Exotic Exchanges of United States
The CFMA has led to many exchanges popping up that do not fit the traditional mold. Some are recognized members of a trading exchange, while others are traded OTC. Whatever the case, they do not fall in line with what is traditionally traded, yet they have an impact on what occurs in today’s trading environment and may actually be what retail traders have an opportunity to trade in the future. At one time the OTC forex market was considered solely the domain of banks and major corporations protecting themselves from import and export risks. Today it is commonly traded by retail investors and is a major contributor to the U.S. $500 trillion OTC market.
TradeSports Ltd. And Intrade.com
TradeSports Ltd. was originally founded in 2000 in Dublin, Ireland, as an online web site with the express purpose of letting speculators choose whether or not future outcomes will come to pass. Within five years the site had accrued more than 50,000 members and had monthly trading volume of almost four million trades. In order to make sure it was not limited to being just a sports betting site, TradeSports separated its sports-related trading site from its non sports markets by acquiring Intrade.The Intrade.com web site offers traders the ability to speculate on the outcomes of presidential nominations, U.S. recession figures, as well as the Dow Jones final close for the year. Each position is simple: If you buy (go long), you think the event will happen; if you sell (go short) you think the event won’t happen. In order to facilitate a better understanding of the odds, the sites have developed a simple 0 to 100 system, with 0 being 0 percent likelihood of an event occurring and 100 being 100 percent likelihood of an event occurring. Any figure in between 0 and 100 represents the market’s overall sentiment at that time. As of this writing, the site has predicted there that is a 72 percent likelihood of the United States going into a recession in 2008 and that Barack Obama has an 82 percent likelihood of winning the Presidential Election.
While this exchange is exciting, it is an OTC exchange that acts as the go-between for various counterparties and is not without controversy. Since the contracts are customized, the wording can be very strict and if not followed closely you can be left a little confused about whether you can receive your payout.
Although rare, one contract stands out clearly. In July 2006 North Korea gave out a press release stating that it could successfully fire ballistic missiles outside of its airspace. At the time, Intrade had a contract that revolved around this potential outcome. Those who had bought a contract (they believed that the outcome could occur) felt that they should be paid out. The fine print of this contract, however, stated that two stipulations had to occur simultaneously: First, North Korea had to be able to fire ballistic missiles outside of its airspace; and second, this had to be confirmed by the U.S. Department of Defense. The U.S. Department of Defense never confirmed the test, which led to the Intrade buyers not being paid out on their contract purchases.
In 2005 Intrade applied to the Commodity Futures Trading Commission to become a recognized exchange in the United States.
HedgeStreet
In 2004 HedgeStreet became the first Internet-based futures/derivatives exchange. The goal was to provide a forum where speculators and retail investors could protect themselves by hedging against major economic events and price movements. In an attempt to differentiate itself from the typical options and futures contracts, HedgeStreet chose two innovative products, binary options and capped futures. Each product was chosen for its ability to minimize the losses of the retail traders who decided to invest in what they called “hedgelets.”
Binary options were not completely new, but HedgeStreet was the first exchange to build its entire business model around them. Binary options are simple yes/no contracts, similar to Intrade’s will/won’t setup. You are paid out only if the final price is above the strike price. You receive a flat $10 for getting it right and nothing if you get it wrong. The capped futures have a variable price payout, but it is capped at an upper limit, and losses are limited to a predetermined floor.
Although both products are exciting, HedgeStreet has had difficulty in developing volume, liquidity, market makers, and the right set of products to present to the public. As of this writing, it has been acquired by IG Group, a major binary option player in the United Kingdom.
Chicago Climate Exchange
The Chicago Climate Exchange (CCX) is the brainchild of Richard Sandor. Through his efforts, major corporations, states, municipalities, universities, and farm bureaus have joined together to create the only voluntary, legally binding greenhouse gas reduction exchange in North America.
CCX has developed a market in six greenhouse gas emissions: carbon dioxide, methane, nitrous oxide, sulfur hexafluoride, perfluorocarbons, and hydrofluorocarbons. Since its inception in 2003, it has reached two monumental milestones: First, it has committed its members to reducing aggregate emissions by 6 percent by 2010; and second, it has accumulated an aggregate baseline of 226 million metric tons of carbon dioxide equivalent (credits), which is equal to the United Kingdom’s total allocation.
Like any effective exchange-traded market, CCX has started at the base—the market makers, those companies that are in need of greenhouse gas credits, and those capable of qualifying for greenhouse gas credits—and brought them together. That means that in the not-too-distant future retail traders will be able to participate in the trading of greenhouse credits themselves or at the very least some form of derivative of the greenhouse credit program.
The futures and commodities market took 160 years to develop in the United States. In just the past eight years, since the passing of the CFMA, the entire culture has been turned on its ear. What were once considered foregone conclusions about the exchanges—member-owned exchanges, floor brokers, and open-outcry trading—are quickly becoming a thing of the past.
In November 2002 the Chicago Mercantile Exchange (CME) became the first commodities exchange to be listed as a public company. In much the same way that agricultural commodities account for less than 30 percent of the active contracts traded, electronic trading has begun to replace open-outcry trading. Floor brokers have had to either adapt to a changing environment of trading from a screen (as opposed to gaining their cues from other traders on the floor) or leave the business altogether. In the midst of all of this change, more and more foreign entities have succeeded in gaining a foothold in the U.S. commodities exchange markets. This has led to a pan-global trading environment, the likes of which we had never seen before.
While some of these exchanges are not 100 percent new, they have been retooled and revamped in such a way as to be unrecognizable from the original. Oftentimes they provide the only way that foreign entities can come into the United States and hope to succeed in developing a relationship with the retail market. Make no bones about it: They are changing only the name, not everything else that has worked for them in the past; electronic platforms, OTC quoting, and access to international markets are just a few of the things that are here to stay.
The U.S. Futures Exchange, LLC, was originally called Eurex US. It was established by Eurex, quite literally the world’s largest derivatives exchange. In 2006 alone Eurex executed more than 1.5 billion contracts. It has established trading and clearing relationships all throughout Europe and Asia. What has made the exchange so powerful over the years is its ability to deliver trading and clearing fully electronically. As a pioneer in the electronic arena, Eurex felt that it could easily expand its global reach into the United States. After only a few years in the U.S. market, Eurex sold 70 percent of its stake to the Man Group. The two have teamed up to make a second go of the U.S. market, utilizing Man’s extensive U.S. introducing broker (IB) and retail network.
ICE Futures U.S. (ICE/NYBOT)
The Intercontinental Exchange (ICE) is a direct product of the CFMA. Founded in 2000, the exchange’s original intent was to provide an around-the-clock transparent OTC derivatives energy exchange. It quickly outpaced its competitors and expanded into the futures business through the acquisition of the International Petroleum Exchange. With the development of its electronic platform, ICE has succeeded in moving its entire energy futures contracts electronically. Continuing its progressive move forward, in 2007 ICE acquired the New York Board of Trade (NYBOT).
Before 1998 the New York Board of Trade didn’t even exist. Just like ICE, it is an amalgamation of multiple exchanges that have merged over the years. A combination of the Coffee, Sugar, & Cocoa Exchange, Inc., founded in 1882, and the New York Cotton Exchange, founded in 1870, NYBOT became the premier exchange for the soft commodities in the United States. While the currently retooled NYBOT still maintains an open-outcry pit concurrently with the new electronic offerings, ICE’s drive to make its energy contracts fully electronic will most likely be repeated.
ICE’s experience in international markets located in the United Kingdom and Canada as well as its OTC business provides an unparalleled level of access and a robust amount of information for U.S.-based traders. As traders begin to understand the quotes and utilize the platform, they will see opportunities for arbitrage and an unparalleled level of service that didn’t exist in the old limited open-outcry format.
NYSE Euronext
With the express goal of being the world’s number one equities exchange, the New York Stock Exchange (NYSE) acquired Euronext N.V. Euronext has huge array of financial products and services spread out over five countries. It currently operates five derivatives exchanges and six cash equity exchanges; combined with the might of the NYSE, this group will be able to offer trading in security and futures products 21 hours a day. While they are currently focused on dominating the equities market, they have the infrastructure and the capability to branch out into the futures and commodities markets at a moment’s notice and dominate the domestic environment with a slew of offerings never seen before.
