E189: Inside the Goldman Sachs Prop Desk: Lessons from a Top Trader w/Nancy Davis

Nancy Davis spent nearly a decade on Goldman Sachs’ legendary prop desk before founding Quadratic Capital, the firm behind the popular iVol ETF. In this episode, we dive deep into her options-based approach to investing, why she believes most investors manage risk backward, and how her firm is positioning for a potential return of stagflation. We also talk about her early days at Goldman, the psychological traps investors fall into, and why she thinks humility and coachability are underrated superpowers in finance. If you’ve ever wanted to understand volatility, inflation protection, or how to think like a derivatives trader—this episode is for you.

Speaker names marked ? are inferred from speaking time and the show’s known hosts — they are not voice-verified.

• 0:00David Weisburd?

  You started at the Goldman Sachs prop desk, which had a much sexier, less politically correct title at the time. I think it was called Risk Arbitrage. What was it like working on the Risk Arbitrage desk in Goldman Sachs in the 1990s?

• 0:19Speaker 01

  It was amazing. I loved every second of my time there and I felt so privileged to be part of that team. We did not touch anything to do with clients. So all we did was invest Goldman's capital. We were actually not allowed to trade with Goldman for the majority of my time there. So we traded outside like a hedge fund essentially with other outside firms. But it was an amazing experience. I had some of the best mentors and high-quality people around me. And it was a joy and I feel very privileged to have been there.

• 0:59David Weisburd?

  One of the most interesting things about what you did is you traded internal partners' money versus end client money. How did that change the nature of your investment strategies or risks you could take?

• 1:10Speaker 01

  How we invested was essentially using debit cards. So we used nonlinear derivatives, specifically options. And we sized based on the most we could lose. When I started at Goldman, that was prior to the IPO of the firm. The firm IPO'd in 99. And it was just a really interesting way to think about managing risk, which is essentially sizing your risk the day that you invest and then profit-taking when that investment makes money versus kind of the rest of the world uses stop-w losses, which is sort of the opposite, where you take risk and then you risk-manage when the position doesn't go your way.

• 1:56David Weisburd?

  Intuitively, it feels like it makes sense to put in stop losses to manage the risk in your portfolio. Why are you anti-stop losses and why do you believe in managing your portfolio the way that you do?

• 2:09Speaker 01

  You put in your stop loss the day that you implement your investment because when you buy an option, very simply, you pay the premium upfront. So that's my metaphor analogy to being a debit card. You fully pay for it and you can never lose more than that amount of stop loss at the beginning. And then your risk management is more about profit-taking, whereas traditional stop losses, you set your risk with linear instruments, whether they're stocks, bonds, using derivatives, whatever it is, and then you risk-manage after you lose money. Essentially, with our risk management style, we're always buying low and selling high because we're profit-taking.

• 2:54Speaker 01

  If you think about a traditional, I don't know, let's just say a traditional CTA, they try to replicate an option payoff by executing very quickly when that stop loss is breached. But that demands liquidity in the market and also the ability to trade. So if, like, March 2020, when oil went negative, that was the moment I was like, oh, my goodness, this is going to really break a lot of people because there's no way to execute necessarily when you have these shocks.

• 3:26David Weisburd?

  To use a simple analogy, it's instead of buying something at 100 and then having a stop loss at 90, you're paying the $10 upfront. And then if it doesn't execute, it goes down to zero, but it's essentially the same loss. The difference there, when there's a stop loss, you're actually selling at the exact wrong time.

• 3:46Speaker 01

  You said that very well, David. And I think the other thing that's so interesting is we don't use leverage in the sense that we're not borrowing money, but we have the asymmetry from the option payoff. So when you size something, if you're buying an asset at 100, when it goes up to 110, instead of making $10, we make an asymmetric amount on our premium at risk. So having that nonlinear payout, a positive nonlinear payout, is very attractive, I think, because when you're right, you have multiple times of what you had at risk, and when you're wrong, you know what your risk is.

• 4:24David Weisburd?

  There's this...

• 4:26David Weisburd?

  Psychological aspect and you know, people get into these, I guess, death spirals where they might lose 20% of the stock and they can't sell it because they can't take the loss. And yet, sometimes, options are seen as much more risky, and of course, they're a very sophisticated instrument. But it seems that the lack of self-awareness could actually be much more risky than actually, like you said, using a debit card, paying and knowing that that's what you're likely to lose. Something about that psychologically seems more predictable.

• 4:57Speaker 01

  Our philosophy is very unusual, right? You, we're probably the only firm that you've talked to that the options are the portfolio, right? Is that true, David?

• 5:07David Weisburd?

  That is true.

• 5:08Speaker 01

  Like, strategy. But if you think about it, if you just close your eyes, like, most people have their core, core portfolio, and then the options around the periphery, right? They're either, you know, selling options as a way of kind of overriding, generating income, or they're buying options for hedge, hedges. But either way, those two, you know, type of strategies, both of them are trying to lose money in the options, right? That's their goal, is to have the options, you know, expire worthless because it's not their, their core portfolio. For us, we just turn that around, and the options are our core investment. And I think it's a really good source of alpha, because most people are not trying

• 5:52Speaker 01

  to make money in the options themselves, whereas we are. So it's just a, a variant perception.

• 5:58David Weisburd?

  Reason I have this psychology framework is, actually, my own, my own previous experiences, I got caught in this death trap, and it's, it's very vicious in that, you know, and, and the opposite is actually true as well, which is, when, once you have a gain, there's this kind of knee-jerk reaction to sell.

• 6:20David Weisburd?

  This is the most common example of this is in Bitcoin. A lot of people bought at 100 and sold at 135 and thought they were geniuses. Sometimes you're also selling too soon and sometimes you're not selling soon enough. So there's a lot of psychology around that. When I was preparing about this interview and I asked about you, somebody at JP Morgan said that you had some of the biggest trades on Wall Street at the time in the world, in the entire market. And then when I clarified, it wasn't actually Goldman Sachs, it was you, Nancy Davis. So what are some of those trades?

• 6:56Speaker 01

  On behalf of Goldman Sachs.

• 6:57David Weisburd?

  On behalf of Goldman Sachs, yes, disclaimer. But what were some of those markets and how did you end up being the largest player in some of these markets?

• 7:06Speaker 01

  It was definitely an amazing time and, you know, sizing positions with options. It was, you know, we were doing things that people were not doing in the market. And what I found very early on is that if you have also the delta exposure, so you're not trying to just, you know, capture that implied volatility difference, you're actually expressing your directional view with options. It's a really great way to make money because you can have the exposure to the underlying asset class directionally, but also have all the Greek risks with, you know, as that position works, we tend to roll our strikes. So, you know, say in your example, if you, you know, whatever, we don't trade Bitcoin,

• 7:51Speaker 01

  but, you know, just, just for example, you buy something for 100 and it goes to 135 instead of just saying, okay, we're going to sell it and be done like a Delta 1 portfolio would do, we would just roll our option strikes and reset the convexity. And it's a way of actually locking in our profits, which we did with Silicon Valley Bank. You know, we definitely had a huge move very quickly in the rates market. And, you know, in hindsight, I wish I sold more and rolled more aggressively. We didn't do enough because, you know, with the BTSP, the market kind of normalized very quickly. But I think having that, that...

• 8:33Speaker 01

  You know, rigor and, and, and, and rules based way of investing where you're just constantly profit taking as the strategy works.

• 8:41David Weisburd?

  When we last chatted, you mentioned that the market is no longer concerned with inflation, which really shocked me, maybe naively. How do you know that the market is no longer concerned about inflation?

• 8:55Speaker 01

  You can see where it's pricing. When I started my career in Goldman in the late 90s was right when the Treasury started the inflation protected bond market. So, TIPS are a pretty new product. They only started in the late 90s. So, a lot of people, when they want to add inflation to their portfolio, they're looking at things that were around in the 70s or 80s. And I like to grab people and say, look, the inflation markets are new. They, you know, a lot of people don't look at inflation because it didn't exist back then. And then the interest rate derivative markets, that's even newer than TIPS. Let's just take TIPS for a second. TIPS reset with one index, which is the Consumer Price Index.

• 9:40Speaker 01

  You know, for the next 10 years, the market is pricing CPI inflation to be around, you know, 2.3, 2.4%. So, I think there's not a lot of inflation premium priced into that market. For instance, like just in the, the COVID shock, the 12 month realized CPI hit 9.1, right? So, it's really kind of hugging that long term target of 2% where the Fed's expecting it. So, to me, that's pretty asymmetric. The 10 year right now is 2.4, the 5 year is 2.45. So, the inflation curve is downward sloping, meaning the market is pricing in that CPI is going to fall in the future.

• 10:25Speaker 01

  The Fed sets a policy rate, but the market sets a term premium of interest rates. And it's a really crazy, crazy time because the yield curve inverted in 2022.

• 10:38Speaker 01

  And it stayed inverted for three years. It's never happened before that the yield curve went as negative as it did. And for as long as it did in the history of financial markets. So now in 25, the choose 10 spot curve, for instance, and I'm looking at the swaps market just went positive in 25. And so it's a really, really exciting time to capture that.

• 11:04David Weisburd?

  So backing up to your time at Goldman, you spent a decade at Goldman Sachs, working on the risk arb deck, which is the proprietary fund. And you're with some of the smartest people on the face of the planet at that time, at least. What were some lessons that you learned while at your time at Goldman?

• 11:27Speaker 01

  As we talked about in the opening of your podcast, really having that different way of managing risk and getting exposure, that was probably number one. But I think it was also just an incredible place to work because I had so much intellectual firepower and culture around me, especially as a young trader. You know, I worked at Goldman in my twenties, right? It was a really wild time. I was very, I was very young, but the prop test was a very, very flat environment and being in a real meritocracy, especially being, you know, I would say somewhat bubbly, you know, long bond hair. I've always had that.

• 12:09Speaker 01

  I've always been, you know, I smile and giggle when I get nervous, you know? I don't know if I would have made it if I was on the sell side because I wasn't, you know, a very kind of normal trader. But being on the prop desk was just an incredible place to be. And I spent, you know, not my entire 10 years at Goldman. I was there for almost 10 years. It was like, not quite a decade, but about 10 years, a little shy of it. And the majority of my time was with this, what used to be called, when I joined, it was risk arbitrage, but we had a couple of different name changes over the years. But it was a, it was a super cool place to be and I'm very grateful for those people that I worked with and the knowledge and kind of differentiated way of managing risks

• 12:54Speaker 01

  that I took away after I left.

• 12:57David Weisburd?

  Several institutional investors that know you have said that you're very good at being mentored. What exactly does that mean? And break down that skill set for me.

• 13:10Speaker 01

  I think I'm coachable and I think kind of keeping humility and not thinking, you know, when people giving you feedback, A, being grateful for that feedback, and B, trying to change. You know, I'm always, I consider myself a lifelong learner. And, you know, for instance, I've been, I've been running my own firm as an entrepreneur for 12 and a half years. You know, it's longer than my, my time working at Goldman. There are not a lot of women out there who go and, and create their own asset management firm and run a company. And there are a lot of things that I've had to learn that I never had any experience with. And I'm always grateful for feedback

• 13:53Speaker 01

  from everyone about how to, how to continue to improve. And I think having that mindset that when, when someone gives you critical feedback, it's not, you know, it's to help you. And I think that's always how I took it. And that's probably how it helped me kind of rise up quickly during my time at Goldman is I am coachable. Like I, I'm not perfect. I make mistakes all the time. My goal though, is to know when I make a mistake and not do it again, right? And always be learning. You know, I'd never been a CEO before. I'd never run a business before. There are a lot of new things that I had to learn and a lot of mistakes that I made,

• 14:37Speaker 01

  but I tried to correct as I made them and figured out I was doing things wrong to, to fix those issues.

• 14:45David Weisburd?

  If you asked 100 people on whether they like feedback or they like to be coached, I'd say probably 95 to 99 would say yes.

• 14:56David Weisburd?

  But the reality would speak differently. And the way that I think about it is that people like to get feedback in the abstract, but not always in the specific case. And that is because there's almost this, this fight, this spiritual fight in everybody in terms of getting better and preserving their ego. And at the time when that feedback is delivered, most people, as a default, unless you train your mind, your default is to go into ego preservation mode, which is kind of an evolutionary predisposition, which leads to two things. One obvious thing, one is you don't get the feedback, so you don't learn. But two is also something to keep in mind

• 15:39David Weisburd?

  is that if somebody comes to you, delivers feedback, and you do anything but smile and say thank you and constantly positively condition that person for giving that feedback, they're unlikely to do it again. So you also have to think about it from the perspective of the feedback giver, which is they have a strong incentive not to give feedback for that same very reason that most people go into this ego preservation mode. You almost can't overthink somebody for feedback because there's such a reluctance to provide feedback. And we'll get right back to interview, but first, we're looking for the next great guest. If you or someone you know is a capital allocator and would make for a great guest, please reach out to me directly at [email protected].

• 16:22David Weisburd?

  What's your most contrarian take for the market for the rest of 2025?

• 16:26Speaker 01

  My most contrarian? I mean, people are pretty euphoric right now on, you know, equities are near all time highs. I'd say the most contrarian take that I would have would probably be the stagflation word, which I know is a really dirty, awful word, but I think there's, you know, there's really no guarantee that, you know,

• 16:50Speaker 01

  Things are going to continue as they are, and I do think stagflation is one of the one of the risks that IVAL can help potentially mitigate. But I do think it's kind of the disaster node for most people, right? That's where specifically a 6040 portfolio really has problems. So I think, I don't know that that's going to happen, but I do know that it's not priced into markets. And implied volatility in particular has fallen tremendously from where it was around Silicon Valley Bank. So to me, having, you know, having that that long optionality payoff is a really contrarian view

• 17:30Speaker 01

  because most people are not worried about about volatility or kind of anything, anything surprising the market. And that that to me is a buying opportunity.

• 17:41David Weisburd?

  And stagflation being high inflation, slow economic growth and high unemployment, kind of a triple death spiral.

• 17:50Speaker 01

  Yeah, and that's especially bad for credit. I think that's the the worst performing asset class historically is things with credit risk. And so I know some, some of our really smart clients use IVAL as a, as a spread product, but without adding credit spread, it adds rate spread and as a potential diversifier, just in case, you know, in case that does happen.

• 18:16David Weisburd?

  Nancy, this has been a masterclass on options, on derivatives. What would you like our listeners to know about you, about quadratic, or anything else you'd like to share?

• 18:27Speaker 01

  Oh, that's so open ended, David. You know, we're, we're an open book. I'm happy to talk to people. I'm very accessible. Our products are ETFs, so they're fully transparent. It's kind of like a managed account where you can see all the holdings, all the positions. So we have our, our ETF websites. If you want to contact us, learn more about it. Do you want me to give the website?

• 18:53David Weisburd?

  Sure.

• 18:55Speaker 01

  So the IVAL website is just IVAL, not IVAL, it's I V O L E T F dot com. And on that you can see all the, you know, the prospectus, S A I, all of our materials, even our white paper is there for financial professionals to read up about, you know, these macro environments like risk off, risk on, and stagflation and how IVAL could potentially help.

• 19:23David Weisburd?

  Well, I'm due for a trip to Greenwich, Connecticut. I look forward to continuing this conversation live.

• 19:28Speaker 01

  That would be awesome. I look forward to meeting you in person.

• 19:31David Weisburd?

  Thank you, Nancy.

• 19:33Speaker 01

  Thank you.

• 19:33David Weisburd?

  Thanks for listening to my conversation. If you enjoyed this episode, please share with a friend. This helps us grow. Also provides the very best feedback when we review the episode's analytics. Thank you for your support.