What makes Wall Street better than you...

Porter Stansberry: Today, we have a very special guest. It's an old personal friend of mine, Dr. David Eifrig. Doc, thanks for joining us.

Doc Eifrig: Thank you, Porter.

Porter: Doc, as you know, I invited you here to talk about your Retirement Trader service. But first, I'd like to start with a little bit about your background in finance. How did you become interested in the stock market, bonds, and options? Where did that passion begin, and how did it manifest in your early life?

Doc: Sure. The first manifestation of it was in college...

One of the guys in our dorm came into some money, and he started talking about investing in stocks. I tend to be a numbers person, and was interested... so I started to follow stocks as well. And two of the first stocks we talked about were Pillsbury and Green Giant.

Both of these companies were based in Minnesota, near where I went to undergrad, and I think I put, I don't know, a couple hundred bucks in each of them. A couple months later, Pillsbury put an offer in to buy Green Giant.

That was my first foray into it, and I thought, "Man, this is easy." Of course, I eventually learned that's not the case... I put everything I had at one point into solar energy, a company out of Denver, and lost it all. I was a college kid, so I didn't have much – it was maybe a thousand bucks.

Porter: You didn't have much, but you needed it.

Doc: I definitely needed it. But I learned from that experience, and after that my interest was really piqued when I went on to business school.

Porter: Where did you go to business school?

Doc: I went to Kellogg, at Northwestern, where I met people who were much more connected and socialized in the world of money and finance.

I went on to do a summer internship with Merrill Lynch. Half the summer was in New York City, and the other half of it was split between the Chicago office and the Minneapolis office.

I loved that. I got to work for the guy who was head of the equity group and the chief investment strategist then, a guy named Bob Farrell. You're probably familiar.

Porter: I've seen him on CNBC, sure.

Doc: He was a lot of fun. He and I actually played a practical joke on the manager in the Minneapolis office, where I delivered a live pig to this guy on his birthday on behalf of Bob in New York. But I also learned a great deal from him.

That was my first real exposure to Wall Street, and I just fell in love with it.

Actually, I should back up for a second. When I was in undergrad, Merrill Lynch had these cash management accounts – which were equivalent to checking accounts – that were paying something like 17% or 18%.

So I got the idea to do a simple type of what's known as "arbitrage," where I took my government student loans early – which were charging something like 8% interest, but were deferred until I graduated – and put the money into those cash management accounts.

So I was basically getting a free 1,700 basis point spread while I was in college...

Porter: This is something we're going to get to later when we talk about the importance of "carry," which simply means borrowing money so that you can earn more than it's costing you.

Positive carry is an important concept to professional investors that retail investors generally ignore.

Doc: Right. So my student loans were my first exposure to the incredible power of carry. The guys I worked with at Merrill loved that story because I had used their product.

Anyway, as I mentioned, I just fell in love with Wall Street and New York City.

During my second year in business school, I began interviewing with companies. Back then, you were assigned a certain number of points that you could use to bid for interviews.

I had already bid for a couple interviews when I stumbled across an ad in the career center. It was seeking someone with a love of numbers and details, and interested in working with a small group. Even better, it didn't require any points to bid on it. So I said, "Why not?"

The interview turned out to be for a position with Goldman Sachs. I interviewed several times in the Chicago office, and was told that I was going to be invited to the New York office... but first I had to shave my beard.

So I shaved my beard for probably the first time in 10 years and went to New York.

Porter: So you shaved your beard for an interview.

Doc: I did, for Goldman.

Porter: Interesting. Wow. Anything for Goldman. [Laughs]

Doc: The funny thing is, about my fourth day there, I met Jon Corzine...

Porter: Of course, Jon Corzine, former CEO of Goldman, former Governor of New Jersey, former head of a fraudulent investment firm, MF Global...

Doc: Right. Well, as you know, he had a big beard. I sort of sidled up to him at one point, and I said, "Hey... Do you think it'd be all right if I grew my beard out again on the desk here?" And he was basically like, "OK, your call." So I did, but I kept it much shorter than I do now. [Laughs]

Porter: So one thing leads to another with your Goldman interviews, you end up getting an offer, you end up taking it, you end up moving to New York after grad school.

Can you tell us how you found your way inside that big business? How did you find a good opportunity for yourself?

Doc: Well, the group Goldman was hiring for was explicit about what it was trying to do. It was mimicking what Solomon had already set up, which was this derivatives group.

It was trying to bring derivatives – that means options and futures, on anything and everything it could imagine – into the world of Goldman, and then design products for clients and the firm.

It was a small group. There were maybe a dozen of us, and three were specifically focused in the traditional commodities... corn, wheat, oil, that kind of stuff. The rest of our group was mainly fixed income at that time. The equity derivatives were just getting started, but we had guys like Fischer Black.

Porter: Fischer Black became a Nobel Laureate for the work he did on options pricing.

Doc: Well, actually he didn't – even though he had helped create the options-pricing model that was awarded – because he had died when they gave it out. You can't get it posthumously.

Porter: Oh, sorry. So it's the Nobel-winning formula.

Doc: Yes, that he was a part of.

Porter: It was the Black-Scholes model... But Myron Scholes got all the Nobel money.

Doc: Yep, exactly.

So that group was set up and designed to make money for the firm, to hedge risks within the firm, and to teach others how to do the same.

My job was basically to show firms like Prudential, MetLife, and Fidelity how to use derivatives. I was sort of a liaison between Goldman and them, showing them how to use these things. So I've been teaching this stuff for a long time.

Porter: Now in this interview, I don't want to get into the "nitty-gritty" of options trading. We've written a great deal about these strategies, and I know you'll be covering them in detail in your upcoming webinar.

Instead, I want to discuss an important idea...

You trained with the people who created the options market... the folks who literally invented the options-pricing model we use today. You were there at the beginning, at the early stages, and you know these strategies inside and out. You've seen "inside the sausage factory," so to speak.

The big picture question I have for you is this: What do professional investors know about options that individual investors don't? How do Wall Street traders almost always make money – day after day – while most amateurs struggle to make money at all?

Doc: In general, it comes down to two things.

First, professionals know options can be used – and in fact, were designed to be used – to accomplish many different and highly specific goals, including reducing risk, protecting capital, and earning income... while amateurs tend to view options as a way to "speculate" or bet on a move in asset prices.

And second, professionals know that if you want to be successful trading options, you have to start by deciding exactly what it is you're trying to accomplish... and then choose the appropriate strategy to accomplish that goal.

Porter: You said amateurs tend to use options to speculate. Why do professionals rarely speculate with options?

Doc: The simple answer is that it's extremely difficult to make money by speculating with options.

For example... You might decide that Amazon (AMZN) is wildly overpriced. So you decide to establish a short position in that stock by buying a put option, which would make money if Amazon trades below a certain strike price.

The big problem with using options to speculate like this is there is an additional cost to trading options when you buy them, which is called the premium.

This means not only do you have to be right that the stock will decline below the strike price, but you have to be right by more than the price it costs to buy the option. And that's difficult to do.

The other thing is that an option loses a little value every single day as its expiration date gets closer. This is known as "time decay." It's difficult to make money when the asset that you hold is going to expire in a month... or six months... or even 12 months.

Being a buyer of options requires you to not only know the degree to which the asset is going to move, but also to get the timing right. That's a huge problem when an option is losing some of its value every day.

Professionals don't view the options market as a great place to speculate. Instead, as I mentioned before, they see it as a place to accomplish specific investment goals.