, this is kind of about people that have succeeded to the level that you've succeeded.

20:42You have to have a belief that is pretty strong and unwavering, right? A lot of people have beliefs, but it's like, oh, they can be – their belief can change very quickly with just one person saying, well, that's not going to happen. Or some argument that seems to really be stiff enough to make them change their mind. But were you so – part of your success, was it so that you had such a belief in your outlook like that open aisle crate would disappear and that the exchange floors would be electronic? Well, I still do. I still believe that in a free market economy, a competition is good, and the person who provides the best service wins the competition, right?

21:29So the broker that provides the really best execution, best execution is relative to better than other brokers' execution, is still better, right? And so your clients tend to do better when you give them the best prices, right? And so that's why I have never gone along with selling the order flow to somebody else to execute it against themselves. That's a big issue of yours is payment for order flow, which a number of years ago was a big thing where basically you'd have faster machines grabbing the orders, you'd sell it. It's still a big thing. I mean, most brokers still sell the orders. All the brokers I know sell the orders except us.

22:33And that is, it's interesting because there's a lot of rules about best execution. And I've always wondered how payments for order flow fit into that. Okay, but best execution has become a name for executing a trade within the best visible bid and best visible offer. But that doesn't mean that it is the best possible price because, you know, the bid and offer can be kind of wide. And, you know, the best price within that bid and offer is important. So especially in options. So say option markets, sometimes three, four cents wide, right? Maybe five cents wide. So if you can execute it in the middle, that makes a big difference.

23:21So if you trade only one or two times a year, it doesn't matter. But if you trade frequently, it makes all the difference in your performance. And I know some, by the way, unmentioned, you know the names, that you could only bid within$0.05 increments still on options. There's no, you can't grab in between. Yeah, right. Which is awful. You know, what happened to the penny spreads on things? Yeah, but that's not really true. I mean, that's how you're supposed to quote them. But you can execute in between. So we execute in between the best. No, I know you do. No, I know you do. Yeah, I'm just saying that that's an important issue that people don't look at.

24:06You know, they look at, well, it's a free trade or I don't have to pay anything. And they think that's the best. Yeah, they think if they pay no commission, they are ahead. But the commission is a small fraction of what they lose on the trade. Right. Right. So you continually innovate. You have this great team that you put together. We're going to get into some of the different products and all that and things that you really have just jumped ahead of others. What still feels broken to you in the global markets? In the markets? Just generally speaking, the global markets, I mean, there could be anything in there.

24:45But what's kind of still a broken part that, you know, you would like to fix like you have for so many other things over your career? Well, you know, I still would like to see more competition than there is. I would like to see, of course, more interesting products. and I would like to see less useless regulation. There is a law of regulation that basically doesn't lead to anything. It just makes it more difficult to conduct the business and puts a lot of expenses on the people who do the business and then they have to pass it on to their clients And that is a big problem because a market should be much more efficient without all that regulation.

25:43Now, you at IB, you've intentionally limited leverage, right? You enforce very strictly margin rules, restrict certain client behaviors. As a matter of fact, I don't know exactly what happened in your circumstance. I know there's other firms back. Do you remember when oil went below zero back in the - Yeah, then to minus 20 something. Yeah, and that was kind of a crazy moment. People were pulling their hair out, freaking out. There were brokers that didn't properly do what they needed to do to manage their margin. We lost a lot of money in that, yes. But you do a really good job. My understanding is about restricting certain, let's just say, bad client behaviors, right?

26:25You just don't let - Well, it's not. You see, that's regulation. So we are compelled by regulation to survey our clients against manipulative trading. and, for example, so I'm not sure if I agree with this, but the rule is that you cannot, for example, bid up the price of an item and then suddenly turn around and sell it. That's called manipulative behavior. But in my mind, as long as you bid it up electronically and anybody can come in and sell it to you, If he's quicker than when you turn around and sell it to the other guy, I think that should be okay. But they say, no, it's not. So, you know, I don't want to argue with them.

27:20But that's the rule, and we have to enforce it, right? That's like saying that a baseball pitcher can't throw a curveball. That's right. Right? That's right. You have to throw it down the middle every time and make it fair. You have to be forthright about what you want to do. Right. So that's crazy. Yeah, but that's the rule. That's the rule. Yeah, yeah. You've also emphasized that interactive brokers, low cost, comes from, I think, a company-wide discipline. So many firms out there want your cost discipline, but I don't think I'd be hard-pressed to find anybody that could pretty much replicate it.

27:58And so I guess my question to you is— Because it costs you a lot of money to get to that point. Right. where you can provide low cost. Is that why it's so hard for other people to try to replicate that model? They just don't want to deal with the fact that they're going to have to suffer for a while until they get to the point they need to be? Yeah, it's years and years of building very efficient systems. Yeah. Constantly. Which puts a moat around you. Which puts a great moat around you. That's what is the moat, right. But maybe it will not last long because supposedly AI can do all this in a minute.

28:39It's going to take us all out. I don't know. It's going to take us all out. So just a couple of things that I kind of really dug into and was thinking about. Because like I said, I have been a client of interactive brokers for a decade at least. And I've seen an incredible amount of changes over that time. And it just keeps getting better and better. It just keeps getting better and better. You know, extreme automation, minimal advertising, all this, by the way, I view as a client as a way that makes sure that I'm not going to get poked with some crazy fees or a problem with the company. That's how I look at it, right, from the client side.

29:16So, you know, I think that's great. And I thank you for that, by the way. I thank you for mentioning it. Yeah, no, and I think – and also all these incentives that are tied to efficiency instead of growth optics. and that's also where you've been and over the years where I think you've enforced this internally. It comes out in your earnings. Last earnings, I think, from the fourth quarter 2025 business highlights. Just a few things I'm going to throw out there, right? So you reported 22 % rise in commission revenue to 582 million, increase in consumer trading volumes across options, future stocks.

29:53Total equity reached about 20 and a half billion. You saw customer accounts increase 32 % to$4.4 million. Darts, daily activity, increased 30 % to$4.04 million. Credits increased dramatically. Margin loan increased dramatically. Is this not a one-off? I know that. It's been a lifelong process for you. That is correct. So generally, every year is better than the previous one. and it's been a long time since that has not been the case. That's been great. So some of the things that you set up, forecast trader, that's the, I think, well, I don't say it's the latest, but that's something big that you really went into very strongly, and you have a big belief in.