Celebrating 50 Years of Financial Futures
This is a Thanksgiving Special Report.
Swiss Franc (
6S1!), Canadian Dollar (
6C1!), Japanese Yen (
6J1!), British Pound (
6B1!), Mexican Peso (
6M1!)
In May 1972, International Monetary Market (IMM), a division of the Chicago Mercantile Exchange (CME), launched futures contracts on seven currency pairs. This was the world’s first financial futures instrument, a futures contract based on something other than physical commodities.
What has made a Midwestern Exchange, known mainly for its Pork Bellies contract, a frontrunner in financial innovation?
Bretton Woods System and its Collapse
At the end of World War II, the United States and its allies created the Bretton Woods System. Essentially, it was a global monetary system governed by fixed currency exchange rates. The US dollar was backed by gold, at a fixed rate of $35 per troy ounce. Other currencies were pegged to the U.S. dollar. In 1955, one dollar was exchanged for 0.3572 British Pound, 4.2 Deutsch Mark, 3.3 France Franc, 0.986 Canadian Dollar, 360 Japanese Yen, 625 Italy Lire, etc.
Each country was responsible for maintaining its exchange rate within 1% of the adopted par value by buying or selling foreign reserves when necessary. The U.S. was responsible for maintaining the gold parity. Its big commitment was allowing anyone with $35 to exchange for an ounce of gold at the US Treasury window.
As global inflation rose sharply in the 1970s, many countries could not maintain the official peg. They responded by redeeming dollars for gold at the US Treasury window.
With US gold reserve depleting rapidly and a gold run looming, in August 1971, President Richard Nixon announced the "temporary" suspension of the dollar's convertibility into gold. This marked the breakdown of the Bretton Woods. Central banks around the world were no longer obligated to peg their exchange rates to the US dollar.
Leo Melamed and Milton Friedman
With fixed rates, there was no exchange rate risk in international trade. However, flowing rate exposes importers and exporters to significant uncertainty to the amount of dollar or foreign currency they will receive or are obliged to pay for.
Since its founding in 1898, CME has been the place where producers, processors, merchants, and commercial users come together to hedge price risks for a wide range of commodities. Leo Melamed, then Chairman of the CME, was convinced that the futures market is the solution to tackle the rise in exchange rate volatility.
Leo set up an International Monetary Market division within the CME and prepared for new futures contracts derived from foreign exchange rates. Initially, this breakthrough idea found no friends on Wall Street. According to Leo, one investment bank president tossed it out saying he didn’t want the Chicago “Pork Belly Shooters” to contaminate the FX market.
Leo met with Milton Friedman, a well-respected economics professor at the University of Chicago. Milton fully supported the ingenious design and published a feasibility study, “The Need for Futures Markets in Currencies” in 1971.
Milton Friedman (1912-2006) won the Nobel Prize in Economic Science “for his research on consumption analysis, monetary history and theory and the complexity of stabilization policy” (the Nobel Committee).
This changed everything. When Leo went to Washington to lobby the idea of listing foreign exchange futures, Treasury Secretary George Shultz said, “If it’s good enough for Milton, it is good enough for me.”
George Shultz (1920-2021) served as Secretary of State in the Regan Administration and as Treasury and Labor Secretary under Richard Nixon. He was also the Dean of Graduate School at the University of Chicago, and a good friend with Milton Friedman.
If you are interested in the story of FX futures, you may find it online and at Leo’s 1996 memoirs, “Escape to the Futures”.
Foreign Exchange Futures
On May 16, 1972, IMM simultaneously launched seven futures contracts based on the US dollar exchange rates to British Pound (6B1!), Japanese Yen (6J1!), Canadian Dollar (6C1!), Swiss Franc (6S1!), Mexican Peso (6M1!), Deutsch Mark and Italy Lira.
Five of those original FX contracts are still actively trading at the CME. Deutsch Mark and the Lira have been delisted since Germany and Italy joined the Euro currency. The new contract, Euro/USD FX (
6E1!), becomes the most active CME FX future contract.
FX contracts saw exponential growth in trading volume in the next fifty years. In the first 9 months of 2022, average daily volume for all FX futures and options reached 983,000 lots, according to the CME Group. On November 15th, Euro FX alone traded 359,000 lots and had an open interest of 683,293 contracts.
My writings on TradingView include a number of trade ideas on FX futures contracts. Please take a look if you haven't yet.
FX Futures were the start of a “Financial Revolution” in the futures industry. The next few years saw new breeds of futures contracts, including interest rate futures between 1975 and1977 and equity index futures in 1982.
During the holiday season, I would start a series on the leaders and innovators at CME, CBOT and KCBT. They brought GNMA Futures, T-Bill and T-Bond Futures, Eurodollar Futures, Value-Line Index Futures and S&P 500 Futures to life and revolutionize the financial derivatives world as we know it today.
Happy Trading.
Disclaimers
*Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services.
CME Real-time Market Data help identify trade set-ups and express my market views. If you have futures in your trading portfolio, check out on CME Group data plans in TradingView that suit your trading needs tradingview.com/gopro/
Swiss Franc (
6S1!), Canadian Dollar (6C1!), Japanese Yen (6J1!), British Pound (6B1!), Mexican Peso (6M1!)In May 1972, International Monetary Market (IMM), a division of the Chicago Mercantile Exchange (CME), launched futures contracts on seven currency pairs. This was the world’s first financial futures instrument, a futures contract based on something other than physical commodities.
What has made a Midwestern Exchange, known mainly for its Pork Bellies contract, a frontrunner in financial innovation?
Bretton Woods System and its Collapse
At the end of World War II, the United States and its allies created the Bretton Woods System. Essentially, it was a global monetary system governed by fixed currency exchange rates. The US dollar was backed by gold, at a fixed rate of $35 per troy ounce. Other currencies were pegged to the U.S. dollar. In 1955, one dollar was exchanged for 0.3572 British Pound, 4.2 Deutsch Mark, 3.3 France Franc, 0.986 Canadian Dollar, 360 Japanese Yen, 625 Italy Lire, etc.
Each country was responsible for maintaining its exchange rate within 1% of the adopted par value by buying or selling foreign reserves when necessary. The U.S. was responsible for maintaining the gold parity. Its big commitment was allowing anyone with $35 to exchange for an ounce of gold at the US Treasury window.
As global inflation rose sharply in the 1970s, many countries could not maintain the official peg. They responded by redeeming dollars for gold at the US Treasury window.
With US gold reserve depleting rapidly and a gold run looming, in August 1971, President Richard Nixon announced the "temporary" suspension of the dollar's convertibility into gold. This marked the breakdown of the Bretton Woods. Central banks around the world were no longer obligated to peg their exchange rates to the US dollar.
Leo Melamed and Milton Friedman
With fixed rates, there was no exchange rate risk in international trade. However, flowing rate exposes importers and exporters to significant uncertainty to the amount of dollar or foreign currency they will receive or are obliged to pay for.
Since its founding in 1898, CME has been the place where producers, processors, merchants, and commercial users come together to hedge price risks for a wide range of commodities. Leo Melamed, then Chairman of the CME, was convinced that the futures market is the solution to tackle the rise in exchange rate volatility.
Leo set up an International Monetary Market division within the CME and prepared for new futures contracts derived from foreign exchange rates. Initially, this breakthrough idea found no friends on Wall Street. According to Leo, one investment bank president tossed it out saying he didn’t want the Chicago “Pork Belly Shooters” to contaminate the FX market.
Leo met with Milton Friedman, a well-respected economics professor at the University of Chicago. Milton fully supported the ingenious design and published a feasibility study, “The Need for Futures Markets in Currencies” in 1971.
Milton Friedman (1912-2006) won the Nobel Prize in Economic Science “for his research on consumption analysis, monetary history and theory and the complexity of stabilization policy” (the Nobel Committee).
This changed everything. When Leo went to Washington to lobby the idea of listing foreign exchange futures, Treasury Secretary George Shultz said, “If it’s good enough for Milton, it is good enough for me.”
George Shultz (1920-2021) served as Secretary of State in the Regan Administration and as Treasury and Labor Secretary under Richard Nixon. He was also the Dean of Graduate School at the University of Chicago, and a good friend with Milton Friedman.
If you are interested in the story of FX futures, you may find it online and at Leo’s 1996 memoirs, “Escape to the Futures”.
Foreign Exchange Futures
On May 16, 1972, IMM simultaneously launched seven futures contracts based on the US dollar exchange rates to British Pound (
6B1!), Japanese Yen (6J1!), Canadian Dollar (6C1!), Swiss Franc (6S1!), Mexican Peso (6M1!), Deutsch Mark and Italy Lira.Five of those original FX contracts are still actively trading at the CME. Deutsch Mark and the Lira have been delisted since Germany and Italy joined the Euro currency. The new contract, Euro/USD FX (
6E1!), becomes the most active CME FX future contract.FX contracts saw exponential growth in trading volume in the next fifty years. In the first 9 months of 2022, average daily volume for all FX futures and options reached 983,000 lots, according to the CME Group. On November 15th, Euro FX alone traded 359,000 lots and had an open interest of 683,293 contracts.
My writings on TradingView include a number of trade ideas on FX futures contracts. Please take a look if you haven't yet.
FX Futures were the start of a “Financial Revolution” in the futures industry. The next few years saw new breeds of futures contracts, including interest rate futures between 1975 and1977 and equity index futures in 1982.
During the holiday season, I would start a series on the leaders and innovators at CME, CBOT and KCBT. They brought GNMA Futures, T-Bill and T-Bond Futures, Eurodollar Futures, Value-Line Index Futures and S&P 500 Futures to life and revolutionize the financial derivatives world as we know it today.
Happy Trading.
Disclaimers
*Trade ideas cited above are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management under the market scenarios being discussed. They shall not be construed as investment recommendations or advice. Nor are they used to promote any specific products, or services.
CME Real-time Market Data help identify trade set-ups and express my market views. If you have futures in your trading portfolio, check out on CME Group data plans in TradingView that suit your trading needs tradingview.com/gopro/
Jim W. Huang, CFA
jimwenhuang@gmail.com
jimwenhuang@gmail.com
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