Commodity Exchanges And Futures Trading - Principles And Operating Methods

Commodity Exchanges Exchanges Commodity and and

Futures Trading Trading Futures

Commodity Commodity Exchanges Exchanges AND AND

Futures Trading Trading ANDD PR I N C I P L E SAN PRINCIPLES

0 PER A:T I N G MET HOD S METHODS OPERATING

Julius B. B. Julius

Baer

OF THE NEW YORK YORK. BAR

and

Olin Glenn Saxon PROFESSOR OF ECONOMICS YALE UNIVERSITY

HARPER

HARPER

& &

BROTHERS ~ PUBLISHERS BROTHERS PUBLISHERS ~

COMMODITY EXCHANGES AND FUTURES TRADING fr Brothers Copyright, Harper & Brothers 1935, 1949, 1929, 1935, 1949, by by Harper Copyright, 1929,

Printed in in the America the United United States States of Printed of America All rights in this book are All this book are reserved. reserved. rights in

part of No part the of the in any in manner whatsoever whatsoever manner any without written permission except case of in the the case written permission without brief of brief except in quotations embodied in critical articles and reviews. embodied articles in critical and reviews. quotations For For information information address Harper & Brothers. fr Brothers. address Harper book may book be reproduced may be reproduced

L-D L-D

in a This was published published in smaller edition book was a smaller This book in 1929 edition in 1929 under under the the title title COMMODITY EXCHANGES by Julius B. B. Julius by Baer and and George P. Woodruff Baer P. Woodruff George

Contents

x

Preface Preface II

HISTORICAL DEVELOPMENT OF COMMODITY EXCHANGES Ancient Markets-Markets Markets Markets in in the the Dark Ages Ages-The The Medieval Fairs F'airs-Merchant Associations-The Merchant Associations The "Law Merchant"-Courts Merchant" Courts of Fair The "Law Merchant" Becomes the of the the Fair-The the Common Law in the United States-Development States Development of the Modern Commodin the of the Market Organized Commodity Commodity Markets-Not All Comity Market-Organized Markets Not All ity modity Markets Have Exchanges-Organization of Markets Markets of Exchanges Organization modity Agents-Dealersbefore Exchanges-Brokers-Commission before Brokers Commission Exchanges AgentsDealers Risk Bearing Bearing-Risks of Commodity Commodity Dealers Dealers-The Risk Risks of The Market Risk Risk of the the Dealer-Credit Risks of of Dealers Dealers-Other Dealers of Dealer Credit Risks Other Risks Risks of of Dealers -Major in the the Physical Physical Markets Which Operate withDefect in Major Defect Operate without Exchanges The Growing for Exchanges-The Need for Exchange Services in in Services Growing Exchange All Commodity Markets-Producers' Associations-Dealers' All MarketsProducers' Associations Dealers' Commodity Establishment of Trade Associations Associations-Establishment by DealDealof Self-Regulation Self-Regulation by Associations-Arbitration Disputes-Standardizaers' Arbitration of of Disputes Standardizaers' Trade Associations tion of of Contracts-Standardization of Qualities tion Contracts Standardization of or Grades Grades Qualities or

33

11 II

THE ECONOMIC FUNCTIONS OF COMMODITY EXCHANGES Market-Place Exchange in in of the the Commodity Place of The Exchange Exchange Market Commodity Exchange

27 27

Distribution-The Risks of Industrial Society-The of Modern Industrial The Risks Distribution Society The a as Exchange Market as a Guarantor of Deliveries (at Deliveries Contract Exchange (at Contract Time) and of Payments for Deliveries (at Contract Price)for Deliveries of Contract (at Price) Time) Payments Exchanges Commodities Liquid-Profit Margins Profit in DisDisMake Margins in Exchanges Liquid tribution Expedite MarketingMarketingReduced Exchanges Expedite tribution Are Reduced-Exchanges Exchanges a World Market Market-Exchanges Level Prices Prices bebeExchanges Level Exchanges Form a Markets-Buyers May Anticipate Requirements-Contween Markets Contween Buyers May Anticipate Requirements tinuous Prices Prices aa Factor Factor in in Fair Fair Dealing-Does Exchange the Exchange tinuous Dealing Does the Prices?-Price Movements Discount the Future-The Stabilize the Future The Discount Stabilize Prices? Price Exchange as a Source of Trade Information-Exchanges RegInformation Exchanges RegExchange as a Source of ulate Speculation-Exchanges Uniformity in in the the ulate Speculation Exchanges Promote Uniformity Trade-Exchanges Regulators of of Consumption as Regulators Trade Exchanges as Consumption v

vi

Contents Contents

vi

III III

SPECULATION-A SPECULATION A CONSTRUCTIVE COMMODITY EXCHANGES

ECONOMIC ACTIVITY ON

51 51

The Function of of Organized in the the Distribution Distribution of of Organized Speculation Speculation in Staples-Without Organized Speculation Exchange Markets Markets StaplesWithout Organized Speculation Exchange Function-Attacks on Speculation-Defenses Could Not FunctionAttacks of Speculation Defenses of Speculation-Speculation and Gambling-Does Speculation Gambling Does Speculation Speculation Speculation Make for Prices?-Phases the Contention that that SpecuPhases of of the for Lower Prices? Speculation Lowers Prices-Does lation Prices Does Speculation Prices? ExSteady Prices?-ExSpeculation Steady Trading Levels Prices between Markets-The change Trading Levels Prices Markets The Speculachange Speculaof Risk Risk-Speculators Provide aa Broad Market tor's Assumption Assumption of tor's Provide Speculators -Large of Transactions Transactions on Exchanges Exchanges-Short Short Selling Large Volume of Selling -Regulation of Speculation of Regulation Speculation IV

GRADING, STANDARDIZATION, AND INSPECTION Advantages of of Inspection Inspection and Grading-Establishment of Grading Establishment of Advantages Standard Grades Grades and Methods of in of Classification-Standards Classification Standards in the Trade-Inspection in the the Grain Grain Trade the Cotton Cotton Trade Grading in Inspection and Grading in the Trade Sampling Grading Ware-Standards the Rubber Trade-Sampling-Grading-WareStandards in

86 86

housing housing V

PRICES, CROP AND MARKET REPORTS, REPORTS, AND PUBLICITY OF PRICES,

OTHER STATISTICS Importance of of Reports Reports and Statistics-The Statistics The Importance of Importance Importance of of Prices-Sources of InformationWidespread Publication of Prices InformationPublication Sources of Widespread of the Reports Issued-Daily Report of the New York Cotton ExExIssued Daily Report Reports change-Daily Report of of :the Coffee and the New York Coffee changeDaily Market Report Sugar Exchange-Crop Statistics in the Grain Trade-Annual in the Trade Annual Sugar Exchange Crop Statistics Publication Prices ConReports-Prompt and Widespread Publication of of Prices-ConWidespread Reports Prompt Reports-Market Letters-Regtrol of of Quotations-Newspaper Market Letters trol RegQuotations Newspaper Reports ulation of ulation of Consumption Consumption VI

COMMODITIES ADAPTABLE TO FUTURES TRADING

96

llO 110

Units Must Be Homogeneous-The SusUnits Homogeneous The Commodity Commodity Must Be Susceptible of Standardization of Grades-Supply and Demand of Grades Standardization of Supply ceptible Large-The Naturally to to MarketThe Supply Must Be Large Supply Must Flow Naturally Supply and Be Uncertain-The Commodity Must The Demand Uncertain Commodity Supply Must Not Be Perishable-Commodities Exchange in Which Exchange Perishable Commodities in to Trading Is Conducted-Commodities Adapted to Futures Not Is Commodities Conducted Trading Adapted Trading-Commodities Might Be Adapted to Futures Futures Trading Commodities Which Might Adapted to Trading-The Metals-Iron-Other Commodities Wool PeThe Metals Iron-Other Commodities-Wool-PeTrading troleum-Coal-Condusions Coal Conclusions troleum VII VII

THE FUTURES OR EXCHANGE CONTRACT Markets DevelPhysical (Cash (Cash or or Spot) Markets and Futures Markets-DevelPhysical Spot) Markets of the opment of the Futures or Exchange Contract-Origin the Exchange Contract Origin of opment of the Futures

126

Contents Contents

vii

vii

Futures Exchange Contract-A Futures Contract Futures or Exchange ContractA Futures Contract DefinedDefined of the the Futures Futures Contract Contract-Characteristics FuThe Form of Characteristics of of the the Fufor aa Basis Basis Contract-Considerations tures Contract-Reasons tures Contract Reasons for Contract Considerations in Deliverable on Commodity in Establishing GradesGrades Deliverable Establishing Grades-Grades Commodity Exchanges-Differentials-Unit Decimalsof Trading-Price Exchanges Differentials Unit of Trading Price Decimals Months-Delivery at Seller's Option-Warehouse The Delivery Months at Seller's Warehouse Delivery Delivery Option Receipts Receipts VIII' VIII-

ORGANIZATION AND OPERATION OF A COMMODITY EXCHANGE

143 143

Ancient Markets and Modern Exchanges Exchanges-Cash Markets and Ancient Cash Markets Futures Markets Markets-Organization of Exchanges-ObjectivesFutures Organization of Exchanges ObjectivesMembership-Seats-Dues-Government-The Seats Dues Government The Secretary-ComSecretary ComMembership Committee-Arbitration of ControCommittee Arbitration of Controversies-Arbitration of of Grade or Disputes-Discipline versiesArbitration or Quality Quality Disputes Discipline -Business Conduct Committee Committee-Supervisory Business Supervisory CommitteeFloor Committee-Quotations Committee Committee on Floor Committee Quotations Committee-Committee Commissions-Committee Statistics GradCommissions Committee on Information and Statistics-GradOther Warehousing Committee-Other Committees-The ing Committee and Committees The Warehousing ing The Exchange and Its Facilities-The Trading Ring-Reporting Its Facilities Exchange Trading Ring Reporting Trades-Telephone Booths-Hours Hours of of Trading-Limitation Trades Trading Limitation on Telephone Booths mittees-The Arbitration The Arbitration mittees

Daily Fluctuations-Statistical Information-Standard Statistical Information Standard Price Fluctuations Daily Price Calls Contract-Price Months-Calls-Trading Months Price Quotations-Trading Contract Trading Quotations Trading Rules-Commissions-Members Floor-Contract Contract Slips the Floor Rules Commissions Members on the Slips IX

THE CLEARING HOUSE AND ITS RELATION TO THE EXCHANGE

164 164

Direct Direct

of Contracts-Functions the Settlements of Contracts Functions of and Ring of the Ring Settlements Modern Commodity Commodity Clearing House-Organization of a ClearHouse of a ClearClearing Organization the Clearing ing Association-Reporting House-Original to the Clearing House Original ing Association Reporting to Margin Requirements Requirements-Variation or Market-Difference Market-Difference MarVariation or Margin gins-Margin Requirements Requirements Imposed of ExImposed on Customers of ginsMargin Members-Protection change Members of Customers' Customers' Accounts-ClearAccounts ClearProtection of change Careful Provision ance the Surplus-Careful Provision against Fees and the ance Fees against LossSurplus Security of the Clearing House-An Efficient Medium of DeAn Efficient of DeHouse the of Clearing Security livery-Limitation of Interest-Confidential Relationship Interest Confidential of of Relationship of liveryLimitation the Clearing Clearing House and Its Its Members Members-Summary the Summary

X

A TYPICAL TRANSACTION ON THE EXCHANGE

188 188

Course of Transaction What Brown Solda Speculative Sold of a The Course Speculative Transaction-What Confirming the Sale-Clearing the Trade-Brown's Margin Brown's Trade the the Sale Margin Clearing Confirming Confirmation with L. Purchase-Confirmation of Purchase L. & Co.-Confirmation Co. Confirmation of with of Sale-Commissions-Variation Margins-Switching-Brown's of Sale Commissions Variation Margins Switching Brown's Market Place Trade Closed-A Protective Sale-The Central Place Central Trade Closed A Protective XI

HEDGING Risks of Manufacturer-Eliminating the RiskDealer and Manufacturer of Dealer Risks Eliminating the of the Operation of the Hedge-Object of the Hedge-Classes of the of Hedge Classes of HedgeObject Operation

197 197

viii

Contents Contents

viii

The Hedges-The Hedges

Degree of Protection Protection-Correlation Correlation between between Degree Prices of Material and Manufactured Goods-Shifting Prices of Raw Material Goods Shifting the Hedge-Hedging Applies Only the Hedge to Balances-Selecting Balances Selecting the the Hedging Applies Only to Market of the Market-Choice the Month Month-Practice Delivery Choice of Practice Regarding Regarding Delivery in Other Commoditieson Hedges Hedges-Hedging by Transactions in Hedging by in Financing Hedging as as an Aid in Financing-Relation Relation of of Spot and Future Future Hedging Spot and Prices Credit Insurance Prices-Credit Insurance through through Hedging Hedging-The The Work of of the the Arbitrageur-Summary Arbitrageur Summary XII

XIII

HEDGING IN PRACTICE Discounts Discounts on Distant Distant Months Months-Changes in Basis the Basis Weaken the Changes in as Insurance in Basis upon Protection Effect of Hedge as Insurance Protection-Effect of Change in Basis Hedge Change upon the in the the Hedge Hedge-Hedging the Grain Trade-Reasons Trade Reasons for for Spot Hedging in Spot in the by TerTerSelling Futures in the Grain Trade-Hedging Trade Hedging by Selling above Futures minal Elevators-Users Elevators Users of of the the Buying Hedge-Hedging by ProProBuying Hedge Hedging by ducersMarkets ducers-Markets Used for for Hedging Hedging Grains-Summary of Grains Summary of in the Trade in the Grain Trade-Hedging in the Cotton Trade Hedging in the Cotton Trade Hedging Hedging in the -Hedging the Sugar in the the Coffee Coffee Trade Sugar Industry-Hedging Hedging in Industry Hedging in in the -Hedging in the Rubber Trade-Hedging in Cottonseed OilTrade in Cottonseed Hedging Hedging Hedging by Copper Smelters-Hedging by a FabriCustom Smelters a FabriHedging by Copper Hedging by cator-Hedging by by aa Miner Miner-Summary catorHedging Summary

219 219

THE COMMODITY EXCHANGE ACT

251 251

Markets Co-operative Associations-Registration Contract Associations Registration of Contract Markets-Co-operative of Futures Merchants and Floor Floor Brokers Brokers-Protection Futures Commission Merchants Protection of Customers' Margin Margin Moneys Moneys-Limitations of Customers' Limitations on TradingTradingHedges Exempted-Unlawful Transactions and Practices-AcUnlawful Transactions Practices AcHedges Exempted cidental Omissions, Trades, Cross Trades, cidental Sales, Cross Omissions, Exceptions-Wash Exceptions Wash Sales, or Ex-Pit TransactionsPrivileges, etc.-Permissive Ex-Ring etc. Permissive or Ex-Pit TransactionsEx-Ring Privileges, Bucket Shops, Affecting of Law Affecting Bucket Shops, Misrepresentation-Provisions Misrepresentation Provisions of of Commodity Commodity Exchanges Exchanges-Penalties ProPenalties and ProNon-Members of the cedure-Proceedings before the Commodity Exchange Combefore cedureProceedings Commodity Exchange mission-Proceedings before before the of Agriculturethe Secretary AgriculturemissionProceedings Secretary of of Secretary Criminal Offenses Offenses-General Powers of Agriculture of Agriculture General Powers Criminal Secretary of

XIV

THE LAW OF COMMODITY EXCHANGESRELATIONS EXCHANGES-RELATIONS WITH THE STATE-RELATIONS WITH MEMBERS RELATIONS STATE

Legal Nature of of the the Organization-Control Organization Control over Membership Legal Nature Membership -Corporate Powers-The Dissolution of Exchanges-Commodof Exchanges The Dissolution Powers CommodCorporate Power to the State-Power to Regulate Tradingity Exchanges the State and Regulate Tradingity Exchanges Legality of of By-laws By-laws and Rules Rules-Contract Contract of of Membership-The Membership The Legality Admission of of Members-SlIlspension Expulsion-Discipli~ Members Suspension and Expulsion Admission Discipli nary Proceedings Proceedings-Right Appeal to to the the Courts-Nature Courts Nature of of of Appeal Right of nary a Member Attachment of Member-Attachment and a Membership Membership-Bankruptcy of a a Bankruptcy Taxation The Execution-Transfer, Pledge, and Assignment Assignment-Taxation-The Execution Transfer, Pledge, Exchange's Control of Its Quotations Quotations of Its Exchange's Control :

266 266

Contents Contents XV XVI

ix

ix

THE LEGALITY OF CLEARING HOUSE OPERATIONS

297 297

THE EXCHANGE AND THIRD PARTIES

301 301

Legal Relations Relations between between Member and Customer-Broker CustomerBroker and Legal Customer Customer

'

TABLE OF CASES

311 311

BIBLIOGRAPHY

315 315

INDEX

319 319

Preface Preface

The publication publication of of this with its the this book with its comprehensive descriptions of the comprehensive descriptions development, functions, and operating methods of Commodity Exchanges methods of Commodity Exchanges development, functions, operating Exchange is the organization organization of is most timely. Since of the first Commodity the first timely. Since the Commodity Exchange after been the shortly after the Civil War, these Exchanges have the scapegoats of the Civil these War, shortly Exchanges scapegoats of producers, consumers, and politicians. They have been held responsible held have producers, consumers, politicians. They responsible both for inflation and for deflation. At the peak of every inflationary for inflation for deflation. the peak of every inflationary for the Exchanges speculative operations thereon are spiral, are blamed for Exchanges and speculative spiral, the operations thereon are charged high prices. At the the bottom of of every every deflationary deflationary period, period, they they are charged high prices. with the responsibility for for low prices. prices. the responsibility with Congressional Committees Committees have have from time held extensive time held extensive time to to time Congressional public hearings hearings with with respect investigations and public to these these Exchanges. Exchanges. investigations respect to Recent activities activities in in this this field field (in (in 1947 have centered mainly Recent centered mainly 1947 and 1948) have 1948) around the because of high prices wheat, of wheat, the grain of prevailing around grain Exchanges prices of Exchanges because prevailing high corn, and other both domestic markets. Yet, when other cereals cereals on both domestic and foreign markets. Yet, corn, foreign in one examines the facts facts objectively, objectively, it only in the United that it appears that the United examines the only appears States today do free free markets, markets, responsive responsive to to economic forces, prevail in in States today forces, prevail in grains and most other staple commodities. Since eady in II Since other World War II commodities. most early staple grains there has has been been no free market for wheat in the Dominion in Canada where the free market for wheat there fixed prices has been been the the exclusive exclusive buyer buyer at of all at fixed all wheat for of for Government has prices it to the British on long term contracts at export, selling it to the British Government contracts at long export, selling prices determined determined by by the the two governments. Likewise, the the Argentine Argentine governments. Likewise, prices Government has has become the the exclusive and seller of all wheat all seller of wheat exclusive buyer and buyer as a many other other products products for for export. the Argentine a consequence, 1947, as many export. In 1947, Argentine consequence, the at the of to at the equivalent of $4 to $5 per Government was selling wheat bushel $4 $5 per bushel selling equivalent on a long-term five year contract, was exporting wheat to a and Canada, five to Canada, long-term year contract, exporting England per bushel, bushel, while while the the United States, market, at $1.80 the only free market, States, the $1.80 per England at only free to Europe at prices ranging from $2.40 to $3.20 per was shipping to at wheat to $2.40 $3.20 per Europe prices ranging shipping bushel. In In other other words, words, the the Argentine Argentine farmer is to sell bushel. is forced forced to sell at at low, low, arbitrary prices his government sells abroad at exorbitant his at wheat which sells exorbitant government arbitrary prices profits, possible only in in aa starving starving world. world. Meanwhile in in Canada, where Canada, where profits, possible only x

Preface Preface

xi xi

the the government, government, with with the the wheat exchanges exchanges suspended, sold its its farmers' farmers' suspended, sold wheat crops crops short over aa five year period period at the farmer receives receives short over five year at fixed fixed prices, prices, the to 60% in the prices 50 to 60% below those those prevailing prevailing on the the free the United United free markets in prices in States. In fact, States. fact, Canada is is engaged in the gigantic commodity the most engaged gigantic commodity specuspeculation in lation in history history and has has caused caused losses losses of its farmers. of billions billions of of dollars dollars to to its farmers. In the the other the United States, other hand, the grain States, on the hand, the grain Exchanges, Exchanges, operatoperating freely, have maintained the only markets for have maintained the undominated for cereals markets cereals ing freely, only in the entire entire world during in the II. While prices have since World War 11. during and since prices risen sharply as a consequence of extraordinary war demand, risen as a of demand, drastically sharply extraordinary drastically consequence disrupted production production and transportation transportation facilities, short post-war post-war facilities, and short disrupted crops Europe, they they have have not not been been arbitrarily in Europe, fixed by crops in arbitrarily fixed government. by government. the contrary, prices have been established solely through interOn the the interhave been established solely through the contrary, prices action forces, the the prevailing prevailing supply action of of economic forces, supply and demand on uncontrolled markets markets where where merchants, merchants, producers, producers, converters, trolled converters, consumers, consumers, and at under federal speculators have free to sell or buy at will federal regulation have been to sell or will free speculators buy regulation to to prevent prevent abuses abuses and unfair unfair practices. practices. The results results have been free prices, free prices, fair to to both both producer producer and consumer in of all existing circumstances. fair in light of all circumstances. existing light In a a world world in in which which private private trading trading is rapidly being being replaced by State is rapidly State replaced by it is trading in all all basic basic international staples, it not too much to to say that international staples, is not trading in say that to free commodity markets, markets, properly properly regulated regulated by by government to prevent free commodity government prevent abuses, the symbols symbols of societies. With many nations of of the the world are the of free free societies. abuses, are many nations accepting State in some form, it is is highly that State Socialism now accepting Socialism in form, it highly important important that that State State Socialism, the people people of of the the United United States realize that States realize the Socialism, whether Communist, Fascist, Fascist, or or Socialist, the destruction destruction of of free free markets Socialist, means the Communist, replacement by by governmental governmental buying buying and selling monopolies their replacement and their selling monopolies such as is not in -i.e., exclusive State trading such as is being practiced not only now State exclusive i.e., being practiced only in trading various South American Communist countries, countries, but but also in England England and various also in nations. nations. and European European to a free Commodity Exchanges not not only vital to free economy, are vital economy, but they they Commodity Exchanges only are serve a much more important important function function than do Stock Stock Exchanges. serve a Exchanges. The of a free society latter are are vital vital to to the the economic stability a free because they they latter society because stability of bonds that of stocks give liquidity to the billions of dollars of stocks and that represent billions dollars of to the represent give liquidity the capital capital investments of the the American people the nation's nation's productive productive investments of the people in the the general machinery upon upon which depend welfare, distributive machinery and distributive general welfare, depend the of all the and living standards of all the people. The Commodity prosperity, people. Commodity living standards prosperity, for the Exchanges, however, not only provide constant liquidity for the basic basic not however, liquidity only provide Exchanges, but also staple commodities traded upon these Exchanges, they also perform these traded commodities they Exchanges, perform upon staple other v~tal economic economic functions functions which are not served served by by Stock Exchanges. are not other vital Exchanges. interested in are vitally Both the federal governments in the the state and federal the state Both vitally interested governments are unfair to regulation of Commodity Exchanges to prevent unfair trade practices of practices prevent Commodity Exchanges regulation interest. and other other potential potential abuses to the the public public interest. abuses contrary and contrary to of technical terms; This book book is is not not aa trade trade manual or terms; nor or hand-book of This

Preface Preface

Xll xii

is it an extensive extensive analytical theoretical treatise treatise on the functhe economic funcanalytical or theoretical of the the Commodity Exchange. Rather its tions of tions its primary is to to Commodity Exchange. primary purpose purpose is supply a simple, clear analysis of the economic functions, the of a clear of the the methods of functions, analysis supply simple, operation, trading practices, practices, and the the regulation these Exchanges the trading of these operation, the regulation of Exchanges by the themselves and by by the the Exchanges the federal federal government. Exchanges themselves by government. The objecobjecof the authors has has been to to produce produce aa book which will will be useful useful to tive the authors tive of students college courses courses on Marketing Marketing and, the at the students in college the same time, and, at time, meet the of the needs of of the ever-growing users users of the Exchanges Exchanges-the producers, merthe ever-growing the producers, merchants, brokers, brokers, dealers, dealers, commission agents, chants, converters, farm cooperatives, agents, converters, cooperatives, and traders, are availing of the the Exchange themselves of facilities more traders, who are availing themselves Exchange facilities extensively from year year to to year. year. extensively P. Woodruff, The authors are are greatly greatly indebted to to Mr. George Woodruff, aa member George P. who collaborated with of the in the of the New Jersey Bar, collaborated Mr. in the authorship Baer Bar, Jersey authorship first in of "Commodity Exchanges," first published in 1929 by Harper Brothers, of & Brothers, 1929 "Commodity Exchanges," published by Harper & with several editions. with several subsequent subsequent editions. to John C. Gardner, authors owe a personal personal debt to Gardner, President, The authors President, New John C. and Coffee & Sugar York Coffee Exchange Vice President, Lowry A. President, Co.; J. Sugar Exchange Lowry & Co.; J. A. H' ". Jr., Jr., Former Executive Executive Vice Vice President, President, National National Association Association of of IT" Commodity Exchanges and Allied Allied Trades, Inc.; C. Huntting, Vice Vi.ce C. E. E. Huntting, Trades, Inc.; Commodity Exchanges F. H. Peavey fc Company; Jerome Lewine, President, F. Peavey & former President, President, Lewine, President, Company; Jerome Commodity Exchange, Inc., Partner Partner of of H. Hentz & Co.; Linstrom, S. Linstrom, Co.; Evan S. Commodity Exchange, Inc., Bache & Co.; Co.; H. E. E. Luedicke, Commodity Editor Editor of Journal of of The Journal Luedicke, Commodity of Commerce, J. McClintock, Executive Vice President, O. Vice McClintock, Commerce, New York City; President, City; J. of Trade of the City Marks, Esq., Esq., Partner Partner of of Chicago; Board of of the of Chicago; Donald Marks, City of Baer & & Marks, Marks, attorneys for Commodity Exchange, Inc.; I. Baer Gustave I. Inc.; Gustave attorneys for Commodity Exchange, Tolson, former former President, President, New York Cotton Exchange, Partner of Geo. H. Partner of Geo. H. Tolson, Exchange, McFadden & Bro., Bro., and Richard F. F. Uhlmann, Uhlmann, President, President, Board of of Trade of the City of Chicago and President, Grain Co., for their Uhlmann of the City of Chicago review President, Co., for their review of all or or part part of the manuscript, manuscript, and their their many helpful suggestions. of the of all many helpful suggestions. Special thanks are are also also due to to Phelan Beale, Beale, Esq., Esq., Counsel, Counsel, New York Special thanks S. Dunn, Cotton Exchange; J. A. A. S. Dunn, Treasurer-Secretary, Coffee Treasurer-Secretary, New York Coffee Exchange; J. F. & Sugar Clearing Associations, Inc.; M. F. Faber, Treasurer-Secretary & Inc.; Faber, Associations, Clearing Sugar Treasurer-Secretary of Clearing Clearing Associations Associations operating of operating in conjunction conjunction with Commodity Commodity Exchange, Inc.; Inc.; Henry J. Fink, Exchange, Inc.; Inc.; Fink, Secretary Secretary of Commodity Henry J. Commodity Exchange, Exchange, B. Tatistcheff, Tatistcheff, Former Economist and Statistician Statistician Commodity and Alex B. Commodity of have read the Exchange, Inc., parts of the manuscript valuable and who made valuable Inc., manuscript parts Exchange, suggestions. suggestions. is it

.

JJULIUS uuus

B. BAER BAER' OLIN GLENN SAXON

July 20, 20, 1948 July

Commodity Exchanges Commodity Exchanges and

Futures Futures Trading Trading

~

CHAPTER

CHAPTER

I ) I J

Historical Historical Development of Commodity Development of Commodity Exchanges Exchanges

Ancient Ancient Markets. Markets. Long before the the dawn of history, ancient of history, civilizaancient civilizaLong before tions of the the world and even even primitive primitive societies tions of societies had established established market where places hunters, fishermen, herdsmen, farmers, artisans, merchants, artisans, merchants, fishermen, farmers, hunters, herdsmen, places speculators, consumers, and, at times, foreign traders from distant lands at traders distant lands times, foreign speculators, consumers, and,

met and exchanged their products products or or stocks in trade trade-raw or raw materials stocks in materials or exchanged their

finished goods. All trading trading at at first by barter-the first was by finished barter the exchange of one goods. All exchange of another a condition limits the article for for another-a condition which seriously limits the and article volume seriously in or among efficiency of of commerce. Barter Barter is is practiced practiced only nations efficiency only in among nations of money as a common denominator of not yet yet conceived conceived of money-as which have not of of exchange, whereby the value of one article common medium of the of value article exchange, whereby can readily gauged gauged in in terms terms of of another-or among nations nations whose another or among can be readily exchange are to one another or their media of are no longer of exchange or to to their longer acceptable acceptable to

values, aa values,

peoples. peoples. of barter, To eliminate eliminate the the obvious limitations limitations of barter, even the the earliest earliest sociesocieof ties to establish of exchange, using cattle, furs, shells, media establish to ties attempted cattle, furs, shells, exchange, using attempted tobacco, and the the like like as money or or common denominators, measures of as money of denominators, measures tobacco, wealth, standards of value. early "moneys," however, were value. These and of standards wealth, early "moneys," however, subject to various risks, such as destruction or as destruction or deterioration deterioration and consevarious to conserisks, subject are to quent loss of value. Such articles are bulky, costly to store, and generally of articles value. loss store, bulky, costly generally quent imperfect of exchange. exchange. imperfect media of In time, man, in in his his eternal search for to reduce for ways eternal search In the reduce the time, man, ways and means to innumerable risks risks to to which nature nature subjects him, conceived of the idea innumerable of the idea him, subjects of gold, gold, silver, or copper the best, best, most efficient, as the of efficient, most stable, stable, and most silver, or copper as durable metals then had, had, and gold of exchange. durable medium of exchange. These metals gold today today still has, all all the the essential essential characteristics characteristics of a satisfactory satisfactory medium of of a still has, of exchange, namely, relatively high value in small bulk, durability without value in small without bulk, durability exchange, namely, relatively high relative scarcity, risk of of loss loss from shrinkage or deterioration, deterioration, relative ready risk shrinkage or scarcity, and ready or at adaptability to storage or safe-keeping at small expense. the to When the storage safe-keeping expense. adaptability silver coins to ancient first given gold and silver coins to substitute for for ancient Romans were first substitute given gold exchange, with with the the bullion or metallic metallic contents cattle, as a medium of as a of exchange, contents cattle, 3 3

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

4

of the coins by government, they called moneys pecunia pecunia of the coins determined by called these these moneys government, they after the Latin word for herd, pecus. after the Latin for herd, pecus. of metallic The introduction introduction of metallic money money as the medium of as the of exchange, exchange, the metal gold (which is and throughout especially where the metal was all history where is gold (which throughout all history especially in all all organized organized societies the best has been been acceptable acceptable in has societies as as the best common denominator or measure of of values values yet yet devised devised by by man) man), was aa major or measure major step step toward of both internal and foreign trade throughout the world. expansion both internal trade of world. foreign throughout the expansion production and distribution distribution were were no longer proThereafter, production Thereafter, local, and prolonger local, ducers and merchants merchants had no fear of losses to deterioration fear of the losses due to ducers deterioration of of the "hard" money money taken taken in in exchange exchange for or services. They their own goods for their or services. They goods had, risks to to subject themselves to eliminated certain certain risks to had, however, however, only only eliminated subject themselves others-risks of fluctuations the money money prices prices of and services, as fluctuations of of the of goods as others risks of services, goods well as as governmental control of the value of their money and the possibilcontrol of the value their well of the governmental money possibilthat irresponsible irresponsible governments governments (as (as they have done periodically throughity ity that they have periodically throughout the course course of recorded history) history) would defraud their peoples by of recorded out the their own peoples by manipulation of the value of money. This process is accomplished by is the of value money. process accomplished by manipulation of of the the value through the the deliberate value of governments deliberate cheapening of their their governments through cheapening of devices moneys for political or fiscal reasons by various centuries-old devices for or fiscal various reasons centuries-old by moneys political not concern concern us us at at this this time. time. which do not The use use of of money money as a medium of of exchange rise as a also encouraged the rise exchange also encouraged the of the professional professional money money lender banker-both the banker lender and the vital economic both vital of the forces. They They furnish risk-bearing capital capital to to enterprising furnish risk-bearing forces. enterprising producers producers and distributors of goods and services, in the the supply of goods increases in distributors services, stimulating stimulating increases supply and wider wider use use of of goods goods and services services through lower costs to the people to the costs lower people through of more efficient tools of resulting development of efficient tools of production, resulting from development production, more effective transportation and distribution, economical means of of transportation economical distribution, and more effective competition for consumer markets. markets. for competition markets of the classical Rome, civilizations of of Greece of the classical civilizations Greece and Rome, The trading trading markets after the development of the use use of of hard money, capital savings, of the after the development money, capital savings, comof commerce by the consequent consequent expansion mercial credit, credit, and the sea mercial expansion of by sea and land routes, attained a high high degree degree of of organization for the the distribudistribuattained a land routes, organization for also domestic tion of not not only only foreign, foreign, but but also domestic products. products. Both Greece and tion of Rome became substantial exporters, as well as internaas importers, of internaas well substantial exporters, importers, of products. In Athens the the Agora, Agora, which tional staples tional staples and manufactured products. of the of later the political political center center of the maritime power of the Athenian the later became the power a Empire, originated as a commercial market place. The famous commercial as Forum place. Empire, originated of Rome, Rome, from which that that city city for for centuries ruled the the major part of centuries ruled of the the of major part known world, first established established as center.· In the a trading -In as a center. the likewise was first world, likewise trading heyday of power by there were were in sea there in of Roman dominion and power by land and sea heyday called fora nineteen such trading markets, markets, called fora vendalia (sales such trading Rome nineteen (sales marthe distribution of in the distribution of specific commodities, many kets) , which specialized in commodities, specific many kets) specialized corners the of them brought from the far corners of the earth by caravan and galley. far of earth the of by brought galley. ,

,

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Development of of Commodity Exchanges Development Commodity Exchanges

55

Rome there also other there were also other fora fora where bankers bankers and money money lenders lenders

met to to do business business with one another, merchants, and with with the public. the public. another, with merchants, of Rome, organized and protected The domestic and foreign commerce of Rome, foreign organized protected by Roman law and Roman legions legions throughout the Roman world, world, was was by throughout the extensive vital to to the the economic, economic, social, life not not only only extensive and vital social, and political political life of of the the capital capital city the entire Empire, but also of the rest of the known and the entire but also of the rest of the city Empire, world. Roman citizens transacted aa large world. citizens transacted of world-wide world-wide large annual volume of

the medium of of Roman currency, business through business in effect, for which, in effect, for through the currency, which, a world currency, acceptable everywhere. became a currency, acceptable everywhere.

centuries centuries

Many of of the the trade trade customs, principles, and comcustoms, legal Many legal concepts concepts and principles, mercial practices which today today govern intricate modern economic life life mercial practices govern our intricate in their origins in the operations of the Greek agorae and the Roman the had their the the of operations origins agorae in turn, fora, turn, had benefited benefited from the of traders traders of of the experience which, in fora, which, experience of the more ancient that had risen risen earlier to power power and fallen into the ancient empires fallen into earlier to empires that centuries. The decay over the centuries. concepts of the modern corporation, the over of the the decay corporation, the concepts law of sales, and the the principles principles of instruments of negotiable of contracts contracts and sales, negotiable were first by these or expanded civilizations after after first developed these classical classical civilizations were developed or expanded by the earlier of adoption from the earlier empires of Assyria, Persia, Egypt, Carthage, Persia, Assyria, Egypt, Carthage, empires adoption and other powers. other powers. in the final disruption decline and final Markets in the Dark Ages. Ages. With the the decline of Markets disruption of for centuries centuries had maintained a the Empire (whose (whose legions legions for a the Roman Empire stern, but far-reaching effective peace, domestic Roman under and which domestic but effective stern, far-reaching peace, as never trade foreign commerce had flourished flourished as never before) before) came the the trade and foreign stark the Dark Ages, Ages, when political, political, economic, of the centuries of dismal centuries stark and dismal economic, of Europe, and social chaos swept swept over the entire entire continent of Europe, the the Middle over the social chaos currencies were disorganized. East, Africa, the British British Isles. Isles. All All currencies Africa, and the East, disorganized. International trade trade and most domestic domestic commerce dwindled to to near near International the vanishing point. The Empire broken up into hundreds of petty into was of petty the vanishing point. up Empire kingdoms, states, principalities, baronies, and independent cities or cities or baronies, states, independent principalities, kingdoms, Asiatic hordes towns. Large Large sections by Asiatic hordes who looted, looted, retired, retired, sections were overrun by towns. and returned to loot loot again. again. There was no common law and no in waves to returned in central political enforcement enforcement agency, agency, and local local agencies weak, central political small, weak, agencies were small, sea and generally incompetent. Transportation by land and sea broke down generally incompetent. Transportation by sea with the closing of centuries-old land and sea routes. Internecine strugroutes. Internecine strugwith the closing of centuries-old the small states gles, seemingly endless, among the small states and principalities, principalities, hamendless, among gles, seemingly drastic consequences pered production distribution, with drastic to the the and distribution, consequences to pered production in all standards of life all areas. areas. life in standards of local distribution, All organized organized markets, markets, except for strictly strictly local All distribution, disapexcept for disapsome common man, seeking degree of protection himself for himself peared. The man, seeking degree protection for peared. of political and his family family in in aa world world of political turmoil and economic chaos, either and his chaos, either to the serf became man" voluntarily or necessity a serf to the "strong of his from of his or necessity "strong voluntarily feudal the time community; as a consequence, the feudal system in time shackled and shackled a system consequence, community; as

66

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

of Europe British enslaved the part of of the the population population of Europe and the the British the greater enslaved greater part Isles. Only in the cities did still contrive to relatively men still to remain cities did contrive in the Isles. free, relatively free, Only

preserve the germ of of specialized specialized production production for markets, free markets, for free the germ preserve knowledge of of trade trade skills skills and commercial practices ish the the knowledge ish practices

and nournourand prinprinand of distribution finance, down from earlier and ciples handed more earlier of distribution finance, ciples prosperous generations. generations. prosperous the Dark Ages Ages slowly merged into the EuroYet, into the the Middle Ages, Euroas the Yet, as slowly merged Ages, the pean continent and Britain laboriously regained by degrees some semBritain s'emlaboriously regained by degrees pean continent order, and peace peace on the the economic, politiblance of blance of stability, economic, social, social, and politistability, order, cal as small political units were merged by force or consent into units force or into as small were cal fronts, consent fronts, political merged by larger units units-states principalities-while states and principalities while independent cities and independent cities larger maintain towns organized defensive leagues to maintain their freedom and encourdefensive to their encourtowns leagues organized age trade. These larger units, the the forerunners the present national forerunners of of the larger units, age trade. present national in enforcing states of Europe, Europe, were were more successful law and order within successful in law order states of within enforcing their limited, limited, but but expanding jurisdictions, thereby making it possible it their expanding jurisdictions, thereby making possible than for trade to become once again more than strictly local for trade and commerce to again strictly local for more than and for producers to to produce produce again again for than strictly local markets. local markets. for producers strictly sea were reopened. routes by by land land and sea transAncient trade trade routes Ancient reopened. Travel and transportation safer. Merchandise again began to flow across local safer. local to flow became across again began portation and state borders, the merchants peddling their wares from town to to state borders, the peddling their wares door. door to to door. town and door all progress in The Medieval Medieval Fairs. Fairs. During the Dark Ages Ages all During the progress in comfinance had been been practically practically suspended merce and finance the Continent Continent and merce suspended on the in British Isles. Isles. Few constructive constructive developments taken place for had taken for in the the British developments place It is is surprising that the the old principles, skills, many old concepts, skills, surprising that generations. It concepts, principles, many generations. in the of those lost in and practices practices were were not not lost the chaos of those centuries. In the centuries. In the Middle response to to the the gradual return to Ages, however, however, in in response to law and order order and gradual return Ages, the consequent consequent growing growing economic pressures pressures of of rising the rising populations populations and increasing productivity of the people, inter-city, inter-principality, of the increasing productivity people, inter-city, inter-principality, and inter-state commerce slowly slowly revived revived and expanded. inter-state expanded. first the wandering merchants, merchants, traveling traveling from town to to town town and the wandering At first in country to country, on foot or horseback, in caravans or singly, peddled foot or caravans or singly, peddled horseback, country to country, their to door. time, in response to to their door. In time, in response their wares wares individually their individually from door to all needs and the the steadily steadily growing demands of all peoples for of own needs the growing peoples for the for those other exchange of local products for those of other areas, these wandering merthese of local merareas, exchange products wandering chants with with "pieds poudresJ " or or dusty dusty feet, working in co-operation with in co-operation chants with feet, working "pieds poudres" local merchants, merchants, finally finally induced the the constituted political authorities of constituted political local authorities of the cities to to permit permit them to formal trading centers to organize the towns and cities centers organize trading for aa specific time each year year they where for their foreign they could display specific time display their foreign sale merchandise for and sale and buy local products for resale local merchandise for inspection for resale buy inspection products in into elsewhere. These centers, in time, developed into periodic fairs, and the elsewhere. the time, developed centers, periodic fairs,

Historical Historical

Development of of Commodity Commodity Exchanges Exchanges Development

foreign merchants merchants were were authorized authorized to to move move from from town town to to foreign country to country, operating exclusively through the fairs. to the fairs. country country, operating exclusively through

7

town and and town

Merchant Associations. Associations. In In due due course, course, the the medieval medieval fair fair of of the the Middle Middle Merchant Ages became became aa highly highly organized organized and efficient efficient institution institution for for the the marketmarketAges ing of domestic and foreign products throughout all Europe the BritBritand all and of the domestic ing foreign products throughout Europe domestic merchants, merchants, co-operating co-operating together, together, with with the the ish Isles. Isles. Foreign Foreign and domestic ish the town, town, city, city, or or state state authorities, authorities, organized organized themselves themselves into into consent of of the consent fairs assemblies or associations of merchants, with fixed dates for their fairs of fixed for their with dates assemblies or associations merchants, periodically scheduled each year at particular particular places, places, usually usually on various various each scheduled year at periodically saints' days. In England England these these fairs fairs reached reached aa high high degree degree of of organization organization and In flourished extensively extensively between between the the eleventh eleventh and the the fourteenth fourteenth centuries, centuries, flourished attained their their peak peak of of prestige prestige and importance importance in in the the economic they attained when they life of of the the Western Western world. world. In In some instances instances they they operated operated under royal royal life charters or or decrees; decrees; in in others, others, under grants grants from local local bishops, bishops, princes, princes, charters barons, and officials officials of of cities cities and towns towns throughout throughout the the British British Isles. Isles. 1l barons, They obtained obtained specific specific rights rights and privileges, privileges, but but in in return return assumed various various They authorities. obligations and and duties duties to to the the constituted constituted authorities. obligations of the center center of at The British British fair, held annually at Stourbridge, fair, held Stourbridge, became the annually center fair Winchester the English trade with Flemish merchants; the Winchester fair was the center the Flemish merchants; English trade with fairs of with French, of commerce with merchants; and other fairs French, Italian, Italian, and Spanish Spanish merchants; British or specialized in the products of various foreign countries or British domescountries of various in the foreign products specialized tic tic areas. areas. 2 of To assure efficient operation assure speedy, management of orderly, and efficient operation and management speedy, orderly, the fairs, without conflict with local or state laws and regulations, the laws state with local or the fairs, without conflict regulations, the consent merchant their own initiative, assemblies acting on their merchant assemblies-acting initiative, but with the of tthe constituted authorities-established, promulgated, and enforced authorities of -the constituted established, promulgated, transactions their the conduct and transactions rules and regulations their own rules regulations governing governing the fairs. at the fairs. of of in the sale or purchase of merchandise at in the or sale all who participated of all purchase participated This was essential to make certain that their customs and principles their certain that This was essential to principles of letters of to contracts, sales, bills lading, warehouse receipts, relating bills of of to sales, contracts, receipts, letters lading, relating interof trade credit, negotiable bills of exchange, and other trade practices of interother of credit, negotiable bills practices exchange, national of which had been handed down over the commerce many of national commerce-many centuries, finally developed centuries, car,efully developed upon, and finally improved upon, preserved and improved carefully preserved be ethics would not tbe into definite code of law and ethics-would overridden by law of code definite a fairly into a by fairly totally different local or national laws and regulations. laws or national local different regulations. totally saints' days.

leave England with merchandise merchandise to enter and leave enter and 11 Tht! of foreign merchants freely to The? right England with right of foreign merchants freely forced when King was forced was Carta (Sec. 15, 1215, 1215, when ,on June confirmed by was confirmed King John John was June 15, 41) ,on (Sec. 41) Magna Carta by Magna freedom. to that fundamental charter of of Anglo-Saxon to sign Anglo-Saxon freedom. sign that fundamental charter Ronald Press, York: Ronald 22 A. Securities (New Press, 1934) S. Dewing, A. S. of Corporation (New York: 1934) • Corporation Securities Study of Dewing, A Study pp. 19#. pp. 19D· ,

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Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

The "Law Merchant." Merchant." Consequently by custom and long long the fairs, fairs, by Consequently the their trade trade practices into aa usage, preserved, preserved, improved, improved, and expanded expanded their practices into usage, generally accepted code of international mercantile law, as of international as the the mercantile known law, generally accepted "law merchant," which was acknowledged, acknowledged, respected, respected, and enforced volunenforced volun"law merchant," in all their merchants in all countries throughout Europe the tarily among countries throughout among their Europe and the tarily British Isles. Isles. Any Any merchant who violated violated any provision of the code could of the British any provision be ostracized ostracized by by the the trade. trade. be The codes of the the fairs were practical practical rules fairs were rules and regulations 'the codes of for 'the regulations for ethical and equitable equi,table conduct of all business business at the fair binding at the fair and were binding of all ethical both domestic participants. They terms of of condefined terms conon both domestic and foreign They defined foreign participants. tracts well as as methods of weighing, and as well of sampling, tracts of of sale, sale, as sampling, inspecting, inspecting, weighing, delivery. They established principles for the grading of merchandise. established for the of grading delivery. They principles but of of settlesettleThey regulated not only the of sale, also the terms of the also the not methods sale, only They regulated of the ment and payment. payment. Although Although the the vast vast majority majority of the trading trading was in in for the merchandise on "spot," ready for immediate delivery, nevertheless the nevertheless delivery, "spot/' ready fairs at times contracts to to sell sell merchandise merchandise "to delivarrive" or "for "for delivfairs at times made contracts "to arrive" at some future ery" time, the the quality to be equal to samples future time, to ery" at quality to samples submitted to equal to the buyer the buyer by by the the seller. seller. so organized Courts the Fair. Fair. Finally, Finally, the the merchant assemblies the Courts of assemblies so of the organized the fairs avoid conflicts conflicts with with local local and state state courts. courts. They fairs as as to to avoid They demanded and secured the authorities, authorities, either either local local or national, the the right or national, to enforce enforce secured from the right to their own rules and regulations through their own "courts of the "courts of the fair," their rules fair," regulations through their as they were were called in Britain, courts of poudres" (dusty called in of the the "pieds as they Britain, or courts "pieds poudres" (dusty feet) on the the Continent, Continent, to to arbitrate arbitrate disputes merchants and all all feet) disputes among among merchants purchasers or sellers at the fairs, and to enforce their decisions on the spot to enforce their decisions the spot purchasers or sellers at the fairs, by their sanctions penalties. and their own sanctions by penalties. fair were chosen from those The members of of these these courts courts of of the the fair those of the of the in the assembled merchants merchants who were experienced experienced in the particular assembled trade particular trade involved and its its rules rules and practices. practices. They but involved They rendered rough-and-ready, rough-and-ready, but fair justice justice in all disputes, basing their decisions on their own trade cusin all their fair decisions their trade cusdisputes, basing practices and carrying carrying out out their their toms and practices their decisions decisions summarily toms summarily by by their interference from the own methods, methods, without without recourse recourse to to or interference the local local courts. courts. in fact, trade customs customs and practices practices-in of Those trade international code code of fact, an international in England ethics and law law-were at last last recognized recognized officially were at ethics officially in England by by royal royal authorized 'the the merchants to to establish decree, establish "merchant courts" courts" decree, which authorized to administer administer the the "law merchant." merchant." These courts superseded the the jurisjuristo courts superseded diction and authority authority of of local courts in in disputes transactions local courts diction of transactions disputes arising arising out of at the the fairs. . at fairs. In due the fairs had In course, when the fairs served their major major purposes purposes in in the the served their course, of their their time time and had become less under changeconomic life life of less important important changing economic, social, social, and political political conditions, the common law courts law courts conditions, the ing economic, of of England the "law merchant" into British common into the the British England incorporated incorporated the

Historical Historical

Development of of Commodity Exchanges Development Commodity Exchanges

9g

law of sales, and negotiable negotiable instruments. of contracts, instruments. Thus the law the "law "law contracts, sales, merchant" became the the "law of of the the land." land/' merchant" The "Law Merchant" Becomes the the Common Law in in the the United United States. States. With the colonization of of America, America, the the common law of England was transthe colonization of England transplanted to in the the seventeenth the Amerto North America in seventeenth century after the planted century and after ican Revolution became the the common law law of the individual of ican Revolution all the of all individual states states of the those had inherited French or Spanish States except those which inherited or the United States except Spanish law. concepts and principles principles underlying underlying the the bulk of of law. The fundamental concepts our present present common law law of negotiable bills bills of >commercial commercial contracts, contracts, sales, sales, negotiable of exchange, letters letters of of credit, credit, bills bills of of lading, of exchange, lading, and warehouse receiptsreceipts in our highly the very very life life blood of orderly orderly trade trade and commerce in highly organorganthe ized enforced today today in in both our state as enforced federal ized modern economic life, state and federal life, as of the courts-are those of the "law merchant/' merchant," based based on international practices courts are those international practices over the the centuries centuries from the of ancient ancient Greece and handed down over the days days of Rome, by the courts of the medieval fairs, and improved or the courts of the fairs, Rome, developed developed by improved or expanded as condi tions developed from time to time. conditions time as new to time. developed expanded medieval fairs fairs were were also also the the source pracof other other ins,titutions The medieval source of institutions and pracin civilization. found in our civilization. The stock and comtices commonly tices modern stock commonly modity exchanges of the States-as well as the trade associations in States the trade of the United as well associations in as modity exchanges their principles those fields fields which operate without exchanges-with those of exchanges with their operate without principles of self-regulation, their of arbitration and enforcement of decisions, their methods of arbitration of decisions, self-regulation, and their their clearing clearing house house systems, systems, are are the the direct of direct or or indirect indirect outgrowth outgrowth of the medieval fairs. fairs. Today, these modern institutions institutions establish, the medieval establish, improve, Today, these improve, and continue to enforce enforce their their own trade trade practices practices and customs and to to continue to expand their self-regulation to ever and changing conditions, to meet ever new changing conditions, expand their self-regulation both economic and social. social. both Development of the Modern Commodity Market. After the decline in in the decline of the Commodity Market. Development in the economic importance of the fair in Europe and England, hundreds the England, Europe importance of the fair of local local market centers, centers, called bourses on the Continent and exchanges exchanges called bourses of in Great sprang up rapidly to serve more effectively the functions to serve functions the in Great Britain, Britain, sprang up rapidly effectively at performed Iby the fair. fair. They They were at first places, where first general general market places, 'by the performed their buyers and sellers could freely exchange their many kinds of merchandise kinds of could sellers many freely exchange buyers at time during the year. developments were forced by These forced the time at any developments by economic during year. any or in dealt in all all types necessity. earlier bourses bourses or market places places dealt types of of necessity. The earlier commodities. They usually usually operated commodities. They open in public operated in the open-in public squares squares or on the town town common. As economic conditions with greater policonditions improved, the greater poliimproved, -the of ,the present the consolidation consolidation of national states of tical stability states of tical present national stability and the Europe, as transportation and communication facilities expanded, facilities as and expanded, transportation Europe, the trade in in each each commodity larger and in in due of trade the volume of larger and larger commodity grew grew larger for particular course led led finally finally to to the the organization particular course organization of specialized specialized markets for staples. staples. This development trading for trading stalls for evolved out of specialized This posts or stalls specialized posts development evolved

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

io 10

in in the in individual individual commodities in the original original general the volume markets. As the general markets. still further, of such business business grew grew still further, specialized specialized markets to trade in in particuparticuof to trade

lar commodities grew grew up up in in all all countries. time, these lar commodities countries. In time, these special markets, special markets, in previously in the open streets, officially and conducted the were housed streets, open previously officially or to re-establish their began to establish establish or re-establish their own special regulations rules and regulations began special rules improve trading trading conditions conditions for for each commodity and all who traded and improve all traded commodity in in it. it. This special type of local called a bourse, boerse) of a local market was called beurs, bourse, boerse, beurs) special type borsa, or bolsa in various languag,es on the Continent and an exchange exchange or in various languages bolsa the borsa, in the United States, although nowhere did it perform the the in England it perform States, although England and the highly specialized functions and services of the modern commodity functions services of the highly specialized commodity exchange. exchange. In the Uni,ted States the earlier markets for the United for international States the earlier markets international staple staple comwith which we are are primarily concerned here, were developed modities, here, modities, primarily developed in cotton and, in the the major major cereals-wheat, oats, tobacco and cotton in tobacco cereals wheat, corn, and, later, later, in corn, oats, rye. Thousands of local markets, markets, scattered the various various agriculagriculand rye. of local scattered over over the in the tural tural states, up in areas producing producing each commodity, centhe areas states, sprang sprang up commodity, and cenin tral distributing markets wcre organized in New York) Chicago, Savannah, markets tral distributing were organized York, Chicago, Savannah, cities. New Orleans, Orleans, and other cities. in New York, As early as 1752 established in York, at the foot at the foot 1752 an exchange exchange was established early as in of Broad Street, to trade trade in domestic produce. produce. Another market was organof Street, to organized at at the of Wall Street the sale imported by by Street for for the sale of of merchandise imported the foot foot of ized sailing vessels abroad. developmcnt of the York Stock the of from abroad. The vessels Stock New sailing development of stock Exchange began began with with out-of-door meetings of trading on out-of-door meetings stock 'brokers, brokers, trading Exchange in securities the curbs curbs of securities of of domestic corporations. Street in first of Wall Street the corporations. The first attempt at formal organization of the York stock market was in New in of the stock at formal organization attempt 3 although its first constitution did not become effective until 1817. 1792,3 effective until 1817. 1792, although its first constitution at of Trade of of the the City City of at present the largest largest and of Chicago, The Board of Chicago, present the in the most important important commodity commodity exchange exchange in the world, world, was officially officially organorganin 1848, although it did not function until 1865 as an "organized ized it did function not until 1865 as ized in 1848, although "organized commodity exchange" the sense sense in in which that that term is used today. is used It exchange" in the today. It commodity did, however, provide a for organized trading in "spot" lots, a for market in did, however, provide organized trading "spot" lots, ready for immediate delivery, delivery, and in in contracts delivery of of contracts for for forward delivery ready for in grain. In due course, similar grain exchanges developed in other were similar other In course, grain exchanges developed grain. trading centers, centers, such as as Kansas City, City, Minneapolis, Minneapolis, and Duluth. trading in 1862. Exchange was organized The New York Produce Exchange 1862. Then came organized in the New York Cotton Cotton Exchange in 1870, by the the cotton cotton exchange the 1870, followed by Exchange in exchange of the in New Orleans. Coffee Exchange Exchange of the City of was of New York was Orleans. The Coffee in City in raw incorporated in 1885. Trading in sugar inaugurated by this was sugar inaugurated by this incorporated in 1885. Trading name of the exchange in 1914. In 1916 the of the exchange was changed the to the the in 1914. exchange changed to exchange Inc. First After Coffee and Sugar Exchange, Inc. After the First the World War New York Coffee Sugar Exchange,

J.

3 J. E. E. Meeker, Meeker,

pp. 6H4. 63-64. pp.

the Stock The Work of Stock Exchange Exchange (New York: Ronald Press, Press, 1922) of the (New York: 1922) , ,

Historical Historical

Development of Exchanges of Commodity Development Commodity Exchanges

11

the development development of of exchange exchange trading trading in rapid. in various various commodities was rapid. in the Exchange the following following commodities was was inaugurated subExchange trading trading in inaugurated subsequent to 1920: cocoa, rubber, tin, copper, soy beans, black pepper, to black 1920: cocoa, rubber, tin, beans, sequent soy copper, soy pepper, soy bean oil, tops, grease grease wool, wool, onions, onions, hides, potatoes, soy oil, wool tops, hides, potatoes, soy bean meal, meal, zinc, cottonseed meal, silver, lead, mill mill feeds, Prior to the Second silk. Prior cottonseed meal, to the zinc, silver, lead, feeds, and silk. in tin, World War trading trading was suspended suspended (and (and has has not yet yet been been resumed) resumed) in tin, lead, silver, silk. silver, and silk. lead, It should be made clear, It however, that that many in clear, however, markets, in commodity markets, many commodity the United States the were organized States and elsewhere, for specialized centers for elsewhere, were organized centers specialized trading before the institution of the commodity exchange before the institution modern of the trading (which commodity exchange (which is primarily and fundamentally an insurance supplementary to to is insurance device, device, supplementary primarily fundamentally its such markets) markets) was conceived conceived and developed to its present state of of to state developed present efficiency vital importance importance to to our modern economic life. life. In order efficiency and vital that the intricate that the economic necessity necessity for for and the the various various functions functions and intricate methods of of the the modern commodity of operation operation of exchange may commodity exchange may be more it fully appreciated, it is advisable to review the functions is to review the functions and methods of advisable fully appreciated, operation of commodity markets markets before the development of specialized before the of operation specialized commodity development of an the exchange services-an development which originated after the services American after exchange originated development Civil War in Civil in grain trading on the the Chicago of Trade. grain trading Chicago Board of A brief brief examination of of trading trading methods (on physical markets), the physical (on the markets) preceded the the development development of the commodity exchange which preceded still of the commodity exchange and still prevail in each ,commodity trade, whether or not there is an exchange, in there each or not is whether prevail exchange, commodity trade, will not only understanding of to will not facilitate understanding of the the exchange its relation relation to only facilita'te exchange and its the physical physical market, market, but but also also emphasize emphasize the the importance of the vital conthe vital the of conimportance to the tributions exchange trading trading have made to the economic life life of the tributions which exchange of the world today. today. to Organized Markets. In many it is is customary many quarters customary to Organized Commodity Commodity Markets. quarters it speak of exchange markets as the only organized markets. This practice of the markets. markets as exchange only organized practice speak ignores the the specialized physical markets markets for the for particular ignores specialized physical particular staples staples and the slow, processes through which, over the years, the over slow, tedious, which, tedious, and evolutionary years, evolutionary processes through operators in ,these physical markets gradually, trial and error by error and by these physical gradually, by by trial operators in in each trade, patient co-operative co-operative efforts of all trade, developed all elements efforts of elements in developed patient highly organized centers and efficient trading techniques the idea idea efficient centers trading techniques before the highly organized of the exchange exchange was conceived. In fact, is the commodity conceived. In of the fact, the commodity exchange exchange is the newest addition, the latest development in this evolutionary merely in this latest the newest the addition, evolutionary merely development process. process. Exchange was an American development, the use of of though the development, though trading was Exchange trading of the the institution institution had become world-wide world-wide before before the the outbreak of the Second the Undoubtedly this this process process of improvement of of of evolutionary World War. Undoubtedly evolutionary improvement as economic, trading operating practices practices will will continue, continue, as economic, trading methods and operating political, social conditions change, as new ideas are conceived, and ideas are as conditions and social conceived, change, political, as new techniques are developed. In fact, the commodity exchange In the modern as fact, commodity exchange techniques are developed. ,

12

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

itself has become aa highly highly organized efficient institution institution only because itself has only because organized and efficient of processes. of such such evolutionary evolutionary processes. The exchange was conceived instrument to to as a a new instrument conceived and established established as was exchange functions perform insurance functions in commodity markets and offer protection offer insurance commodity protection perform market against various risks operators could not secure through risks which various not secure operators through against the insurance companies or otherwise. insurance or otherwise. the regular companies regular All Commodity Exchanges. Some commodities, Not All commodities, Commodity Markets Have Exchanges. even those which have have highly highly organized markets for dealing, i.e. i.e. for dealing, even those organized physical physical markets petroleum, coal, burlap, other staples, do not lend themselves to and other not lend to themselves coal, burlap, staples, petroleum, exchange operations. reasons for this are inherent in the commodithis The reasons for are inherent in the exchange operations. ties themselves themselves or in the the conditions, as monopolistic ties controls by conditions, such as by monopolistic controls or under are or private cartels, which they are produced or governments cartels, they governments private produced or are readily distributed. In some commodities commodities which are readily adaptable to distributed. adaptable to exchange trading, many operators, producers, dealers, and converters, dealers, converters, exchange trading, many operators, producers, whose full full co-operation is essential essential to to successful successful exchange whose exchange operations, operations, co-operation is the development of the exchange, largely because because have been been opposed to of to the the exchange, largely development opposed of their lack of of the the long-term long-term advantages the exchange of the their lack of appreciation of advantages of exchange appreciation of understand their failure to the (to themselves to the public) and their failure to the and themselves to the (to public) valuable economic benefits benefits rendered rendered by by an exchange. Consequently valuable exchange. Consequently life of of many markets, markets, highly highly important important to the economic life there are many to the there are the nation nation and the the world, world, which do not not now (although they could) the (although they could) enjoy the benefits of a commodity others, also also are others, of a the benefits exchange. There are commodity exchange. enjoy not and cannot have exchanges because effectively organized, organized, which do not effectively exchanges because in the of defects defects inherent inherent in the commodities themselves. themselves. Finally, there are there are of Finally, where those which have developed exchange trading centers producers, those producers, developed exchange trading centers if they dealers, converters, and consumers consumers can, can, if they so insure themso choose, choose, insure dealers, converters, in their selves various market and credit their functions credit risks risks inherent in functions selves against against various and operations and can transfer these risks to others who are willing transfer these risks to others are willing operations able to to assume them. them. and able Organization of Markets Before Exchanges. Exchanges. In every Markets Before every staple staple comOrganization of modity, whether whether or not there there is exchange, there there is is a a physical or not is an exchange, modity, physical market in which there there will will be be found certain types of certain types of institutions, in institutions, associations, associations, agencies, each of perforills various various economic functions essenof which performs functions essenand agencies, tial to to these these markets. markets. tial are two main classes staple commodity there are physical classes of of physical For every commodity there every staple local markets markets: the the primary primary or or local markets and the the central markets. There are central markets. markets: are of primary hundreds or or even thousands thousands of primary markets markets in in some commodihundreds ties-such as as cotton, cotton, wheat, wheat, and other cereals. procereals. They in. all all protiessuch They develop develop in. the local rail ducing areas and center the local rail or water shipping points center around or shipping points ducing areas from which the forwarded to the large central markets is forwarded central the commodity to the markets commodity is large Kansas of world, such as as Chicago, Buffalo, Minneapolis, City, of the the world, Buffalo, Chicago, City, WinniMinneapolis, peg, and Buenos Aires Aires for grains, and New Orleans, for grains, Orleans, Galveston, Galveston, SavCl.nnah, Savannah, peg,

Historical Historical

Development of of Commodity Exchanges Development Commodity Exchanges

.

1~ i*

Houston, New York, York, Liverpool, Liverpool, Cairo, Houston, Cairo, Calcutta, Calcutta, and Rio de JaneirC1, Janeiro, for cotton. cotton. for During the Second World War many many nations nations disrupted trades these trades During the disrupted these and trade by "bulk purchases" purchases" of (wool, trade channels channels by of entire entire crops sugar, crops (wool, sugar, wheat, and so forth). Other nations nations adopted various restrictive devices so forth) various restrictive devices wheat, adopted to inflation. Since the war state many commoditie:. Since the in many state trading to control control inflation. commodities trading in as an has continued, either as emergency activity, with the avowed purpose either the has continued, emergency activity, purpose of preventing inflation, or as the normal function as the function of of a communistic of preventing inflation, or a state, as in in Russia Russia and eastern or of a socialistic state, in Engor eastern Europe, of socialistic as in state, as state, as Europe, England. government is is now the the sole buyer of sugar, British government land. The British sole buyer of sugar, cotton, cotton, wheat, for Great Britain, Africa it in West Africa it other commodities for Britain, and in wheat, and other is the sole of cocoa beans. The commodity exchanges have been of beans. cocoa is the sole exporter commodity exchanges exporter state trading banned in in all all those those countries in which state trading prevails prevails and fre(' countries in fre^ in physical markets have destroyed in those commodities. shall been markets have those commodities. shall We destroyed physical as they therefore they existed before the existed before the Second World describe conditions conditions as therefore describe in War and as as they are today in those markets which have not been prepreare those markets not they today state trading. empted by by state trading. empted in the Brokers. In each primary primary market, market, as well as large central mar, as well as in the large central marBrokers. all kets, there are individuals, partnerships, and corporations all of which of kets, there are individuals, partnerships, corporations the are organized organized to to act as agents agents for for the the purchase and sale of the commodit~, act as sale of are commodity purchase among of risk-bearing risk-bearing producers producers and local local merchant merchant the thousands thousands of among the or primary dealers constitute the the local local or primary markets, markets, as as well well as as among dealers who constitute among the hundreds hundreds of manufacturing converters up the the of dealers dealers and manufacturing converters who make up the large central markets. markets. central large These brokers brokers are are go-betweens go-betweens who offer or offer on behalf behalf of of producers producers or of dealers specific grades and quantities of commodities to other dealers to other dealers dealers quantities specific grades of each contract or to manufacturers; the consummation of a contract they earn a or to manufacturers; on the they earn fee or or brokerage. brokerage. They business with all all corners. comers. Their activity, as a a fee They do business activity, as rule, is to their their own local local or they central market, in which they or central is confined confined to market, in rule, operate primarily primarily by by telephone telephone or telegraph telegraph or by by personal upon calls upon personal calls operate in order to of the the spot lots which they customers to display display samples they have customers in samples of spot lots for sale. for sale. Brokers are experts in grades, grades, qualities, qualities, trade trade terms, terms, and contract contract terms, Brokers are terms, experts in in warehousing warehousing and transportation transportation problems. buy and as well well as as in as They buy problems. They sell of specific specific grades grades of the account account of a commodity for the sell specific commodity for specific quantities quantities of of others market, credit, transportation, and other risks. all market, other risks. others who assume all of credit, transportation, In the primary primary markets markets they they do business business for their customers for their customers not only In the only for immediate delivery, but in spot 'merchandise, ready for they also make in spot also merchandise, ready delivery, they at definite definite negotiated negotiated prices prices for the contracts sales for forward delivery, contracts for for sales at delivery, the which call for delivery of definite quantities of specific grades, known as definite quantities as call for delivery of specific grades, in trade. standard grades grades and commonly accepted as such in each trade. as standard commonly accepted Commission Agents. Agents. In each each primary primary and central incentral market other other in.

14

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

or corporations dividuals, partnerships, partnerships, or to act buying act as are organized as buying dividuals, organized to corporations are or selling producers and dealers, manufacturers who convert of producers or manufacturers convert or dealers, or selling agents agents of

into consumer goods. long as the commodity commodity into the brokers, so long as they the brokers, so goods. Like the they within the laws of agency, they do not assume market, operate within the laws of not credit, market, credit, agency, they operate or risks. They They also fee or for a fee also work for or commission, is fixed or other other risks. fixed commission, which is by contract with their principals and is based upon the volume of business their based the with is of business contract by principals upon they transact. transact. they Dealers. In In every primary market market-as well as Dealers. as in in the the central central markets markets as well every primary of the world world-for practically every every staple commodity, the of the for practically the merchant staple commodity, dealer in has been been for to aa great in commodities for centuries, commodities has in dealer extent in centuries, and, and, to great extent most markets markets still continues to to be, be, the the great still continues of the risk bearer bearer of the physical great risk physical dealers are the backbone or are the markets. These dealers or the the wheelhorses wheelhorses of of the markets. the markets where commodities commodities are are bought bought and sold for spot sold either either for or spot (immediate) (immediate) 01' in number as as compared for They are are relatively relatively few in with for forward delivery. delivery. They compared with of producers the hundreds hundreds or thousands of of converters converters and the the millions millions of producers or thousands the in the in the various various trades. trades. act as Dealers as principals, principals, buying buying and selling Dealers act at their their selling commodities at a risk merely for own risk for a chance of a profit. By selling to them, the producers of to the them, merely producers profit. By selling of all or miners of all commoditieswhether commodities-whether farmers farmers or miners or ranchers-can or cattle cattle rancherscan shift of the the risks risks of loss which nature nature and their their occupations impose shift some of of loss occupations impose upon them; by buying such dealers, the converting manufacturers from such the manufacturers them; dealers, by buying converting upon can transfer to them certain certain of of their their hazards. hazards. transfer to Risk-Bearing. Throughout the entire entire history history of the economic life life of the Throughout the Risk-Bearing. of man runs runs the the never-ending never-ending story of his struggle to eliminate or miniof of his to eliminate or ministory struggle possible, the the many many and varied varied risks risks to to which he is mize, when possible, is subjected mize, subjected nature. civilization has developed, ways and means have been by civilization has As nature. have been by developed, ways devised for for protection protection against certain kinds of hazards by transferring certain kinds of hazards devised against by transferring them from those those who do not not want to to assume them to to those willthose who are are willing and able able to types of risks are being to do so. so. Slowly, of risks are being Slowly, more and more types ing so that their burden brought control so that their may be shifted, desired. control be under when desired. shifted, may brought Insurance against the the risks risks of of marine casualties-loss casualties loss of of or or damage Insurance against to damage to at first developed ships cargoes at sea-was first developed on a highly organized and sea and was cargoes highly organized ships efficient scale; in time, time, its use became so widespread as permit marine marine so widespread to permit its use as to efficient scale; in cover practically insurance at at more or rates to to cover every hazard hazard or less less nominal rates insurance practically every of transportation by land, sea, air. In turn came various forms of and air. of various forms of sea, land, transportation by life called fire highly organized protections called fire and life insurance. Still insurance. Still more highly organized protections of casualty slowly developed other forms of casualty insurance-protection other forms insurance protection against slowly developed against hurricane, tornado, theft, burglary, and embezzlements, embezzlements, and, and, later, later, against theft, burglary, tornado, against hurricane, and other other risks risks from the the elements. elements. In time, many types types of growing out of hazards, insurance against out of of war, time, insurance hazards, growing war, against many evolved. laws, requiring protection evolved. Then came workmen's compensation compensation laws, requiring protection against the hazards hazards of of industrial accidents, and, legislation industrial accidents, social legislation and, finally, finally, social against the

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Development of of Commodity Exchanges Commodity Exchanges Development

15 15

in the of old health, and unemployment unemployment insurance, imposed old age, in the form o insurance, imposed age, health, the federal federal government. government. Efforts Efforts more recently recently have by the the states states and the by been made to to develop develop crop insurance against risks of boIl weevils, been of drought, weevils, crop insurance against risks drought, boll grasshoppers, beetles, the like. Credit insurance in the retail trades and the like. Credit in retail trades the insurance grasshoppers, beetles, in certain is now extensively extensively carried carried in is in a a limited limited manner is is certain lines lines and in possible in certain staple and wholesale trades. Certain paternalistic in Certain certain trades. wholesale paternalistic possible staple the years years between between the the two world wars governments in in the credit wars even offered offered credit governments insurance to their exporters to expand a subsidy as a their foreign trade. insurance to their subsidy to exporters as expand their foreign trade. Insurance of risks, however, however, in in whatever whatever form, the transtransof risks, the Insurance is merely form, is merely another from one who desires party to to another-from to be be ference of a risk risk from one party ference of desires to it to is willing and able it. to another who is freed from it to assume it. freed able to willing Risks of Commodity Dealers. risk bearers of the physical Dealers. The risk Risks bearers of the of Commodity physical markets and risks the producer, the converter, the dealer. They assume the are the dealer. the risks the are the producer, converter, They profession when they they voluntarily voluntarily become farmers growers of their or sheep of their profession farmers or sheep growers in the the world. of the or mill, mill, factory, factory, or mine operators operators or the products products of world. or or dealers dealers in The producer, producer, the the dealer, dealer, and the the consuming converter, as a rule, carry a consuming converter, as rule, carry insurance protection with with the the established established fire fire insurance insurance protection insurance companies; companies; when their commodities their commodities are are in in transit transit from one point point to to another, another, they they can insure against the transportation hazards through through of the insure against most of storage hazards transportation and storage the casualty companies. the regular regular casualty companies. be developed developed later, the commodity commodity exchange itself is intricate is an intricate As will will be later, the exchange itself insurance permit the the transfer transfer of market and credit to permit insurance device device to risks of certain certain market credit risks by those desire to so. Operators in commodity markets cannot desire in to do so. markets those who commodity by Operators obtain through the regular regular insurance insurance against the insurance companies obtain against the companies insurance through the risks adverse market fluctuations of adverse fluctuations or credit losses. risks risks of or credit losses. The farmer risks in the possibility of of aa sharp decline in the price of or cotton between decline the of the possibility wheat or cotton sharp price the time of of planting planting and sale of his his crop. flour miller, sale of the time sells miller, who sells crop. The flour flour to the bakery bakery trade, trade, runs runs the the risk risk of rise in price of of a flour to the a sharp in the of the price sharp rise between the the time time of of the the sale for forward forward delivery of the the flour flour for wheat between sale of delivery the time time when he must buy buy and grind produce the the and the the grain to produce grind the grain to flour. Losses to market market fluctuationslosses fluctuations-losses to to which all flour. Losses due to all commodities commodities are necessarily subjected subjected both by by their their nature nature and by the operation of the are necessarily by operation of the laws laws of demand, except in totalitarian or socialistic and in totalitarian the of supply or socialistic demand, except supply fixed and countries where free free markets markets are are outlawed outlawed and prices countries are fixed prices are in enforced arbitrarily arbitrarily by by governments-in the aggl\ g:llc each year are are enforced the ni^n^ilc governments year normal many, many times the losses resulting annually from the more the losses times the resulting annually many, many spectacJllar fire, marine, and similar casualties. similar casualties. marine, fire, spectacular commodity markets markets of of the the world, world, both both before before as The commodity as well as after after well as the for of the exchange, have for centuries attempted the development of have centuries attempted to to the development exchange, means the and of develop ways of minimizing the various risks inherent in the various in the risks inherent minimizing develop ways trades. The development the dealer dealer-the bethe risk-bearing of the trades. development of risk-bearing middleman between the producer and the converter and between the latter and the the converter the producer the latter the

16 i6

Commodity Exchanges and Futures Trading and Futures Commodity Exchanges Trading

ultimate consumer consumer-was primarily designed designed to the producer producer and was primarily to permit ultimate permit the converter, they chose to do so, to transfer transfer at chose to at least least some of of their their converter, when they so, to market risks risks to to the the dealer, even as as they they transfer to the the transfer certain market certain others others to dealer, even regular insurance companies, are scientific risk-bearers, just as which insurance are scientific risk-bearers, just as companies, regular aa commodity commodity dealer is aa calculated risk-bearer. Both for calculated risk-bearer. dealer is a consideration consideration for a which voluntarily assume risks others are eager to transfer to risks to them. others are to transfer them. voluntarily eager Both perform perform essential valuable economic functions directly essential and valuable functions which directly in the the lowering lowering of of the the costs result in of production, result costs of disconversion, and disproduction, conversion, tribution of of the economic goods goods of the world. world. The commodity dealer the economic of the tribution dealer commodity absorbs both market and credit credit risks risks which he, the mere chance for the absorbs both chance (not he, for (not assurance) of of aa profit, profit, voluntarily voluntarily assumes and to an assurance) that extent frees to that extent frees the producer or the manufacturer manufacturer from those those hazards. hazards. or the the producer in Kansas, The Market Risk Risk of of the the Dealer. Dealer. F, F, whether a wheat farmer in Kansas, in Brazil, or a a coffee coffee grower grower in Brazil, or a sugar is ready in Cuba, Cuba, when he is sugar planter ready planter in prepare for for his his new crop, to prepare to the quantity, accurately the fairly accurately crop, can determine fairly quantity, new quality, and cost of his crop. Through various brokers, trade cost various of his brokers, agents, quality, crop. Through agents, trade associations, co-operatives, governmental agencies obtain associations, agencies he can obtain co-operatives, and governmental at which his reliable reports reports of the current prices at his product product is of the current prices is selling in reliable selling in for delivery the central trading trading centers centers of of the the world for on the physical the central the delivery physical or as eighteen in the the or the the exchange markets as as much as or more in exchange markets eighteen months or in future. F does not need to to wait wait until until his has matured in order to his crop does not has order to future. crop He may find that at planting time can sell at least a portion of sell. find time he at least a sell sell. that at planting may portion of

his his

any central world market at price which in any at a a price for delivery central world new crop delivery in crop for reasonable profit. By doing so, he avoids the him aa fair fair and reasonable he avoids the so, profit. By doing in price. risk of adverse decline price. Otherwise, he is speculator on the the a speculator is a decline in of an adverse risk Otherwise, he future price price of the commodity. commodity. of the future in order On the the physical physical markets, markets, however, however, in to make his order to his contracts contracts for forward delivery, delivery, F must estimate estimate (with various casualfor various casualfor forward (with allowance for of his the offer ties) both the quantity the quality of his crop and offer definite quandefinite and both the quality crop quanties) quantity dealer or tities specific grades grades for sale to to some specific dealer or factory through for sale tities and specific specific factory through in the some broker broker or commission agent the primary primary or markets. He or central central markets. or commission agent in sell to may sell to a local dealer is to him, or he may to a is known to dealer who or a local to sell him, may sell may mill in merchant in a central or to a mill or factory in some distant market or to distant a central merchant in factory country. In doing so, he has limited his market risks, has assumed has limited his he In risks, but has so, doing country. may not not produce produce the the exact exact quantity or quality others. He may which has he has others. quantity quality he be the dealer or mill, to has sold, may bankrupt sold. Also to whom at or sold. Also the dealer sold, may mill, bankrupt at seller to to a credit credit risk. If F the time for delivery, delivery, thereby thereby subjecting the seller risk. If time for the subjecting the the value he assumes assumes the the risk risk of of changes in the value of foreign sells abroad, he cursells abroad, changes foreign curthat risk to rencies, unless unless he he can shift else. shift that risk to someone else. rencies, will Consequently, the to sell sell to to a local local dealer producer will usually prefer dealer the usually prefer to producer Consequently, or in the markets of of his his own country_ By doing so, he can central markets the central to one one in or to country. By doing so, in a avoid risks incident to selling he can reduce reduce incident to the risks avoid the selling in a foreign foreign country, country, he will assure will assure

Historical Historical

Development of Exchanges of Commodity Development Commodity Exchanges

17 17

or eliminate his his transportation transportation risks, risks, and he can more readily readily check the check the or eliminate if the credit of the local or domestic dealer, who also, the producer's producer's crop domestic dealer, local or of the credit also, if crop is inferior the specific grades he sold, will be willing to accept be to will more he is inferior to to the sold, willing accept specific grades dealer quality (at a discount) discount) than than will aa lower lower quality distant or foreign will a distant foreign dealer (at a or factory. or factory. These factors factors explain why each each physical physical market has has its its risk-bearing risk-bearing explain why in merchant dealers, those in the local markets buying from the producer those the the local merchant dealers, buying producer and selling to dealers dealers in in the the large central domestic markets. domestic and foreign large central foreign markets. selling to the other other hand, hand, the the mills mills and factories, the raw convert the On the factories, which convert in in the central markets rather material, will prefer to buy dealers to from dealers central rather will markets the material, buy prefer than from dealers producer in in the the primary primary markets. markets. M, M, whether aa or producer dealers or than in York, or a tire manufacturer in Akron, prefers to to in in sugar refiner New or manufacturer refiner tire York, Akron, sugar prefers buy his sugar or rubber from a dealer or importer in the central market or rubber a in central or the his dealer sugar buy importer or local dealer or rather than from a domestic farmer or export dealer or local dealer dealer or or an export rather in the in or East. able the planter in Cuba or the Far East. Although he may be able to buy in the to Although may buy planter that is is not often is unwillprimary market somewhat cheaper cheaper-that unwilloften the the case-he case he is primary case of of a rising ing to to assume the the risk risk of of non-shipment non-shipment in in case the rising market and the ing in necessity of a lawsuit in a foreign country or distant state. He also runs a a lawsuit or state. also of distant runs foreign country necessity the risk risk of of shipments of inferior inferior quality. quality. As aa consequence, the great the consequence, the great shipments of bulk of of the physical trade trade in in staple staple commodities flows producers the physical flows from producers bulk to local local dealers dealers in in the the primary primary markets. markets. They in turn turn sell sell to to dealers dealers to They in and latter in in the central export markets, the latter in due course sell to and the sell to in central course the export markets, in the foreign markets markets or or to to mills their domestic dealers in in their mills and factories factories in the foreign domestic dealers markets. This This is is particularly particularly true true when, when, as it is is often often the as is the case, markets. is the the case, it for trade or local custom for dealers always to pay cash on delivery of the dealers cash to local custom trade or always pay delivery of the merchandise receipt of of shipping shipping documents representing representing it, whereas or on receipt merchandise or it, whereas mills and factories frequently require require credit terms. credit terms. mills factories frequently Credit Risks of Dealers. As aa rule, rule, dealers letters dealers either either furnish furnish bank letters Credit Risks of Dealers. of credit to to their their suppliers pay cash on delivery, time at the or pay the same time of credit delivery, and at suppliers or credit extend 30-, 60-, or gO-day credit to their buyers, the convertthey often their or to extend often the convert30-, 60-, 90-day buyers, they ing mills mills and factories, may become insolvent may default insolvent and may default on factories, which may ing payment before before or delivery. Thus dealers perform aa valuable or after after delivery. dealers perform valuable credit credit payment or banking banking function. function. or In addition, the central central market dealer buys for dealer buys for forward In forward delivery addition, when the delivery a primary primary market dealer to aa mill, from aa producer producer or or from a dealer and sells sells to from he mill, he risks the possibility possibility of non-shipment or or default the seller and the necesof non-shipment default by the seller risks the the necesby of having having to to replace replace the the shipment shipment to to the mill at higher price price than than sity the mill at a a higher sity of that which he he had originally originally bought. bought. He also runs the risk, on falling also runs the risk, at which that at falling markets, of having to to pay pay for for his his own purchases price, even at contract of having contract price, even markets, purchases at though, tenders delivery delivery to to his his buyer, buyer, he may may find find that, in the the that, in though, when he tenders months between between the the date of of the the sale sale and date of the mill buyer of delivery, mill the delivery, buyer for the has insolvent and is is unable to to pay pay for the merchandise, thereby has become insolvent merchandise, thereby

18 i8

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

forcing to resell resell on aa lower lower market at heavy loss. the at a heavy the dealer dealer to loss. Again, forcing the Again, the after delivery but before before payment. payment. mill may may fail fail after mill delivery but The dealer Other Risks Risks of Dealers. dealer assumes many other Dealers. other risks. risks. He may of many may a buy a specific grade of a commodity from a distant dealer or producer of distant dealer a or producer commodity buy specific grade inferior grade grade which the who may may deliver deliver an inferior the dealer dealer cannot deliver deliver to to his buyer. buyer. his to survive, may be forced by competition to Frequently, in order order to forced by survive, he may Frequently, in competition to convert "shipment (which are are fulfilled, if shipment is contracts" (which convert fulfilled, if "shipment contracts" shipment is made in the during the specified in the contract) into "arrival contracts" into "arrival the month contracts" specified contract) during require delivery during the of arrival, whether or (which the month of or not not the the arrival, (which require delivery during in ship carrying the merchandise sinks in transit). In other words, a candy merchandise sinks other a the words, transit) candy ship carrying in Cleveland Cleveland wants wants delivery delivery of purchased cocoa in, say, factory of purchased cocoa beans in, factory in say, April, and it contracts with the the dealer dealer for for April "arrival." The dealer dealer it contracts April "arriva1." April, in April, April, even though though to to do so so requires must deliver deliver in the requires rebuying rebuying on the all cocoa beans domestic at a heavy heavy loss loss all beans which he has has sold sold under domestic market at "arrival" terms, and even though the the ship the cocoa, even though "arrival" terms, he cocoa, which he carrying the ship carrying in transit had bought bought for has sunk in transit or with the the beans or arrives arrives with for "shipment," beans "shipment," has for delivery in a seriously damaged condition, condition, unfit unfit for his sales sales contract. contract. in a delivery on his seriously damaged In spite of the fact that he may be insured for the value of the beans be insured for the of fact that he value the beans at at the In spite of the the may Africa have or to a time of Africa or Brazil, he may to replace it on a it from of shipment time Brazil, may replace shipment higher market market for for delivery delivery on his sales contracts. contracts. his sales much higher in one market and sells Furthermore, the dealer buys in dealer buys in another, sells in Furthermore, when the another, he absorbs all transportation and other other casualty risks. may try to to risks. all transportation He he absorbs casualty may try transfer some of of these these risks risks to to his his seller or to his buyer, but trade comto his seller or trade transfer buyer, petition usually usually forces forces him to to absorb himself. He does, however, absorb them himself. does, however, petition himself with the greatest extent possible, insure insure himself the fire, marine, and to the extent possible, the greatest to fire, marine, other casualty companies, but but frequently unable to the is unable to cover all the cover all other frequently he is casualty companies, in the the course many varied hazards hazards which may may arise arise in course of of transshipment transshipment many and varied in from distant points or storage in a warehouse. warehouse. or during distant points from during storage Finally, the the dealer serves another useful economic function-that of another useful function that of dealer serves Finally, accumulation by by purchase purchase of of small small parcels parcels from many many small producers small producers accumulation lots to or local dealers dealers and of resale in in large lots to large buyers-as well as the as well as the of resale or local large large buyers dealers or reverse-purchase of large parcels from large dealers or producers and sale of sale reverse purchase large large parcels producers in small parcels to to many many small small converters. converters. in small parcels All these these risks, risks, assumed by by the the dealers, are essentially All dealers, are essentially speculative speculative hazards which they they voluntarily voluntarily assume merely merely for chance of for a a chance of earning a hazards earning a or decline to profit profit on the the rise rise or prices; sometimes profit. They hope to decline of of prices; profit. They hope in of merchandise in anticipation of a rise in the price, they are "long" in the of merchandise of rise at are anticipation they "long" price, at the other times they are "short" of the merchandise in expectation of declinof are "short" merchandise in of declinother times they expectation of various ing prices. Yet, by the assumption of various risks would otherwise the risks which otherwise Yet, assumption by ing prices. upon producers producers or or converters, thereby increasing the fall upon their costs, fall converters, thereby costs, the increasing their of the ultimate ultimate costs costs of production production and distribution dealers reduce the distribution and aid dealers reduce aid .

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19 19

in of living in raising the standards of by dealers of the world. Speculation the world. dealers raising the living of Speculation by serves the serves the same economic and social that the the insurance insurance comsocial functions functions that

panies serve, but with with an essential difference. The insurance essential difference. insurance companies, serve, but panies companies, of on the the law of averages and calculated risks based large by working calculated risks based on large by working averages the relatively relatively small small incidence risks, can of aa numbers and the incidence of of risks, can be be assured assured of or return return on their their investments, whereas the speculative reasonable profit profit or the whereas investments, speculative dealer is forced to to operate chance dealer is forced a much narrower base a chance for only base and for operate on a only a (not reasonable assurance) profit. His turns solely of profit. or loss loss turns His profit (not even a reasonable assurance) of profit or solely on his his ability to forecast the price trend-the rise or fall in commodity forecast to the trend the or fall in rise ability commodity price prices. prices. in all all commodity the development of There was aa time in before the trades, before commodity trades, development of and the telegraph cable the cable and, recently, the radio and the transconmore the radio the transconand, recently, telegraph in commodities tinental and transoceanic transoceanic telephone, telephone, when aa dealer tinental dealer in commodities could could of his annual turnmake profit on at a reasonable at least least a a fair iDake a reasonable profit fair percentage of turnhis percentage in exchange exchange for for the the many many services he rendered, without over merely merely in over semices which he without rendered, the of certain the acceptance acceptance of certain risks risks-especially risks. He could could accumuespecially market risks. small parcels late parcels at at prices prices slightly below his own level and sell late small market level below his sell slightly in them simultaneously in larger lots (and vice versa) at a profit sufficient vice at a lots sufficient simultaneously larger (and versa) profit to justify justify his his services, risks. He could receive to receive services, without assuming assuming market risks. cable offers overnight by telegraph, telephone, or cable from primary markets, offers markets, overnight by telegraph, telephone, primary reasonable profit profit for for his his non-market non-market risk the a reasonable sell the add a risk services, services, and sell merchandise before the close of the business day without speculation. merchandise before the close of the business day without speculation. In other there was was aa dealers' dealers' legitimate legitimate spread between prices prices in the in the other words, words, there spread between primary and central market. market. central primary with the of the the trans-ocean trans-ocean telephone the broadcasting broadcasting But, with the coming But, coming of telephone and the radio of prices throughout the world daily and hourly to all by all markets, the world radio of to markets, daily hourly by prices throughout in all all markets and with intensification of of competition competition in markets as a direct direct the intensification as a with the in practically all markets. result, this has disappeared disappeared in practically all markets. The this dealers' dealers' spread result, spread has effect, without doubt, is is to to increase the price to producers or to reduce the to increase the or to without doubt, reduce the effect, price producers cost to consumers consumers at at the the expense of the risk-bearing dealers who were of the cost to dealers risk-bearing expense in their to become more and more speculative speculative in forced to their operations. forced operations. Markets Major Defect in the Physical Which Operate Exin the Deject Major Physical Operate without Exin changes. major defect in commodity markets operate withwhich defect withThe commodity operate major changes. that there out the the benefit benefit of of exchange there is is not not aa sufficiently services is is that out sufficiently large exchange services large risk-bearing dealers a sufficiently large amount of risk or a risk number of of risk-bearing dealers or of sufficiently large the the dealers to give the stability, the liquidity, and the capital among dealers to the the the stability, give liquidity, capital among assured continuity of markets which are to satisfy producers' are essential essential to the producers' of markets assured continuity satisfy the and consumers' to transfer transfer their their speculative risks to those risks to desires to more consumers' desires those speculative willing able to absorb them. them. and to able willing Services in The Growing Exchange Services All Commodity Markets. in All Growing Need For Exchange Commodity Markets. It is is chiefly chiefly because because for for many many decades decades there scarcity of there was a growing It growing scarcity of too and a small number of risk capital in dealers' too small a of risk-bearing hands in dealers' risk capital risk-bearing

20 so

Commodity Exchanges and and Futures Futures Trading Commodity Exchanges Trading

dealers in in the the constantly constantly expanding expanding commodity markets that these very very that these dealers commodity markets dealers themselves, themselves, in in co-operation with the brokers, commission agents, the with dealers brokers, agents, co-operation of and organized at last last conceived conceived of the commodity exand converters, converters, at organized the commodity exthe work change. Their purpose was to supplement the of the middlemenwas to of middlemen Their the supplement change. purpose the dealers dealers-and assure the the entry into these these trades trades of of larger funds and assure the entry into larger capital capital funds a larger professional risk-bearers risk-bearers or well as to of professional or insurers, as well and a as to insurers, as larger number of perform functions the dealers could never perform. This new which functions the dealers could never new This perform perform. and large-scale large-scale capital could only only be be induced to these trades through to enter enter these trades through capital could a new institution institution-the exchange-which is essentially an insurthe commodity a which insuris commodity exchange essentially operation of which we shall shortly ance the organization and of shall the ance device, device, shortly organization operation undertake to to analyze. analyze. It It will will then then be be clearly that not not only seen that the undertake does the only does clearly seen exchange increase greatly the possibilities of shifting speculative and the of increase exchange greatly possibilities shifting speculative other risks which the dealers stood ready to to the of their their other risks the dealers stood ready extent of to assume to the extent but it ability, but it also possible the shifting of additional risks against the also makes of additional risks ability, shifting possible against the dealers which the dealers could could never never protect protect the producer or the producer or converter. converter. study of of organized markets, as they Before closing closing our study as they Before organized commodity commodity markets, of or still operated before the development of exchanges or as they still operate in before the as exchanges they development operate in operated in other many trades, trades, which do not not in in some cases other instances instances cases and cannot in many have the the benefit benefit of of the the services of an exchange, it is advisable to examine it to is services of advisable exchange, in and are briefly the organizations which function are common to to the trade trade organizations function in briefly each physical physical trade. trade. It must must be be clearly clearly understood understood that that in instance has has the It in no instance the exchange exchange market replaced replaced the the physical physical markets markets or major degree infringed in any market or in any major degree infringed upon their their functions jurisdictions. Rather, the exchange market is functions and jurisdictions. is Rather, the exchange market upon an auxiliary auxiliary to physical markets, markets, as a new device-essentially to the the older older physical as a device essentially an insurance of the the growing needs of the old markets out of device evolved out needs of the old markets insurance device-evolved growing functions which the the old old markets markets did never and serving did not and could could never serving functions In other words, the older physical markets developed the perform alone. the older In markets alone. other words, physical perform developed the their exchange markets to supplement their activities and them more to markets activities make exchange supplement of the servants of the public public interest. effective interest. effective and efficient efficient servants addition to Producers' Associations. Associations. In In addition to producers, Producers' commisbrokers, commisproducers, brokers, sion merchant dealers, manufacturing converters, there are sion agents, are dealers, and manufacturing converters, there agents, merchant in each commodity trade trade important organizations, the structure, methods in the each commodity methods structure, important organizations, of operation, of which are to these In every are vital vital to of markets. In functions of these markets. operation, and functions every is voluntary association of producers. There are commodity field there of is a voluntary association field there There are commodity producers. in many of these in each commodity trade and in each country, organized in trade each of these commodity country, organized many national interests the proproto represent represent the territorial, regional, regional, or to or national interests of of the the territorial, ducers. In In rubber, rubber, for for instance, instance, there there are are producers' associations in various associations in ducers. various producers' the Dutch East states-British Malaya, Ceylon, Ceylon, Indo-China, Indo-China, Brazil, Brazil, and the states British Malaya, East Indies. Their membership membership is is limited, the small-scale in some instances, to the Indies. small-scale instances, to limited, in native producers, in to large large foreign-owned in others others to native producers, foreign-owned plantations. plantations. The

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21 21

in turn regional, sectional, or state state associations associations in turn are are members of of a state state sectional, or regional, national association of producers, producers, and these may be loosely be association of these again and national again may loosely rubber producers' producers' association. organized association. international rubber into an international organized into in all all comobjectives or these producers' producers' associations or functions of these associations in functions of The objectives modity trades are primarily to increase the bargaining powers are to the of their their trades increase bargaining powers of modity primarily respective through collective collective action. action. Such collective action does does collective action respective members through not relate relate to to the the commercial commercial transactions transactions of in the the trade, their members in of their not trade, but is is mobilized mobilized in in connection connection with their their negotiations negotiations with similar assosimilar associations brokers, dealers, dealers, commisson agents, manufacturing conconciations of of brokers, agents, and manufacturing their respect to to trade trade problems, as well as with their verters of their their products products in in respect as well verters of as problems, in group" activities before local, state, colonial, "pressure activities before national, and, and, in local, state, colonial, national, "pressure group" more recent recent years, years, international international legislative or administrative bodies. They bodies. or administrative They legislative their large exercise political political pressure, pressure, through through their widespread memberexercise large and widespread action prejudicial or to to secure secure ship, to prevent prevent action prejudicial to to the the producers' producers' interest interest or ship, to special privileges for such producers producers in in the the form of for such of governmental subgovernmental subspecial privileges price-fixing schemes sidies, programs for restriction of of production, production, and price-fixing for restriction sidies, programs on both both aa national national and international international scale. scale. in the Organizations of producers, producers, similar similar to to those those in the rubber trades, trades, are are Organizations of in all staple commodity fields in in all fields-in wheat in the United States, found in the United States, staple commodity in cotton Canada, Australia and the the' Argentine; Argentine; in in the United States, cotton in the United Canada, Australia States, in coffee in Brazil, Brazil, Peru, Peru, India, India, Egypt, Egypt, and China; China; in Brazil, the coffee in Central the Central Brazil, American states, the Dutch East East Indies; in sugar in Cuba, American the Dutch Indies; in states, and the Cuba, the sugar in East Indies, the the Philippines, Philippines, and Hawaii. Hawaii. East Indies, The rubber rubber producers' producers' associations associations were responsible two disasfor two disasresponsible for first of trous rubber rubber restriction restriction schemes. schemes. The first between of these these was operated trous operated between of the 1922 the auspices of the British government its British 1928 under the 1922 and 1928 auspices government and its it was limited; the second, in the 1930's included colonies, to which in it was the the 1930's included limited; second, colonies, to other producing nations, nations, with with almost almost 98 cent of the world of 98 per cent other producing the world rubber rubber per production in that period incorporated into the scheme. into in that the scheme. period incorporated production producers' associations Brazil were were responsible responsible for associations of of Brazil The coffee coffee producers' the for the ill-fated coffee valorization schemes which have been been operated almost coffee valorization ill-fated almost operated continuously by the the several several Brazilian Brazilian coffee-producing since 1907 1907 by states continuously since coffee-producing states or by by the culminated in the International Coffee in and culminated the federal government or the federal International Coffee government at the the end of the Second World War. Agreement expired at of the Agreement (1940) (1940) which expired wheat producers' producers' associations responsible for the associations of of Canada were responsible The wheat for the of the the co-operatives (in the huge speculative pool operations of wheat the huge speculative pool operations co-operatives (in western provinces) provinces) which became bankrupt bankrupt through Canadian western through speculaspeculain turn turn bankrupted bankrupted the the governments governments of which tion and in of the tion the provinces provinces which went to to the relief of of the the co-operatives. co-operatives. The provinces provinces finally rescued the relief went were rescued finally were at Dominion government at heavy losses to the treasury by the losses to the the Dominion government heavy by treasury its taxpayers. and its taxpayers.

22

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

Producers' associations were were also also responsible responsible for for a a similar similar restriction restriction Producers' associations scheme for for sugar for the various subsidy restriction in Cuba and for the various subsidy and restriction sugar in for in the United States for cotton, wheat, corn, sugar, tobacco, programs in States the United corn, wheat, cotton, sugar, tobacco, programs under other farm products the Agricultural Adjustment the and many other Acts Agricultural Adjustment Acts many products later legislation. of 1933-1939 of 1933-1939 and later legislation. All these schemes give the the producers producers certain beneAll these schemes give certain definite definite short-term short-term benein fits, but in the long they have proved disastrous in that they foster run in disastrous that foster but have the fits, they long proved they increases in production production in in uncontrolled uncontrolled and often often new virgin increases in areas, virgin areas, of the uses of substitutes and synthetics, of of stimulate the development stimulate the the uses substitutes development synthetics, of reclaimed the use use of reclaimed materials, materials, and, without encourage the almost without and, finally, encourage finally, almost of economic forces, exception, collapse collapse under persistent persistent pressures pressures of with forces, with exception, the that the the result result that the prices prices of of the the controlled controlled commodities are are driven driven (as (as in many in many past past incidents) to levels levels lower lower than ever ever before in recorded before in recorded incidents) to history or or that that state state trading trading is is substituted substituted for for the the collapsed schemes. history collapsed schemes. fact The worst worst feature of such such control beyond the feature of control schemes, the obvious fact schemes, beyond that they tend tend to to destroy free markets and attempt to substitute arbitrary, that they free markets to substitute arbitrary, destroy attempt dictated prices dictated prices for for free free prices prices established by free merchants on free free merchants free marestablished by in many is that that in many instances, instances, again again under pressure pressure of producers seeking seeking kets, of producers kets, is perpetuate war-time or emergency controls, they have evolved to to perpetuate or emergency controls, they evolved into into state permanent state trading -all buying and selling is done by a totaliwhere all totaliis trading permanent selling by buying tarian arbitrarily fixed trading is at arbitrarily State trading tarian or fixed prices. or socialistic socialistic state state at is now prices. State quite common and has been adopted, as a matter of permanent policy, of has quite adopted, as a matter permanent policy, for cotton wheat in in England, England, cocoa Africa, wheat, wheat, in British for cotton and wheat British Africa, cocoa beans beans in if not hides, in Argentina, Argentina, and so trend, if not suspended so on. skins in on. This trend, hides, and skins suspended and reversed, in time time may may well well mean the the end of in of the the capitalistic reversed, in system in capitalistic system all countries which indulge indulge in in such such state trading and may may even jeopardize jeopardize all countries state trading that in free countries. in that system free countries. system the producers* producers' associations are more construcof the The other other functions functions of associations are construcThey represent represent their their members in negotiations with other tive. They tive. in all all negotiations trade other trade organizations, both at and abroad, in establishing certain services in at both home certain services abroad, establishing organizations, beneficial to to all all elements elements in in the trade. They are beneficial the trade. which are collect, assimilate, assimilate, They collect, exchange with other associations government agencies, distribute and and other associations distribute with exchange government agencies, to their own members vital vital trade trade and crop statistics and other data essenstatistics other essento their crop tial to all all who operate operate in each trade. trade. in each tial to producers' associations associations also co-operate with with other The producers' also co-operate trade organizaother trade organizain establishing and revising rules and regulations in each market tions in in rules tions establishing revising regulations in regard to to ethical ethical conduct of the trade, of the in regard standardization of of trade trade and trade, standardization contract terms, standardization grades and qualities, arbitration of standardization of of grades contract terms, arbitration of qualities, of the disputes arising out of the standard contracts of the trade, and establishout standard of contracts the establishtrade, disputes arising ment of clearing methods to to expedite expedite and reduce reduce the the costs of clearing costs of of deliveries deliveries of merchandise and collections collections of payments under trade trade contracts. of payments contracts. of merchandise These last last functions, however, are are primarily the dealer dealer functions, however, by the primarily performed performed by

Historical Historical

Development Development

of of

Commodity Exchanges Commodity Exchanges

23 23

trade trade associations associations in in each primary primary and central central market; in order order market; but, but, in that they they may may be successfully successfully performed, perfonned, there that full and conthere must be full con-

tinuing among the the various various organizations at the the several several tinuing co-operation organizations at co-operation among levels of trade. levels of the the trade. Dealers' Trade Associations. Associations. In every every primary primary as well as Dealers' as well as every central every central a trade market in in each commodity commodity trade trade there there is such as is a trade association, as association, such the Cotton Cotton Dealers' Association of of New Orleans, the Green Coffee Assothe Dealers' Association the Coffee AssoOrleans, ciation of New York City, City, and the the Rubber Trade Association ciation of Association of of New York. Sometimes the the brokers brokers and commission agents organize their own York. their agents organize in each market, association in market, but more frequently they constitute merely association constitute frequently they merely a a division the trade trade association, association, such such as the Rubber Trade Association Association division of of the as the of New York, York, which includes includes these these agencies agencies as well as of the dealers. as well as the dealers. Establishment of of Self-Regulation Self-Regulation by Dealers' Trade Associations. Establishment Dealers' Associations. by Members of these associations, in addition to being addition to to common of these associations, in being subjected subjected to federal statutes, pertinent to to their law and state state and federal their trades, are bound statutes, pertinent trades, are by the ru·les and regulations established by their associations the for the by the rubles regulations established by their associations for ethical and orderly orderly conduct conduct of of their their business. regulations are are ethical business. These regulations the developed by the themselves, acting according to their conmembers to their conthemselves, acting according developed by all present stitution or by-laws, by-laws, and are are thereafter thereafter binding present and subsubstitution or binding on all the sequent of the association and on all other buyers and sellers members of association all other sellers buyers sequent in voluntarily contract contract to by such rules. rules. The rules rules are to abide in the abide by the trade trade who voluntarily are enforced under penalty of suspension or expulsion from the associaor the associaenforced penalty of suspension expulsion tion-which usually usually means the the end of of the the violators' violators' activities in the the trade. trade. activities in tionwhich These codes codes are never static, static, but are to change as new techniques are subject to as are never change subject techniques is being being constantly improved develop. The "law merchant" is revised and improved constantly revised develop. so similar as those of codes are similar to are so to those the exchange as conditions conditions demand. The codes of the exchange markets that not consider consider them here. here. They will be discussed will in that we need not discussed in markets They more detail detail under exchange exchange operations. operations. Arbitration of of Disputes. Disputes. The regulations regulations of trade assoArbitration of the the dealers' dealers' trade assoall disputes ciations usually provide provide that that all disputes between members, members, as as as well ciations usually well as non-members, arising those between members and non-members, of the the standard standard those arising out of contracts of the trade (which (which require require arbitration prothe trade arbitration under association contracts of association probe arbitrated at the headquarters and rules of the cedures) at the must be arbitrated under rules of the cedures) headquarters are inexpensive, trade association. association. The procedures procedures are efficient, trade swift, and efficient, inexpensive, swift, and decisions decisions are by trade trade members who are in their fields. in are experts their are made by fields. experts Provision is adequate appeals appeals from an original arbitration comis made for for adequate arbitration Provision original mittee to to an appeals mittee appeals committee. Standardization of Perhaps the the most important Contracts. Standardization function of Contracts. Perhaps important function of dealers' associations is that of trade and conof standardization is that standardization of dealers' trade trade associations of trade of contract terms establishment of not only but several several uniform conof not tract terms and establishment conone, but only one, general acceptance acceptance in in both domestic and international tracts for for general international trade. tracts trade. In performance performance of of this this function, close co-operation prothe part of proIn function, close co-operation on the part of

24

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

ducers', dealers', and manufacturers' manufacturers' associations has been essential associations has essential in in ducers', dealers', order to to secure general acceptance in the trade. the trade. secure general order acceptance in in the This development does not that in the hide hide or trade, for mean that not does or coffee This coffee trade, for development or or standardized instance, one or or standardized contracts are in use throughtwo uniform in contracts are use instance, throughIt does mean, out the the entire entire hide hide or world. It mean, however, whereas or coffee coffee world. out however, that, that, whereas in past-before the trade trade associations effective-each probefore the in the the past associations were fully effective each fully producer, dealer, converter attempted to buy and sell on his own conand converter to consell his ducer, dealer, buy attempted in each central tract form and terms, terms, now in central market there there are contract are uniform contract forms (relatively in number) which are used almost exclusively in are tract few used almost number) (relatively exclusively in it. it. in that that market by by all all who trade trade in in Although the the uniform coffee coffee contracts contracts of PauIo or of Rio and Sao Sao Paulo the or the Although Batavia contracts of of Singapore and Batavia may vary somewhat uniform rubber contracts Singapore may vary of New York, from one another another and from those those of or London, York, Liverpool, London, Liverpool, or in coffee nevertheless every every trader trader in coffee or or rubber, rubber, whatever his hios status, nevertheless status, knows what obligations obligations he assumes and what rights or accrue when he sells sells or rights accrue contract of buys under any of these standard contract forms (copies of which are of these are buys any (copies freely available available on request request by by the the various various trade trade associations in made freely associations in but each market). Slowly, surely, each world-wide commodity trade is each trade is each surely, commodity market) Slowly, will steadily working toward the point where there will be only a limited there the point only a limited steadily working in each each commodity trade, with each concontracts in with number of of uniform contracts contrade, commodity tract markets and each serving a specific function-for it all markets a for all function for tract standard standard for it serving specific will probably probably never never be possible possible to to reduce reduce trading in most commodities will trading in to a single contract. contract. uniform to a single For instance, instance, there there will will always always be a need to to distinguish a uniuniFor distinguish between a form or delivery" contract -a contract "arrival or or delivery" contract and ·a contract for for "shipor standard standard "arrival form "shipment." buys from S on a contract for "arrival and/or contract calling for "arrival ment." When B buys and/or calling delivery" the month of May, B requires requires and in New York during of May, of silk silk in during the delivery" of in order S undertakes to to make delivery in May, May, even though to make order to S undertakes S, in delivery in though S, in the delivery, buys from J in Tokyo the necessary quality and quantity for Tokyo necessary J quality delivery, buys quantity for in shipment by fast steamer, is scheduled to arrive in May, but sinks which is scheduled to arrive fast sinks steamer, May, shipment by in or does not arrive arrive until until June. June. S, does not in transit transit or S, under such circumstances, circumstances, must still deliver to to B under the the contract, he must enter enter still deliver contract, even though though the buy silk out of warehoused silk from a competitor of the New York market and buy competitor S will stocks (at aa much higher higher price price than S will receive receive from B) B) and may may be be stocks (at silk bought a loss the at for compelled later to resell at a loss the silk bought from J for shipment. resell to later J shipment. compelled the other other hand, hand, if if S had sold to B aa "shipment" sold to S could could On the contract, S "shipment" contract, B B to complete his contract contract with with by delivering the insurthe shipping by delivering to shipping and insurcomplete his from ance documents covering covering the the shipment bought J, even. though even, ance documents bought shipment J, though late. B's the ship the silk silk sank sank in in transit transit or arrived late. B's only remedy the only remedy carrying the ship carrying for loss under this contract is the insurance company loss of the is against of the this contract under against the company for for the cargo or possibly against the steamship company for delayed arrival arrival or steamship company delayed cargo possibly against cause of the cause (if he can prove prove negligence negligence or or willful willful action action as as the the loss he can loss of the (if .

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25 25

Except for for aa few major major contract major concontract classifications, based on major conclassifications, based Except siderations, it may be possible in time to eliminate the multiplicity in it be to eliminate the of time siderations, may possible multiplicity of trade contract forms and terms terms and to the trade trade to contract forms in contrade to permit to deal deal in conpermit the require no substantive substantive changes in the standard form, but tracts which require in tracts the but form, changes merely the filling in of dates, quantities, qualities, price, of the in the of names of the dates, merely filling quantities, qualities, price, buyers and sellers, time of delivery, with all the other contract terms all and time of the other contract terms sellers, buyers delivery, with and conditions definitely standardized. conditions definitely standardized. We shall however, that that with with respect respect to it shall sec see later, to exchange contracts it later, however, exchange contracts of contracts is possible to reduce the the number of to aa single one and limit is possible to reduce limit contracts to single the changes changes necessary necessary in in each each contract merely to to the date, the the contract of of sale the sale merely the date, buyer and seller, the price. the buyer names of of the seller, and the price. Standardization of the important Standardization or Grades. of the Grades. Another of of Qualities Qualities or important functions of of the the dealers* dealers' trade trade associations, associations, in with the the functions in co-operation co-operation with other in each each commodity commodity trade, other associations is the of associations in the standardization standardization of trade, is grades or qualities-that is, the establishment of uniform grades within that of the is, grades qualities grades the general classification classification of of standard standard and non-standard. non-standard. Prior the general Prior to to this this and development, each each producer producer was forced forced to to grade grade his his own product product development, develop his own qualities qualities or or typeswhich types-which he frequently develop his frequently covered with a trade name, as as is is generally generally done in goods trade name, in the or consumer goods the finished finished or field. result, there there were were literally literally thousands thousands of and qualities field. As a result, of grades grades qualities of the various various commodities. buyer could ever that he ever be certain commodities. No buyer certain that of the receive anyone quality in in sufficient would receive sufficient quantities for the the any one uniform quality quantities for continued manufacture of quality of goods. a uniform quality of his his finished finished goods. of a Gradually, however, however, the the various various grades of each product slowly grades of product were slowly Gradually, in most trades reduced in trades to even less) narrowed down and reduced or fifty to forty forty or fifty (or (or less) . grades then then became the the recognized recognized uniform qualities qualities and all all Those grades producers to them, and type samples or specifications (repreto conformed them, producers type samples specifications (repreavailable on request. senting each grade) grade) were were always request. always available senting each These uniform grades grades were were then then so that a certain so organized certain one organized that all the basis basis (sometimes (sometimes also also called standard) grade called the the standard) became the grade and all other grades were were classed as either either superior or inferior to this basis grade. this basis or inferior to classed as other grades grade. superior the The basis basis (standard) (standard) grade is that that grade usually represents represents the grade which usually grade is .

largest proportion proportion of of the the total total largest

If it at production of it sells sells at of each commodity. commodity. If production to relation fifty cents per pound, all other types or grades are in relation to all are valued or cents fifty grades types per pound, inferior this base base price, price, the the superior grades bringing this bringing premiums premiums and the inferior superior grades grades taking discounts either above or the current base price, price, as as the current base or below discounts either taking grades for each grade. determined by by the the law of supply and demand for of supply grade. in staple the same The standardization of grades grades in standardization of staple commodities had the effect the standardization of finished producfinished goods-larger-scale as did the standardization of effect as goods larger-scale producalso deliveries also in raw material tion and lower unit costs. Uniformity in material deliveries costs. Uniformity tion lower unit for converters permitted uniformity in the qualities of finished goods. for converters finished of in the goods, qualities permitted uniformity their raw could now be assured of 3a steady could assured of steady supply grades of their supply of uniform grades

26

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

materials-and they could could reduce reduce their their prices to the the public public as materials and they result as a result prices to of large-scale production production in contrast to to job-lot job-lot production. production. in contrast of large-scale This standardization reduction in not of and reduction in the standardization of the number of of grades This grades not only greatly expanded the of trading and sharply speeded it up, it the volume of only greatly expanded up, trading sharply speeded but it the important result of bulk of tradbut it also also had the of shifting the tradthe vast vast bulk of the important result shifting the in the ing in the physical physical or or cash markets from spot merchandise, ready ready cash markets sales of of merchandise, ing spot sales delivery to to the the buyer, buyer, to to trading trading for for for immediate delivery for forward deliveries. deliveries. Previously, both both dealers dealers and converters positively refused refused converters had hesitated hesitated or or positively Previously, to buy until until and unless unless the the merchandise merchandise was at be to buy at hand and could be carefully sampled, inspected, and analyzed. That meant that producers that carefully sampled, inspected, analyzed. producers had to to assume all all market, market, transportation, transportation, and other other risks risks (except (except where they could insure with casualty companies) up to the point insure with the to they casualty companies) up point and time when they they had delivered delivered their their products products to the primary, to the often the the and, often primary, and, central, markets markets where the the larger larger dealers dealers and manufacturers manufacturers could inspect central, inspect and sample. Before standardization, speculative dealers who did from standardization, sample. speculative dealers time to to time time buy buy for for forward delivery delivery assumed much larger larger risks risks than they need assume today. today. they of grades With the the standardization grades and the standardization of the development official of official development of and certified type samples, established by the trade associations certified type established the trade associations and by samples, available to to anyone, anyone, it it now became possible possible for merchants, available for producers, producers, merchants, in and factories factories to to sell sell and buy buy for forward delivery in full confidence full for forward confidence delivery that, in the absence of occasional bankruptcy, fraud, or unintentional that, in the absence of occasional bankruptcy, fraud, or unintentional error, they they would receive receive the the specific specific grades for. As a a conseconsecontracted for. error, grades contracted quence, not only did the tempo of trade expand sharply, not did the volume and of trade only quence, expand sharply, tempo but, thereafter, thereafter, more and more contracts contracts were made for delivfor forward delivbut, less and less less merchandise merchandise had to be consigned markets eries and less eries central markets to be to central consigned to and be be sold after arrival and inspection. sold only arrival after only inspection. trade associations, associations, however, however, have have not never will be able not been and never The trade will be able to reduce reduce grades grades to to aa single type. It not suit the purposes of either It suit either to would not the of single type. purposes the producer or or the the converter to do so. be made for converter to so. Allowance must be the producer for the the converters' for various various grades grades of difconverters' demand for of each commodity, commodity, based on differences in price and such such elements varying tensile tensile strength, chemical in price as varying ferences elements as chemical strength, make-up, the uses uses to to which each grade to be be put. put. Nevertheless, Nevertheless, is to grade is make-up, and the the the commodity as we shall shall see, to reduce able to reduce see, have been able commodity exchanges, exchanges, as a to exchange trading to a single grade or, at the option of the trader, to aa at the of the to or, trader, exchange trading single grade option contract many, if if not not all, all, standard are deliverable contract under which many, standard grades are deliverable grades exchange contract; contract; for for the the purpose under a single function of of trading single exchange purpose and function trading on the the exchange exchange market is not to to deliver take delivery of the actual or deliver or or take of is not the actual or delivery physical merchandise, to offer insurance against market and credit but to offer insurance credit against physical merchandise, risks to desire to to shift risks. As will later, shift such risks. risks those who desire to those will be explained explained later, has also the commodity exchange has also able to perform other functions been to the able other functions commodity exchange perform which were not not possible possible for for trade trade associations associations on the physical markets. the physical markets.

(

CHAPTER

CHAPTER

II 11

)

The Economic Functions Functions of of Commodity Commodity Exchanges Exchanges

Fairs in the Fairs and market places, places, as as we have have seen, existed in the Middle Ages. seen, existed Ages. until they established in England and on the Not until were in established the Continent did Continent did they England

trade trade between nations nations spring spring into into full full flower. in form, flower. The fair, form, fair, changed changed in has has continued to to the the present present day. Its original major function was to to Its day. original major contribute to to place place utility; utility; that that is, is, it to which goods goods it constituted a center contribute constituted a center to

flowed from distant distant parts parts and foreign foreign lands-goods without the flowed lands goods which, the which, without fair, would never never have been shipped shipped from their production centers. their production centers.

fair,

is not direct ou of the commodi ty exchange exchange is not aa direct tgrowth of The modern commodity the outgrowth fair, but it it serves the same purpose purpose and function with regard to time to serves the regard that that the the medieval medieval fair fair served served with with regard regard to place. In In medieval society to place. society in job job lots, lots, largely prices, for goods were manufactured in at fixed fixed prices, for goods were largely on order at industrial society both the producer of staple trade. In modern industrial of custom trade. the society producer staple the manufacturer to to aa great extent produce standardcommodities and the great extent produce standardized products for large domestic domestic and foreign before sale. sale. Although Although for large ized products foreign markets before large~scale production manufacturing for such markets greatly and for have scale manufacturing greatly large production raised living standards provided better better and better at lower at better qualities standards and provided lower raised living qualities lower prices prices to to the the consumers, have introduced introduced risks risks arising and lower consumers, they they have arising factor. When from the time factor. any commodity, durable, is chiefly however time is the durable, any commodity, chiefly for into produced for later sale or purchased for conversion into consumer goods later or sale for purchased goods produced there is in aa free free economy economy an inevitable inevitable risk risk of unfavof an unfavis in months later, later, there are being orable price price change change during the time time the the goods being produced produced or or orable goods are during the are held for for later later sales sales in in converted converted form. are held have already already considered considered the the constructive the constructive developments of the We have developments of in organized commodity markets in staple commodities before the advent before markets the staple organized commodity of the the' commodity exchange. This institution to satisfy satisfy institution was designed of designed to commodity exchange. certain needs of these markets: markets: to to make them more efficient efficient and effective; of these certain needs effective; in markets primarily, to afford to all in the physical markets-the farmer, all operators to the afford to farmer, physical operators primarily, manufacturer means which the dealer, and the converting manufacturer-means by they the the dealer, could, by they could, converting effects of price disastrous effects if they they so chose, insure against the the disastrous insure against so chose, if fluctuations; price fluctuations;

fair,

j

27 27

~8 28

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

to assure the operators that, when they price, the the and to or sell at a sell at a price, assure the buy or operators that, they buy fail and fail at at the the contract contract price price

merchandise will will be delivered without delivered without merchandise

in full that all all deliveries will be be paid paid for for in without risk risk that full at at contract deliveries will contract time time without of default by by either either buyer buyer or or seller, seller, regardless regardless of the insolvency of default of the of either either insolvency of party after the making of the contract. of the after the contract. making party

The Exchange Exchange Market. Market. To effect these fundamental objectives, effect these the objectives, the exchange is organized (in addition to, and not in replacement market is addition in not to, exchange organized (in replacement of, the physical physical market) market) to to provide provide a new auxiliary the market. In the of, the auxiliary market. exchange market the the operators their agents or their at a a comexchange actually meet at operators or agents actually center and, through the machinery of the exchange, trade excluof mon center the the trade excluand, through machinery exchange, for future future delivery sively (as aa rule) rule) in in contracts contracts for of the in the commodity sively (as delivery of commodity in specific months. specific the physical In the physical market the the great of transactions, since the the transactions, since great volume of in contracts standardization of qualities qualities and contracts, contracts, is forward standardization of is also also in contracts for for forward It will delivery commodity. It will be recalled, that operators of the the commodity. recalled, however, however, that delivery of operators in the at a in physical market as a rule rule do not not meet at a common trading trading center. the physical as a center. Their transactions are made mostly mostly by telephone, telegraph, cable, or transactions are by telephone, telegraph, cable, or mail, mainly through brokers brokers or or commission agents. they trade trade mail, mainly through agents. Although Although they in both in both spot forward deliveries, the details of their transactions are and of forward details their the transactions are deliveries, spot not publicized, for for they they are not be disclosed without are confidential confidential and may not not publicized, be disclosed without may consent of both both buyer buyer and seller. seller. consent of The two markets markets have have interlocking many dealers dealers and interlocking memberships; memberships; many converters who operate operate on the the physical physical markets converters are also also members of the markets are of the exchange market. In the exchange market, however, there are in addimarket. In there are in the addihowever, market, exchange exchange tion many professional professional risk-bearers risk-bearers or into or speculators, a great tion a great many speculators, brought brought into the to make possible possible the the transfer transfer of of credit credit and market risks risks the market to to insure them to others are willing insure against to who are from those others those who want to against willing ,iV and able assume them them-the in the ~I' 'n I~.I: I control in the who control able to to assume the speculators speculators large capital funds funds and are are geared machinery for for into the the exchange geared into exchange machinery large capital that purpose purpose as as risk-bearers. risk-bearers. that two markets markets are are distinct performs distinct The two distinct and separate. distinct separate. Each performs and separate functions, through similar yet different techsomewhat similar different techyet separate functions, through niques, and each is is necessary necessary to to the the other in order the producer, producer, order to to serve serve the other in niques, the public interests efficiently. the and the interests the consumer, consumer, efficiently. public Place of of the Exchange in Distribution. The commodity in Distribution. Place the Commodity Commodity Exchange commodity exchange is not a direct link in the distributive system. In the flow in a direct link the is the distributive flow of of not system. exchange goods from from the the fields, mines, and forests the the consumer and from the forests to to the fields, mines, goods the producer to the converting manufacturer, the exchange does not serve does not serve to the manufacturer, exchange converting producer as aa conduit. is rather rather an auxiliary auxiliary organization, to facilitate It is conduit. It facilitate as organization, designed designed to the operations of the distributive of the physical markets in distributive system of of the the the operations in markets system physical several important respects. several important respects. ;i

<

Functions of of Commodity Exchanges Economic Functions Commodity Exchanges

29 29

In trade trade parlance, parlance, the the exchange is known as as the the exchange, conexchange market is exchange, conor futures market, whereas whereas the the physical market is confusingly called tract, or futures market, is called physical confusingly the spot or cash cash market. market. Though Though both both deal deal extensively the in forward delivforward delivspot or extensively in markets trade in eries markets trade in spot transactions, most exchanges eries and some exchange transactions, exchange spot exchanges offer facilities facilities only for futures trading. Grain exchanges offer futures trading. offer both. both. only for exchanges offer The chief chief services of the the commodity commodity exchange in its its affording services of lie in a exchange lie affording a of insurance against the the risk risk of of adverse price fluctuations, in insurinsurmeans of insurance against adverse price fluctuations, in ing deliveries deliveries at at contract time and payments contract time at contract contract price ing payments at price against against in making default, making stocks of commodities both liquid and mobile, stocks of default, and in mobile, liquid thereby rendering rendering financing lower. It easier and costs of distribution costs of It distribution lower. financing easier thereby services by a broad and continuous performs these by affording these services continuous market performs affording a the commodity or on which the commodity may may always be bought or sold for be for future future delivery sold always bought delivery at at aa moment's notice notice at at aa relatively relatively stable linking together together stable price. price. The linking of the the principal principal world world markets markets by by telephone, telephone, telegraph, radio, and cable of cable telegraph, radio, in market all focuses in these central places all available economic factors focuses these central available factors and places other influences bearing on prices. prices. other influences bearing of the The breadth breadth of the market and the the close the of the close interrelationship interrelationship of in the exchange physical markets, markets, dealing dealing in the same commodity exchange and physical throughcommodity throughout the the world, world, make certain that every every factor certain that out factor which can be reasonably reasonably in the the current current prices prices of anticipated will be be reflected reflected in of the the commodity. commodity. Wideanticipated will of commodity commodity prices, prices, registered various futures spread publication of futures registered on various spread publication all exchanges and reflecting the best opinion of many traders of all kinds, the of best of traders kinds, exchanges reflecting many opinion serves guide in in the the establishment both spot a guide of prices of both serves as as a establishment of prices of spot and forward deliveries the physical physical markets; markets; the the wide range range of of grades deliverable deliveries on the grades deliverable all supply exchange contracts contracts makes exchange exchange prices prices representative of all on exchange representative of supply their trend trend is indicative of is indicative of current current opinion and demand factors; factors; and their opinion regarding the future outlook. outlook. the future regarding Finally, the the exchange regulates organized to prevent prevent so as as to Finally, exchange regulates organized speculation speculation so abuses and assure assure that that it it will will be conducted conducted under just just and equitable equitable abuses rules to serve the public public interest. Its standardization standardization of of contracts contracts and interest. Its rules to serve the of grading, weighing, inspection promotes uniformity in methods and of promotes uniformity in inspection grading, weighing, of the the exchange trade dealings, the regulatory regulatory function function of is reflected reflected trade exchange is dealings, and the in its its self-imposed rules regulations, which are enforced by disciplinenforced are and in rules by disciplinregulations, self-imposed in its arbitration of ary action, and in of exchange of disputes out of its arbitration arising out exchange disputes arising ary action, contracts. contracts. the exchange of the the economic functions of the at functions of A general exchange at general description description of this will be be aa sufficient indication of the advantages advantages which proof the this stage sufficient indication prostage will its existence. existence. ducing; distributing, consuming groups obtain from its and consuming groups ducing, distributing, in detail later. detail later. These various various advantages advantages will will be considered considered in These of commodity commodity exchanges may be summarized functions of The economic economic functions exchanges may be five heads: heads: broadly under five broadly tract,

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

go

1. 1. THE INSURANCE FUNCTION (a) The exchange provides liquidity relative price exchange provides (a) liquidity and relative stability price stability through a continuous market, possible because a broad and continuous made market, through possible because of large funds speculative capital not otherwise available. otherwise of large funds of of speculative available. capital (b) The machinery of the exchange proof the establishes a means of of promachinery exchange establishes (b) tection those desire it) against adverse price changes tection (for those who adverse desire (for it) against price changes through aa process process known as hedging-an that as hedging an insurance insurance device device that through is available to all all producers, producers, traders, traders, and converters. available to is converters. (c) machinery of the exchange clearing house furnishes to all of the all The furnishes to machinery exchange clearing (c) buyers sellers of exchange contracts a sure of a of and of method sellers sure exchange contracts buyers at contract guaranteeing that that both deliveries paydeliveries at contract time and payguaranteeing 1 of therefor at contract prices will be made,l regardless ment therefor will at contract made, regardless of prices in contract is changes in market prices prices after after the the contract is made and regardregardchanges at less the insolvency insolvency of party at time of of less of of the of either either contracting time contracting party under delivery the contract. the contract. delivery

2. 2. THE

FINANCING FUNCTION

(a) the ready ready transferability transferability of standof stand(a) A continuous market and the ardized commodities by by means of warehouse receipts of negotiable ardized negotiable receipts of liquidity. give the commodity commodity aa high high degree liquidity. degree of give the is an encouragement (b) Liquidity Liquidity of of the the commodity commodity is to more encouragement to (b) liberal loans by by bankers bankers and is to them. is a to them. a safeguard liberal loans safeguard (c) Ability to finance commodities readily to insure insure against readily and to against (c) Ability to finance adverse price changes changes or or defaults prodefaults on contracts adverse price contracts enables enables producers, dealers, manufacturers to operate successfully manufacturers to and ducers, dealers, operate successfully on smaller profit margins margins to to the the benefit benefit of the consumer. of the smaller profit

3. THE PRICE REGISTRATION FUNCTION

3.

of markets cable (a) Joinder Joinder of markets by by telegraph, telegraph, telephone, telephone, radio, radio, and cable all price price influences exchange; all focuses all the commodity influences on the focuses commodity exchange; all in (domestic foreign) futures markets in the same commodity and futures markets the commodity foreign) (domestic are thus thus linked linked together together and made one broad world market. are presence of a large risk-bearing speculation (b) of a of risk-bearing speculation large volume of (b) The presence insures that that every every known influence bearing upon upon prices prices will influence bearing will insures be given given careful weight. careful consideration consideration and weight. be (c) Interpretation of by producers, manufacturers, of news dealers, manufacturers, by producers, dealers, (c) Interpretation and speculators assures a degree of anticipation of future a assures of future anticipation of degree speculators trends and events that would not not otherwise otherwise be possible. events that trends possible. (a)

4. 4. THE PUBLICITY AND INFORMATION FUNCTION (a) Exchanges Exchanges gather gather from all all available public available sources sources and make public (a) 1 As will will be be developed developed in in Chapter VIII, under exchange rules, there are certain certain there are J-As exchange rules, Chapter VIII, the deviations exact emergency conditions permit certain specific deviations from the exact terms of terms of which certain conditions emergency permit specific exchange contracts. contracts. exchange

Economic Functions Functwns of Exchanges of Cummodity Commodity Exchanges

31

in in

an unbiased manner statistics potential statistics of of present present and potential supply, transportation, current current consumption, desupply, transportation, consumption, and potential potential demand which are are useful useful in in estimating price trends changes. trends and estimating price changes. (b) Daily publication publication throughout throughout the record of the world of of the the record of volume (b) Daily and prices prices of of all all exchange transactions in in contracts contracts for for future future exchange transactions informs all delivery informs all interested parties, not only of present interested not of delivery parties, only present prices, but also of the the future trends. also of future trends. prices, On the (c) the basis basis of of widespread widespread publicity of all all futures futures quotations, (c) publicity of quotations, dealers, producers, producers, and manufacturers manufacturers are are enabled to to make dealers, their their purchases purchases and sales higher degree of certainty sales with a higher of degree certainty and confidence. confidence. 5. THE REGULATORY FUNCTION 5. (a) Exchanges gear gear large large speculative their of capital into their (a) Exchanges speculative funds of capital into insurance insurance machinery machinery and regulate regulate speculation so as to prevent to so as speculation prevent for its abuses provide for lines in in the the abuses and provide its conduct along along orderly orderly lines public interest. interest. public or "basis" (b) Exchanges Exchanges develop develop uniform or which, with with "basis" contracts contracts which, (b) their of inspection, weighing, and grading, their standards standards of contribute inspection, weighing, grading, contribute to the the certainty, of to certainty, efficiency, and uniformity of practices in efficiency, uniformity practices in each trade. trade. each (c) Exchanges Exchanges establish enforce, usually usually through establish and enforce, through compulsory (c) compulsory arbitration procedures, procedures, rules rules and regulations regulations governing governing the the arbitration settlement of all all disputes disputes arising out of transactions on the settlement of of transactions the arising exchanges, thus thus providing providing quick, efficient settlesettleexchanges, quick, cheap, cheap, and efficient by experts, without the for recourse to the courts; without the need for ments by recourse the to courts; experts, they to maintain maintain the the ethical busicodes to ethical conduct of of busiestablish codes they establish ness by by their their members and enforce these through through their their own enforce these ness sanctions penalties. sanctions and penalties.

The Risks Risks of of Modern Industrial Industrial Society. The growth the cenover the cengrowth over Society. of the maritime trade, trade, attended by by the the manifold perils perils of the sea, maritime sea, led the development development of by Genoese merchants in in of marine insurance insurance by to the led to the Middle Ages. Ages. This is is the the oldest it oldest form of as we know it of insurance, the insurance, as bears in today, and the marine policy still bears traces of its historic origin in the still traces of the its historic the origin today, policy as modern industrial quaint language of its clauses. Just as society clauses. industrial of its society has language Just quaint in complexity, so risks increased and insurance has spread increased risks have so increased increased in spread complexity, into new areas, moving from fire risks to hail, tornado, hurricane, to fire risks into hail, tornado, hurricane, and areas, moving many other hazards. Casualties were too too remote to to be considered Casualties which were other hazards. many a are now within the as subjects for insurance a generation or less ago are the less insurance for as generation ago subjects that realm of probability to such extent that prudent producers, merchants, to an extent realm of probability prudent producers, merchants, of carrying manufacturers would not not think think of their enterprises and manufacturers carrying on their enterprises is as available. without such protection as is available. such without protection of turies of turies

32 32

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

Yet none of of these these casualties is so so likely to occur as as another more comcasualties is Yet likely to of adverse fluctuation in prices mon form of business riskthe risk-the risk risk of adverse fluctuation prices of of business losses to raw materials materials and finished finished goods, entailing heavy heavy losses producers, to producers, goods, entailing dealers, manufacturers, and others not wish wish to in others who do not to speculate dealers, manufacturers, speculate in such goods. goods. The commodity commodity exchange exchange is not an insurance faciliits faciliis not insurance company, company, but its ties provide provide aa means of of protection protection against the ever risk of of ever present ties against the present risk unfavorable price price changes. changes. The most important function of the exof the exunfavorable important change is the provision provision of facilities for the technical technical for insuring of facilities is the or, in the insuring or, change language of the trade, "hedging" crops, inventories, purchases, sales language of the trade, "hedging" crops, inventories, purchases, or sales of against the the risks risks of of speculative of losses. The subject of a a commodity speculative losses. commodity against subject of hedging is in detail elsewhere, with full explanation of the use in full of is discussed the use discussed detail elsewhere, explanation hedging of the the hedge hedge by by all of market operators. of all classes classes of of operators. The main function of to hedging is to insure normal profits to producers, merchants, and manuprofits hedging is to insure producers, merchants, facturers who do not not wish wish to to speculate losses that that are facturers or to to minimize losses are speculate or already threatening. be by stabilizing the price of the can This be the of the done already threatening. by stabilizing price commodity through hedging hedging operations operations on the the exchange. commodity through exchange. insurance by by hedging hedging is is possible the exchanges Successful Successful insurance possible only exchanges only because the provide a continuous, continuous, broad, broad, and solid solid market. market. In any provide any market where prices might might be subject subject to to sharp changes between sales, hedging would sales, hedging prices sharp changes be impossible. impossible. If thin that large If a a market were so that a a single be so thin order could single large order substantially the price, price, the the placer a hedge hedge would always influence the of a substantially influence placer of always operate under aa handicap. handicap. Because Because exchange prices change operate exchange prices change constantly, constantly, but in small gradations, gradations, and because because futures large aa futures markets focus focus so so large trading that that large large operations exert little influence on price, volume of trading exert little influence operations price, the hedge hedge can be used successfully. the successfully. Furthermore, the the fact fact that that the the market is is continuous continuous is is an insurance insurance Furthermore, the risk of unsold against the risk of inventories of materials. dealer in or inventories of raw A dealer in materials. or against a a converter converter of wheat, cotton, rubber, sugar, and cocoa may not be able of wheat, cocoa not able be cotton, rubber, sugar, may to sell at to sell at aa profit, profit, but his his goods never be left unsold; the left unsold; the exchange goods need never exchange market makes them liquid. liquid. He can at his losses by hedging. hedging. at least least minimize his losses by He has an active, active, ever ready market, market, functioning daily, will not not ever ready which will functioning daily, absorb only as large a stock of goods as wishes to unload, but also as of stock as he wishes to also unload, only large goods for insuring insuring or hedging hedging his afford afford him facilities facilities for his sales sales or or purchases, purchases, already already made for delivery on the the physical physical market. for forward delivery market. The growth, the handling, handling, and the the storage cotton, and the the equalization equalization of cotton, growth, the storage of of of the supply to meet mill mill requirements requirements from month to between crops, crops, to month between supply to involve involve a protracted protracted period period of of financing many variations variations of price and of price financing with many changes of ownership. During this this carrying carrying period the anticipation of future future changes period the ownership. During anticipation of to the prices is is of of almost as as much importance importance to the cotton world as as are are cotton and textile textile world prices as merchant, current prices. prices. The person person whose business business as merchant, as manufacturer, or current as manufacturer, or as as indirect financial financial interest banker necessitates necessitates a direct direct or indirect interest in in spot cotton at at banker spot cotton

Functions Economic Functions

of

of

Commodity Exchanges Commodity Exchanges

33 33

current prices prices may may wish wish to to find find aa means of himself against change of protecting a change against a protecting himself in in price price before before his his commitment terminates. terminates. The person person whose business business necessinecessitates the the making making of involving the the procurement procurement of cotton at tates of engagements of cotton at some engagements involving is likely to be even in future time time is to interested in the future price of cotton more interested future the of cotton likely price than in its present price, and such in its such a person may be eager to protect himself at a to be himself at eager present price, person may protect once (for (for example, example, because because of of sales of textiles textiles for for forward delivery) as regards sales of as regards delivery) the at which his the price price at his future future supply supply of to be be obtained. 22 is to of cotton is

It should be recalled, recalled, however, however, that that operators to aa limited limited degree, can, to degree, operators can, sell or or buy buy forward forward deliveries the physical prices at fixed sell deliveries on the fixed prices physical market at in that limit their price risks. risks. Nevertheless, Nevertheless, in that case there is is no guarand so their price so limit case there guarthat at anty at contract time the the seller will be able to make delivery the able to contract time seller will or the anty that delivery or buyer to to pay pay for for the the delivery contract price. at contract is no protection, buyer delivery at price. There is protection, in either party, as there in other other words, words, against against the the insolvency insolvency of party, as there is is on of either house the exchange markets through through the the exchange clearing guaranty. the exchange guaranty. exchange clearing Furthermore, there there is that sales purchases can be made is no assurance assurance that sales or or purchases Furthermore, in in volume on the the physical physical markets markets at the desired time, for these at the of these desired time, for most of markets are not so active, broad, broad, or or liquid liquid as markets. so active, as the the exchange markets. are not exchange The Exchange Exchange Market as as aa Guarantor of Deliveries (at Contract Time) of Deliveries (at Contract Time) All of Payments Payments for for Deliveries Deliveries (at Contract Price). All sales and purand of sales (at Price) purchases made on the chases the modern exchange exchange market and cleared cleared through the through the exchange clearing house, an institution institution affiliated with, but but operated as affiliated with, exchange clearing house, operated as independent corporation, corporation, separate separate and distinct the exchange, an independent distinct from the exchange, are guaranteed by the the clearing house. In other words, the are other words, the clearing clearing house guaranteed by clearing house. guarantees to every buyer on every that he will, if he so contract that cleared contract so will, if guarantees to every buyer every cleared desires, receive the the merchandise merchandise contracted the proper proper contract for at at the contract contracted for desires, receive time and in in like fashion guarantees to every that he will receive like fashion will receive time seller that guarantees to every seller payment at at the the contract price when he makes delivery. as contract price guaranty, as payment delivery. This guaranty, in our our later later study of the clearing house system, is so prois of so shall see the we shall see in study system, clearing protected that that there there never never has has been and in will be be aa all probability in all tected never will probability never default on such guaranties. guaranties. They by various various devices default are safeguarded devices They are safeguarded by and sanctions default as as anything can in as be in sanctions which make default as impossible anything impossible this uncertain world. this uncertain world. insures the exchange clearing house, therefore, therefore, in effect, effect, insures the buyer buyer The exchange clearing house, and seller of all contracts, cleared through the exchange all exchange seller of cleared the clearexchange contracts, through exchange clearing house, against the subsequent insolvency of either buyer or seller seller ing house, against the subsequent insolvency of either buyer on all all cleared cleared contracts. contracts. Contrast this this invaluable protection with the invaluable protection the or sell risks by those those who buy buy or sell for on the physical risks assumed by for forward delivery the delivery physical markets. a farmer sells at $2.00 bushel to to a flour flour mill sells wheat at mill for markets. If If a for $2.00 a bushel delivery six later, it is quite possible that before the delivery that six it before months is the later, delivery delivery quite possible date the mill may may become insolvent insolvent and unable to pay for date to pay the mill for the the wheat a loss at time. The farmer then then may may be forced to resell resell at loss on forced to at a at delivery delivery time. It

.

22

1st Session, The Cotton Trade, I, p. p. 103. Part I, 68th Congress, Senate Document 100, 103. Session, Part 100, 68th Trade, Senate Congress, 1st

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

34 34

the market, market, which has has declined declined meanwhile the

to, bushel. The a bushel. to, say, $1.50 a say, $1.50 reverse situation may also the farmer delivery situation may also arise; reverse farmer may default on delivery arise; the may default at thereby forcing the mill to rebuy the on aa rising rising mill to the at contract wheat contract time, the time, thereby forcing rebuy market at higher price and hence at a loss. at a a substantially at a loss. hence substantially higher price Exchanges Make Commodities Liquid. Liquid. A distinguished distinguished authority authority on Exchanges produce markets has aptly described one phase of the work of commodity the markets has described of of commodity produce aptly phase 3 exchanges by saying that they give commodities the element of mobility.3 that of commodities the they give mobility. exchanges by saying of fixed definite grades has introduced greater fixed and definite The establishment establishment of grades has greater certainty uniformity of qualities in commodity trading. The existence in and of existence uniformity certainty commodity trading. qualities of warehouses, which store the goods of licensed licensed and bonded warehouses, store the issue goods and issue negotiable receipts, receipts, provides provides buyer buyer and seller seller with with an instrument which negotiable hand passes title to without actual delivery goods. from hand actual of the title to without the goods. delivery of passes is Although the exchange alone is not responsible for the standardization alone not the for the standardization exchange Although responsible of contracts or for the the development of grades or for instruof negotiable grades and contracts negotiable instrudevelopment of ments, as have seen, broad and swift-moving stimulates its broad market as we have stimulates seen, its ments, swift-moving in turn their widespread widespread use; use; this this in turn encourages trading of trading their encourages a larger larger volume of and makes for for a greater greater liquidity liquidity of of commodities. to which market, to producers, manufacturers, and A 'large market, dealers, manufacturers, -large producers, dealers, makes contract unit speculators converge, a contract for a unit of aa commodity that is for is of commodity that speculators converge, dealt in on aa futures futures market comparable to a stock a coupon stock certificate certificate or or a dealt in comparable to coupon in respect respect to to the the readiness readiness with with which title title can be be transferred or transferred or bond in loans can be be readily readily secured. secured. On liquid liquid stocks traded of commodities traded loans can stocks of exchange markets markets the the commercial banks naturally lend aa greater greater on exchange naturally lend than proportion of their value on those which are less liquid their market value those are of less proportion liquid because they are not subject to exchange trading. to are not because they exchange trading. subject As security for aa loan, the value value of with less less of liquid as compared loan, the security for liquid as compared with liquid commodities is the as the relative value of 100 shares much the same as the relative 100 is of commodities value shares liquid of Corporation stock, stock, listed listed on the Steel Corporation the New York Stock Stock of United States States Steel Exchange, 100 unlisted shares of a small and little-known unlisted shares a small 100 of and little-known manuExchange, facturing company. company. The small corporation may may be as financially small corporation as sound financially facturing as the industrial giant, but, because its shares do not possess because its shares a ready as the industrial giant, but, ready possess a market, the of its unlisted stock is unable unable to to borrow as a its unlisted stock is as high the owner of market, high a the value of proportion of its current value as can the owner of States Steel as United States current Steel its of proportion in the stock. parallel is is found in the real real estate estate field. field. Loans on apartstock. Another parallel apartbuildings, and residences residences in good locations ordinarily locations office buildings, ment houses, houses, office good ordinarily are made for for aa higher higher proportion proportion of of their than loans loans on their market value than are theaters, garages, garages, clubs, clubs, or similar special-purpose special-purpose buildings buildings which have have or similar theaters, aa more limited limi ted and restricted restricted use. use. Profit Margins Margins in in Distribution Distribution Are Reduced. In any field of of business business any field Profit in higher the risk risk element results in higher prices prices to the consumer. In In corto the element always corthe always results BS. 8S.

s. S.

in American Produce Exchange Huebner. in Exchange Markets (Philadelphia: Huebner, (Philadelphia: American

11. Academy of of Political Science. 1911). Social Science, Political and Social 1911), p. p. 11. Academy

Economic Functions Functions of Exchanges Economic of Commodity Commodity Exchanges

35 35

porate finance finance the the first first mortgage mortgage bondholder assumes relatively relatively little little porate risk and may may obtain a fixed fixed return return of 4 or per cent. cent. Second-mortgage or 5 5 per risk obtain a of 4 Second-mortgage investments involve involve greater risks to to lenders first-mortgage money money lenders than first-mortgage investments greater risks and command larger larger returns. returns. The holder holder of preferred stock shares the stock shares the of preferred risk of though he he enjoys enjoys precedence holder of the holder of over the of ownership, risk and, though precedence over ownership, and, stock in the payment payment of of dividends dividends and the the distribution of assets, in the distribution of common stock assets, the fixed fixed rate rate of of the the preferred preferred dividend dividend may may yield yi~ld aa higher the higher return than that of bondholder. The owner of of common stock stock assumes the the highest that of the the bondholder. highest a degree of risk, and his profits-if the enterprise is a successful one-may if is successful his of the risk, onemay degree enterprise profits be unlimited. unlimited. be Similarly, in the the commercial field, the greater risk of the dealer, dealer, of the the risk field, the Similarly, in greater the producer, or manufacturer, the wider be his margin of profit. or must be his of the wider manufacturer, margin producer, profit. Let us assume that, that, in in business business A, A, experience over the years has shown that has that us the over years experience an average average of of 25 25 per per cent of goods, goods, stocked resale, will unsold will remain unsold cent of stocked for for resale, at cut at the end of of the the season season and must be cleared In enterprise cleared at at the cut prices. prices. enterprise cent of of its It requires B, 100 per per cent its stock stock is is sold. sold. It mathematical demonB, requires no mathematical stration to indicate indicate which proprietor, proprietor, in in order to avoid bankruptcy, bankruptcy, stration to order to unit he must obtain aa larger margin of profit on each unit sells. In every of sells. larger margin every profit the or mercantile field, the margin of profit on perishable goods or goods affected of field, margin goods affected profit perishable goods of style by changes wider than than the the profit profit margin margin on staple by style must be wider changes of staple articles. articles. The operator rid himself himself of the risk to price price change of the risk incident incident to operator who can rid change can afford to do business business on aa far far smaller margin of profit than than one who afford to of profit smaller margin cannot shift that risk. risk. In every every phase phase of the sugar of the or grain shift that market, where sugar or grain market, insurance by by hedging hedging is is widely widely employed, this condition exists. insurance this condition exists. The employed, elevator owner or or the the miller miller or or refiner refiner can protect hedging elevator himself by by hedging protect himself his purchases purchases of sugar or his forward sales his of wheat or or raw sugar or his sales of flour or of flour or refined refined much is a smaller spread here between the sugar. Consequently, there is a smaller there here the spread sugar. Consequently, price paid paid by by the the consumer and the the price price paid the producer producer than than is is to to price paid the be found in in any line hedging is not possible. Similarly, the price be line where is the any hedging possible. Similarly, price received by by the grower is nearer the paid by by the the textile textile cotton grower is nearer the price the cotton received price paid if cotton manufacturer than than would be be possible, possible, if not proprocotton operators manufacturer operators could not the tect themselves themselves by by exchange operations from the and credit market tect credit exchange operations risks involved in price changes. changes. in price risks involved A statement before the the Joint Congressional Committee on the statement before the EcoEcoJoint Congressional Report (December 1947) expresses clearly the many benefits to nomic Report the benefits to (December 1947) expresses clearly many farmers' co-operatives to to be be derived derived from the use of exchanges farmers' co-operatives the use of the the grain grain exchanges purposes: for insurance for insurance purposes: is Roy D. My name is My position position is General is that that of of Secretary My Roy D. Crawford. My Secretary and General of the Union Manager of the Farmers Jobbing Association-a terminal co-operative Association a terminal Manager Jobbing co-operative marketing purchasing agency by farmers. 250 controlled by farmers. Some 250 marketing and purchasing agency owned and controlled local co-operative local associations comprise these local local assoassoco-operative associations membership, and these comprise our membership,

36

Commodity Exchanges and Futures Trading and Futures Trading Commodity Exchanges

ClatlOns are are in in turn turn ciations

owned and controlled themselves. controlled by the producers by the producers themselves. My interest, and that that of of my my organization, organization, is behalf of of farmers is to to secure secure on behalf farmers My interest, the lowest possible possible marketing marketing cost cost for their products. products. We are the lowest for their interested in in the the are interested it affects as it the marketing marketing system the grain grain industry industry grain futures futures market market only only as affects the of the grain system of the public and the public welfare. welfare. We have have no interest interest whatsoever whatsoever in in the the futures futures market handling speculative from the the standpoint of commissions received for of commissions received for from accounts. handling speculative accounts. standpoint Our Association does not not accept such accounts. The futures market of the such Association does accounts. futures market of the accept in grain exchanges-in our case principally Kansas City and to some extent case Kansas to extent grain exchanges City principally in the Chicago-are vital cogs cogs in the marketing marketing machinery machinery of present distributive of the the present distributive Chicagoare vital use in disposing of the farmers' grain .... which we use in system of the farmers' grain. system disposing Future Future markets markets meet meet aa vital vital need need in in the the marketing marketing of of farmers' farmers' crops. crops. To function efficiently efficiently as hedging medium, medium, it it requires volume-constant volfunction as a a hedging constant volrequires volume umeto for hedging ume-to permit permit its use for hedging or or price price insurance by either producers or its use insurance by either producers or It consuming interests. It is almost universally agreed that our present marketing is almost interests. that universally agreed consuming present marketing machinery puts our our farmers' the channels of a farmers' grain of distribution distribution at at a through the grain through machinery puts but than any other commodity or merchandise-but I lower distribution cost than other or merchandise I lower distribution cost am any commodity in the fluid and liquid such in the absence of a fluid futures convinced that that it it would not not be be such of a liquid futures market. ever been which market. No substitute has ever offered could promise a near near has offered substitute system system promise a in to its a market. a approach to its in a free market. Our marketing system requires a marworth free marketing system requires approach all times times to to absorb wishes to ket which stands stands ready ready at the farmer wishes to sell, ket which at all absorb what the sell, he wishes wishes to to sell sell it it-not just when flour happen to to be in in the the not just flour mills mills happen whenever he market. Conversely, the the flour flour millers millers want aa fluid price protection protection fluid market for for price market. Conversely, at given moment moment-not just when the the farmers in aa selling farmers are are in not just at any selling mood. Such any given and selling properly to reflect sustained year-round buying reflect sustained to volume year-round demand selling buying properly must be be able to marshall marshall all elements and categories of our economy all elements able to of categories economy which bear in in taking taking aa share share of this risk burden. . . . can be be brought brought to risk burden. of this can to bear It the speculator gives to to our markets markets breadth breadth and liquidity. is the It is liquidity. Animated speculator who gives risks his to his judgment judgment on by the profit motive, the speculator risks his money to back his money by the profit motive, the speculator the future course of of prices, prices, and in in doing the gap this he voluntarily the future course bridges the doing this voluntarily bridges gap in a buying demand in way that achieves between selling selling demand and buying a way that no one else else achieves between . . If it is necessary that find some one interest, interest, or for the market. market. .... that we find If it or some is necessary for the at few interests, ,that may be be willing willing to to sell hedges) to us sell these these futures futures (or to us that may few interests, at our (or hedges) with a interest price-if have to try to up our buying interest a specific selling match our to if we have to buying try up specific selling price find it it difficult difficult or impossible interest on the the other side-we may well well find impossible to to accomother side we may interest be if trade at any given time. This be the case frequently, if in the pUsh this the case time. would trade in the this at frequently, any given plish in like futures markets were confined to those, like ourselves, engaged in specific operto confined futures markets those, ourselves, engaged specific operwaiting for ations against of wheat. wheat. If If we had to stand by, to stand ations for by, waiting against specific specific quantities quantities of quantity of hedges to Ito be be available available at the right price, we should the right right quantity at the of hedges should either either the right price, the opportunity to do the stand the chance the business, of losing or we stand the chance of business, or losing entirely entirely the opportunity to that should be forced forced to to quote a price for our that sufficierutly high wheat would be a for should be quote price sufficiently high to protect protect us us against against the the risk risk of any foreseeable foreseeable market movement. In In ~uch of any such an to event the distributive in the Ithe grain cost in distributive cost event the business, which II mentioned earlier, earlier, grain business, increased tremendously. would immediately immediately be be increased tremendously. Where we now do business business on margins margins of of onetwo- and three three cents cents per per bushel, then be forced forced one two bushel, we should then cents per to compensate or fifteen cents to margins of of five five- tenor fifteen the ten for the take margins to take per bushel to compensate for .

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Functions of of Commodity Exchanges Economic Functions Commodity Exchanges

37 oft

risks involved. A futures of that that character be of to futures market of character would be of little little service service to 4 4 those II represent. represent. those

risks involved.

The statement of Herman F. F. Skyberg before the the same Joint Skyberg before Joint Committee on the the Economic Report Report shows the the value of the exchange to the the small of the small exchange to country grain elevators of the country: of elevators the country grain country: of the President of .... . . II am President the Farmer Co-operative Co-operative Marketing East Association at at East Marketing Association Grand Forks, Forks, Minnesota. Minnesota. II have have been been aa member of the Board of Directors of of the of Directors of that Association for twenty-five of its that Association for twenty-five of years, and its its president president its twenty-seven twenty-seven years, seventeen years. seventeen years. frequently own the the elevator grain on top During the harvest harvest rush rush we frequently elevator full full of of grain During the top in of that is that is in the cars its way to market, which is as the grain box cars of the on its as much as the to which as is market, grain way at some times. times. We cannot with aa capital capital of another bushels at another 30,000 cannot afford, of 30,000 bushels afford, with take chances to take chances on the the price price going of wheat. wheat. $50,000, bushels of 100,000 bushels $50,000, to going down on 100,000 If it it would wipe out it If it went down 25 cents aa bushel, bushel, it half our capital, and, if it 25 cents half out wipe capital, and, if went down 50 50 cents cents aa bushel, bushel, we should should be be broke broke on 100,000 bushels. 100,000 bushels. With the the present present marketing marketing system to have protection not have have to system we have protection and do not fast as as our our manager manager buys buys grain from members, he sells futures carry risk. As fast this risk. sells futures members, he grain from carry this in the Minneapolis Exchange of that we have have in the of a a like like amount. This This means that Minneapolis Grain Exchange the in sold in the market, and, whether the the grain bought from the farmer from farmer and sold the the whether the and, market, grain bought or we are affected. or down, are not affected. This gives us security and insurmarket goes up not insurus down, goes up gives security ance.... ance. If not have have ,this market, we could could buy buy grain farmer members this market, our fanner If we did did not grain from our sell from day to in the it might take us only could sell the amounts which we could us day to day, day, and it might take only in our harvest. harvest. many months to to dispose dispose of of our many Suppose no hedging hedging market. market. We would not not dare buy wheat, that we had no dare to to buy wheat, Suppose that not get get to to market market for for aa month or three or which might might not or even three or four which four months, months, in order without taking taking aa much wider wider margin margin in order to to protect without ourselves against the against the protect ourselves when it got there. possibility that prices might be lower it there. be lower that got prices might possibility association handles Besides wheat wheat and other other grains, grains, our association handles potatoes. potatoes. The potato potato Besides the is spread out longer than the wheat marketing season, marketing season is much season longer marketing season, marketing spread and we do not have have very very· many many potatoes potatoes on hand at at anyone time. Even so, do not and so, any one time. us much more worry worry than than grain because we have have to to be hunting potatoes give give us grain because hunting potatoes for markets all the the time, time, prices prices fluctuate rapidly, and frequently frequently fluctuate much more rapidly, markets all for hard to find. have quick and positive way of hedging buyers are find. no have to We of hard are quick hedging them positive way buyers and so have aa heavy heavy risk risk on potatoes potatoes which does does not wheat. not exist exist on wheat. so we have and .

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Exchanges Expedite Expedite Marketing. Marketing. The influence of the the commodity commodity Exchanges is manifest exchange on orderly marketing is particularly case of of the case orderly marketing particularly in the exchange grains, cottonseed oil, oil, coffee, coffee, sugar, commodities, cotton, cottonseed sugar, and other commodities. grains, cotton, the production of is seasonal. The wheat crop is harvested and seasonal. is is harvested which of the production crop is picked and ready time. Cotton is to market within a few months' time. moved to picked ready 4

80th Congress, Hearings Before the the Joint Joint Committee on the Economic Report Report-80th Congress, First First Hearings Before

Session-December, 1947. Session December, 1947.

38

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

for the fall fall of the year. year. To bring the economic of the in the the market in for the bring out clearly clearly the function of the commodity exchange, it to suppose it is is but necessary of the function necessary to commodity exchange, suppose a in in with facilities society with such institutions in existence and facilities in existence no with no such institutions society to any way parallel to those they offer. The crop comes to market, to which offer. those market, they crop any way parallel in of pouring into the terminals by trainload and shipload in millions of millions the terminals trainload into by shipload pouring bushels or millions of bales. The harvesting harvesting is heavily concentrated, is heavily or millions of bales. bushels concentrated, but the demand for for wheat or or cotton cotton is is widely widely spread the year. the throughout the year. spread throughout The country country does does not not eat eat its its bread solely the fall, in the as it it eats eats its its crancranfall, as solely in the demand for for cotton cotton goods the year. year. berries, and the is spread throughout berries, goods is spread throughout the Some agency store the material and absorb the attendant risks. must store the raw risks. the material agency It be either the producer, producer, the the dealer, the manufacturer. Whoor the It must be either the dealer, or it. More important, however, ever stores the commodity also finance it. must finance stores the also ever commodity important, however, is the risk of of price price change change until until the the accumulated stocks stocks are sold. is are sold. the risk protection against against price price fluctuation fluctuation and without means of protection Without means of of stored commodities liquid collateral, it virtually aa of making stored it would be virtually collateral, making liquid but financial impossibility impossibility for crops to to be be absorbed at ruinous financial for crops at anything ruinous anything prices to producer; in fact, the the warehouseman, warehouseman, the the converter, the in fact, to the or the the producer; converter, or prices his as dealer buy only only as the commodity as his own capital of the dealer could buy as much of commodity capital force him to permitted, and the the price price risk risk would force to pay pay to to the the producer producer permitted, lower prices prices than than the the exchanges exchanges now make possible. possible. much lower as they they exist, exist, the the hedging hedging dealer dealer or or converter, Under conditions conditions as converter, who is able to to finance finance himself himself readily readily through through well-secured well-secured bank loans, loans, is now able his capital far more quickly othercan turn his often than he could could othercapital far quickly and more often wise he can carry his business with smaller capital. can wise do; he on his business with smaller do; consequently carry consequently capital. the hypothetical hypothetical regime regime we have imagined, it is is probable that, Under the imagined, it probable that, if price price stability introduced at at all, be by by growth of huge huge if it would be all, it stability was introduced growth of in resources financial institutions, comparable in the greatest greatest of to the financial resources to of our our institutions, comparable industrial corporations, corporatlons, or or by by arbitrary price controls maintained by industrial arbitrary price controls maintained by ruthless governments. The competition thousands of of totalitarian governments. of thousands ruthless totalitarian competition of small disappear, and, and, although although prices prices might be stasmall merchants would disappear, stamight bilized, they they would be stabilized stabilized at at public public expense prices, taxes in prices, taxes bilized, expense in and freedom. freedom. Under the the exchange exchange system, the world's harvests flow flow to world's harvests to system, the market under free, free, competitive competitive conditions short conditions in in a a comparatively short comparatively time, are are absorbed in in orderly orderly fashion, fashion, stored, distributed in in accordaccordtime, stored, and distributed ance with the the needs needs of consumption. The spread in price between the of consumption. ance in the spread price is harvested season when the the crop crop is harvested and marketed and the the seasons seasons when it is so so slight slight as to be negligible. negligible. it is as to is consumed is of their their lack of appreciation of Farmers, because because of lack of or understan"ding Farmers, appreciation or understanding of and the benefits benefits of of the the exchange its and techniques of operation, its methods the of exchange techniques operation, with some exceptions, have failed failed-with exceptions, of of course-to take full full advantage courseto take of advantage of the the insurance insurance facilities facilities of of the the exchanges. This is due, in part, to their is in to their due, exchanges. part, lack of familiarity available methods of their exchange lack of of financing familiarity with available financing their exchange

Functions of Exchanges Economic Functions of Commodity Commodity Exchanges

39 39

operations. recent and widespread widespread development of farmer farmer operations. The more recent development of co-operatives resulted in in federal sponsorship has resulted co-operatives under federal subsidy has sponsorship and subsidy education in regard education of regard to to the possibilities of of of more and more farmers in the possibilities the exchange insurance device. rapidly the as an insurance device. In fact, are rapidly fact, co-operatives exchange as co-operatives are becoming members of of the the exchanges representing the in the farmers farmers in becoming exchanges and representing their hedging practices. co-operatives, through their high credit their The their credit hedging practices. co-operatives, through high standing, based on crop mortgages, which they may readily obtain from standing, based crop mortgages, they may readily obtain their members, their members, can now safely safely finance finance the farmers' exchange the farmers' exchange operations operations through liquid loans. bank loans. through liquid In the trade the the use use of to permit permit the cottonseed oil trade cottonseed oil of insurance insurance by by hedging hedging to the orderly absorption of the seed, as it comes to market, has been told the it told to market, has orderly absorption of the seed, as very simply clearly in the testimony testimony of in the of William A. before A. Storts Storts before very simply and clearly the the Committee on Agriculture Agriculture and Forestry Forestry of of the the United States Senate. States Senate. In response a question question as to how the markets help help the the to a the exchange as to response to exchange markets cottonseed trade, Mr. Storts or trade, cottonseed oil oil market or Storts said: said: It as any It helps helps it it the the same any other movement of in the the same as other commodity. of seed seed in commodity. The movement the year four months. fall of of the year is is very very heavy heavy for for three three or or four months. Nobody Nobody would would buy buy that that if you seed if did not seed you did not have have aa market market where where you you could it. The seed could hedge seed against it. hedge against as A moves, as you know, during the busy cotton season. vast volume goes the vast cotton season. volume moves, you know, during busy goes on the market. you did did not not have have aa hedge hedge market to protect protect you you or insure you market. If If you the market to or insure you again8t loss, loss, that seed would would remain remain with with the the farmer. not be be bought bought farmer. It It would not that seed against by anyone, unless it was at at aa very, very, very very low refiner ... buybuyit was with the low price. the refiner by anyone, unless price. But with ing the crude and hedging it with the future contracts, we have established a it with have established a the future contracts, ing the crude hedging 'this seed market which permits the the movement of of this at comparatively comparatively high high prices seed at which permits market prices the crude not use in contrast what formerly formerly prevailed. prevailed. Many mills do not use in with what of the crude mills contrast with Many of the market as aa hedge. hedge. Some of them do. do. The proper proper operation of aa crude crude mill, mill, of them the market as operation of the in my my opinion, opinion, when the the market market is used for purposes, is is to to sell for insurance sell the is used insurance purposes, in 5 market when he he buys buys his his seed. seed. That is his hedge. is his market hedge. s fall

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all Exchanges Form aa World Market. Market. The linking together of of all linking together Exchanges in different exchanges operating in the same commodity commodity but in in the different central central exchanges operating and foreign foreign markets markets makes for for aa uniformity uniformity of price (in terms of gold) terms of of price gold) (in if throughout the world that otherwise be difficult, if not impossible, not that be would otherwise the world difficult, impossible, throughout to attain. Over the the course a year's year's trading, trading, prices of a course of of standard grades to attain. grades prices of on the various cotton cotton exchanges in the States and elsewhere in the United States elsewhere the various exchanges for differences transnormally move together, together, and except to costs differences due to of transcosts of except for normally are portation, tariffs, tariffs, and handling handling charges charges from market to to market, market, they they are portation, of uniform. So the price price of the same quality of wheat (in terms of gold) in of terms of the So the uniform. (in gold) in quality Europe at Chicago, Minneapolis, and Winnipeg holds the same the at and Winnipeg Chicago, Minneapolis, Europe

under normal normal conditions, the only being those those incident to to differences being under conditions, the only differences 56

Regulation of Oil Futures Futures (Washington: Cottonseed Oil of Cottonseed (Washington: U. Regulation

p.

Office, 1928), 9. Office, 1928) , p. 9.

S. Government Printing S. Printing

40

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

to another and existing the cost of of transporting the wheat from one center center to the cost existing transporting the tariffs. tariffs. The commodity in normal times is not not so times is so much an individual exchange in commodity exchange as it it is is aa division division or of a countrywide of or world-wide or department market as countrywide or department it serves. commodity which it of serves. Throughout market for for the the commodity every hour of Throughout every each trading trading day, every quarter of the globe, having a direct a from the news of direct each globe, having every quarter day, or indirect indirect effect effect upon upon prices prices of of the the commodity, is being received and commodity, is being received weighed by by all all types types of traders who are of traders are expert expert in analysis. analysis. The mere weighed it can be presence of such a body of gives assurance that, so far as as it of of men assurance so far that, body gives presence accomplished by foresight, the events of the future will be human the events of the will be future foresight, accomplished by as reflected in price as soon as they can evaluated. Superior movements as be reflected evaluated. Superior they price financial resources or superior superior knowledge knowledge of to financial resources of conditions conditions do not avail avail to over seller or an give any buyer an advantage over any seller-or any seller advantage seller any any advantage give any buyer advantage forces greater over any any buyer. buyer. The price price movements are result of greater than of forces are the the result the knowledge trading capacity buyer or seller. the seller. They any one buyer They knowledge or trading capacity of anyone all all epitomize all the knowledge, all the beliefs, all the hopes, and all the all all the the the beliefs, knowledge, hopes, epitomize brains fears operators, including the best brains in the world's fears of of thousands of of operators, the best the including markets. this function function be discharged will perhaps perhaps It will Could this any other way? way? It discharged in any best to to rest rest with the the opinion of a Congressional Committee on this of be best this Congressional opinion phase of the activities: the commodity commodity exchange'S exchange's activities: phase

Only the futures market possesses possesses the the facilities futures market facilities for all the for bringing transacthe transacOnly the bringing all . . . . In the very nature of things, the spot tions of the into focus In the country into the focus. nature of the tions of ... very country things, spot is unable unable to to develop develop any such highly unified institution of price making market is market unified institution such of any highly price making and price price registration registration-spot trading necessarily necessarily being being conducted vast number a vast conducted at at a spot trading and sold. it of points, wherever wherever actual actual cotton cotton is of scattered to be scattered points, is to be bought sold. Thus it bought becomes clear clear why why the the highly highly developed developed futures market must tend becomes futures market tend to a to have have a very considerable influence in determining cotton prices, whatever the locality in cotton whatever influence considerable the very determining locality prices, is bought bought and sold. market conditions, in which spot cotton is in sold. General General market conditions, expressing spot cotton expressing in a the themselves a broad broad market market rather rather than prevailing in than the themselves in the conditions conditions prevailing in the as particular locality, largely determine the value of cotton in that locality determine the value of in that cotton particular locality, largely locality as well as as elsewhere. elsewhere. 66 well Professor Alonzo Taylor, Taylor, of of Stanford University, Professor University, a Canadian legislative legislative commission said: said:

ill testifying before before in testifying

The various various wheat futures futures trading trading exchanges world ought ought to be of the the world to be exchanges of common system: system: they are international rather than international rather than they are national these various various exchanges national in in the the broad view. view. Operations are interinterOperations on these exchanges are inter-dependent~they represent points of connection on a liquid related and inter-dependent related of connection a they represent points liquid world market. It world market. is to to be be regarded regarded as as aa significant of the the present present system It is defect of significant defect system that facilities facilities for for trading futures on established lacking that trading in in wheat wheat futures established exchanges are lacking exchanges are a as members of of a regarded as regarded

Senate Document 100, 6e The Cotton Trade, Part I, I, pp. pp. 68th Congress, 1st Session, 100, 68th Trade, Senate Session, Part Congress, 1st 103-104. 103-104.

Functions of Exchanges Economic Functions of Commodity Commodity Exchanges

41

in Australia. Also, in Australia. Also, despite the irregulariiy irregularilY of wheat, it is not of Asiatic Asiatic imports of wheat, it is not despite the imports of to be to be doubted that, that, if the establishment of a grain it were technically feasible, if it the establishment a of feasible, technically grain at a exchange at a central point in in Asia, Asia, such such as as Hong Hong Kong, Kong, would be central point be an advantage exchange advantage to exporting to countries. exporting countries. According to this view of of grain grain exchanges exchanges and trading trading in as in wheat futures, futures, as According to this of parts of an international system of marketing, the interests of surplus producing international the interests of parts system marketing, surplus producing countries as those countries are as important important as those of importing impol'ting deficiency deficiency countries. countries. are quite quite as is is is exceedingly complex, is surrounded by many cross currents, This system cross currents, system exceedingly complex, by many and exposed It is, exposed to to abuses. abuses. It however, impressively superior to the system to the of is, however, impressively superior system of cash of without futures-either by auctions, by exporters' cash merchandising of wheat without futures either auctions, merchandising by by exporters' disposition of supplies in importing countries, or by importers' collection of or by of disposition of supplies in importing countries, importers' collection in supplies in exporting countries. countries. supplies exporting If one will contrast the If will contrast the iii\o*!iii.iiioiit jll\(·':;:,:.lliolh into trading in in importing into futures futures trading importing and in for example, ( \|>i;:ii'.> '(1"1: :II~( countries countries-for in Great Britain and in America-it Britain in North America it example, of the clear that, that, with the the acceptance acceptance of the view view ,that becomes clear 'that the the system of futures futures system of narrows the between trading the spread producer and consumer, the question the consumer, trading spread producer question arises, to whom does the the saving, saving, the the gain accrue? Consumers in in Europe arises, to gain accrue? Europe have feared (that (that apart apart from the the participating participating traders) gain would accrue feared accrue to to traders) such gain have producers. Producers the over feared that (apart from the particithe world that the producers. (apart participating traders) traders) such such gain accrue to to the the consumers. In each instance, instance, gain would accrue pating the is felt felt that thaot most of of the the gain gain would accrue to the intermediaries. When, fear is the intermediaries. the fear accrue to When, however, one contrasts contrasts the the range range between consumers' price and producers' price however, producers' price price with the inclusive cost cost of of taking taking the the wheat from the producer and delivering the inclusive the producer with delivering it in ,the country, it it becomes clear that the gain repreit to clear that the gain to the the consumer in the foreign foreign country, represented in narrowing narrowing the the spread spread between producer have sented in producer and consumer must have accrued largely to producer or or to both. Economic reasoning or to both. to consumer reasoning on largely producer it that incident enters enters here. here. We take take it that the the orthodox answer would be that that the the incident gain is the producer and the consumer, not equally, but is always divided divided between the the consumer, gain always producer equally, and not not in in the the same proportions proportions from year year to the world to year. is, when the year. That is, market bears bears the the complexion market, producers producers are likely to of a a sellers' sellers' market, are likely to wheat market complexion of when has receive the the larger larger proportion proportion of the gain; the market has the complexion of the the receive gain; complexion 7 7 of buyers' market, market, consumers consumers are to receive receive the the larger larger proportion_ are likely a buyers' of a likely to proportion. (

Exchanges Level Level Prices Prices between Markets. Markets. The focusing focusing through the through the Exchanges full exchange of all factors influencing prices, with full publicity of all of all all factors of influencing prices, publicity exchange means prices and quantities of all exchange contracts, necessarily that all that of exchange contracts, necessarily prices quantities local or world markets will the prices prices of of commodities commodities on various various local will be kept the kept in close with another. another. in close alignment with one alignment transactions made on The continuous continuous price price quotations quotations derived from transactions of determining the floors floors of futures exchanges ready means of afford a ready the of futures determining exchanges afford prices in in different markets are are out of such aa of alignment. When when prices different markets alignment. of "arbitrageurs" condition exists, large large operations operations of promptly serve to to serve condition exists, "arbitrageurs" promptly is accelerate a return to parity. The arbitrageur is an operator who, when accelerate a return to parity. arbitrageur operator who, of for prices between markets are out of parity for temporary reasons, buys buys are markets out between reasons, parity temporary prices to Inquire in Grain Futures 77 Proceedings Proceedings of the Canadian Commission to Inquire into Futures into Trading of the Trading in (Winnipeg: Grain Trade News, News, 19tH) p. 315. 315. . 1931) •, p. (Winnipeg:

42

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

for future in the the cheaper simultaneously sells the sells the for future delivery cheaper market and simultaneously delivery in in for the same delivery in the dearer market, making same quantity dearer the the for his market, delivery making his quantity in profit not from a change in the price level hut from the return to normal but the level the return to change price profit not markets. of the the spread in prices between the markets. The operations of the the the two in between of operations of prices spread arbitrageurs themselves are a major factor in bringing about this return in are a factor this return themselves bringing arbitrageurs major to the normal, for for their their buying buying in in the the cheaper is an influence in to the normal, influence in cheaper market is in raising prices there, while their sales in the higher add to the their sales to while the market the there, higher raising prices pressure against against higher higher prices prices in in that that center. greater the the volume of center. The greater of pressure arbitrage transanctions, the earlier earlier the the return the markets return of of the markets to to normal transanctions, the arbitrage parity. parity. as they markets have have again again returned to to parity, parity, as they must in When the the two markets in is course when the the cause cause of of the the temporary temporary disparity is no longer active, due course active, disparity longer in the the market where he the operator liquidates liquidates his his position position by by selling he has has the operator selling in in market previously bought and simultaneously buying in the he has the has where he previously bought simultaneously buying In one one market market he he may may sustain but the the profit profit in in the previously sold. sustain a a loss, sold. In the loss, but previously other will usually usually more than than offset this loss, net offset this a net other market will loss, giving giving him a in to profit. For at time does the arbitrageur plan to be long or short in at no does be or time the short arbitrageur plan long profit. in of in one market he is is short the balance. What he he is is long long of of short of the market on balance. in to that his in the the other other market. market. He must be be on guard, however, to see that his pursee however, guard, purchases and sales in the the two markets markets are sales in are made simultaneously; otherwise chases simultaneously; otherwise he will find himself himself either or short net balance balance and therefore therefore either long short on net he will find long or as an arbitrageur, does not intend be subject to speculative risks which he, not risks as does intend which be to he, arbitrageur, speculative subject to assume. assume. to alert to presence of such aa body body of of operators, operators, always to take take advanof such The presence always alert in tage of opportunities for arbitrage, also aids in keeping the prices of for also aids the of arbitrage, tage of opportunities keeping prices contracts for all of delivery on the same exchange market all future future months of contracts for the delivery exchange in proper and normal alignment. price of of futures in proper the price futures for for one alignment. Should the rise above above normal normal parity parity with with prices months, or for other other months, month rise or should should prices for the price of one month become depressed depressed below the of one the level level of the price of others, for others, for the same arbitraging (or straddling) operation contemporary reasons, arbitraging (or straddling) operation contemporary reasons, the tributes to to lift lift the the price price of the abnormally abnormally low future pressure future or to exert exert pressure of the or to tributes upon the month which is temporarily too high and so brings back too them is temporarily so brings high upon the parity. to normal parity. to Buyers May Anticipate Requirements. Requirements. The existence of markets existence of markets Buyers May Anticipate or sell sell commodities in in any where operators may at at any any time time buy buy or desired where any desired operators may which not dislocated the quantity and at prices will not be dislocated merely by the execuat will execumerely by prices quantity large orders orders is inestimable benefit, to manufacturers manufacturers tion of is of of inestimable of large tion benefit, especially especially to materials. In the their needs needs for for raw materials. faU of wish to to anticipate anticipate their the fall of the the who wish a supply year, for for example, example, the the miller miller may may wish wish to to make certain supply of of certain of of a year, in the wheat flour he will will produce produce in the spring. To buy the wheat and the the flour for the wheat for buy spring. store it would be undesirable undesirable for reasons. In the the first first place, the for two reasons. store it place, the

Functions of Exchanges Economic Functions of Commodity Commodity Exchanges

43 43

in his miller's capital capital would be be locked up in his inventory for aa period period of of miller's locked up inventory for months. Then, in addition to the the loss loss of his capital, there addition to of interest interest on his there Then, in capital, are storage, are insurance, and other charges, as well as other charges, as well as shrinkage detestorage, insurance, shrinkage and deterioration, to to be be considered. considered. rioration, machinery of of the the commodity commodity exchange provides the the manufacturer The machinery manufacturer exchange provides with a means of of anticipating requirements without without locking his capwith anticipating requirements locking up up his capital or ital or warehousing warehousing the the actual At any time of the year he actual commodity. time of the commodity. any year he for may buy contracts contracts for the the delivery the commodity of as as much of of the as he he may buy delivery of commodity as wishes in in whatever whatever month or or months he specifies. the delivery wishes When the specifies. delivery may take take delivery the commodity he has has bought bought of the month arrives, arrives, he may delivery of commodity he is more likely) he exchange contract-or may have bought on his his exchange contract or (what have bought (what is likely) he may in of wishes the exact of he wishes in the spot market, simultaneously the exact grades wheat he the market, grades spot simultaneously reselling his his purchase purchase contract contract on the the exchange. or is an insurance insurance or exchange. This is reselling hedging operation performs the service of permitting requirements which of the service hedging operation performs permitting requirements to be anticipated anticipated at at prices prices satisfactory satisfactory to to the miller and without without risk risk of of to be the miller likewise may may use use the the exchange default of of the seller. Producers default the seller. Producers likewise for a a exchange for their or similar purpose, selling their products before they are harvested similar purpose, before are or harvested selling products they produced. produced. in Fair Continuous Prices Prices aa Factor Factor in Fair Dealing. Dealing. Caveat Emptor Emptor (let the (let the the buyer beware!) is of the widely of legal maxims. It is one of most known of It legal widely buyer beware!) presupposes that that the the buyer buyer realizes realizes that that the the seller goods seller will will present his goods present his presupposes in the the most favorable favorable light, short of fraud, and that he is not required in of that short he is not fraud, light, required by law law and will will not, not, unless unless specifically specifically asked, reveal circumstances circumstances or or asked, reveal by conditions the buyer from purchasing. There the conditions which would discourage discourage buyer purchasing. a group is no reason reason for attaching any obloquy to to sellers taking sellers as as a is for attaching for taking any obloquy group for They are usually better better informed than than buyers buyers-hence the this attitude. are usually attitude. They hence the this in this form. Where the the knowledge knowledge or the bargaining power of maxim in this form. or the bargaining power of the buyer buyer is however, the the maxim may well become caveat caveat is superior, the may well superior, however, vendor (let (let the beware) . In In a market where price records are not records seller beware) not the seller are vendor price published daily or where markets are local, fair trading ethics depend are local, fair trading ethics depend published daily or well the the buyer buyer and seller seller are are matched with with regard to informainformaon how well regard to tion as to conditions, prevailing prices, and financial resources-in financial resourcesin other other tion as to conditions, prevailing prices, words, on how well well their their bargaining bargaining power power is is equalized. words, equalized. Future markets provide provide aa continuous, record of of sales sales and Future markets continuous, day-to-day day-to-day record their prices, prices, available to all. all. Here, Here, contrary to the in the physical situation in the physical available to the situation their contrary to markets, the buyer, large or small, has advantage over the whether has no the over the small, markets, large advantage buyer, in so far as seller, nor the the seller the buyer, buyer, in knowledge of present as knowledge so far of present seller over the seller, nor is prices or prices for future delivery is concerned. This, of course, concerned. for future of or does This, course, does delivery prices prices to producer, not insure insure that that prices prices will will always producer, dealer, or not dealer, or always be satisfactory satisfactory to manufacturer. does, however, however, insure insure that that prices paid will be representawill It does, be manufacturer. It prices paid representative of supply will be based based on the the actual world-wide actual world-wide tive of supply and demand and will .

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

44 44

in the market at time rather rather than than dictated at the dictated by the chain chain market the time by whatever group group in of production production and distribution distribution happens happens to to have have the the strongest of strongest bargaining bargaining power or inside informaion not available to all. or not all. inside available to power Testifying before before the the Canadian Commission to Inquire into into Trading to Inquire Testifying Trading in in Grain Futures, James E. E. Boyle, of Cornell University, Professor James said. Futures, Professor Boyle, of University, said.

Price Barometer. the wide, wide, open, open, and competitive competitive market furnished by Price Barometer. On the furnished by the ,commodity exchange, buying and selling orders meet and a price modern the commodity exchange, buying selling orders price is registered. registered. The price price is is registered registered by by the the exchange, the is is not fixed fixed by exchange, but is by the exchange; the the exchange merely aa price price barometer. is merely exchange; exchange is The wider wider and more liquid liquid this this market is, is, the the more correct is the price so so the price correct is value, we must remember, remember, is not aa definite, objective, or or registered. Price Price or value, is not definite, objective, registered. fixed fixed thing, thing, but but is is rather rather aa market opinion, opinion, or based on or concensus concensus of of opinion, opinion, based known facts forecasts, and, with new of course, facts and on estimates estimates and forecasts, and, of course, changing changing with estimates the exchange estimates and forecasts forecasts based based on new facts. facts. On the the price price or or value value exchange the is It in is registered, registered, and so so II say say the the exchange serves as a price barometer. It is, in fact, as a barometer. serves is, fact, exchange price all grain It is service to interests best price price barometer. barometer. It is aa highly highly important service to all interests our best grain important values not merely to have, have, each each day, day, definite definite quotations quotations of of grain merely current values, to values, grain values-not but values for the the next next few months of of the the future. of futures tradbut of values for futures tradfuture. The accuracy accuracy I will ing as a price barometer is well to students of the grain trade. I will students of trade. as a to barometer is well known the grain ing price it is cite but one example, example, but it is typical. typical. cite selected ten II have selected ten normal years, years, free free from wars wars or disturbances, because no disturbances, because exchange can forecast a war, which, of course, disturbs prices. question forecast a of disturbs The course, war, which, question exchange prices. asked is, "Do the the buyers buyers who buy buy May May wheat futures futures in in the of December the month of asked is, the delivery accurately forecast the the price price of of May May wheat which is is realized delivery realized when the accurately forecast time comes in in May?" By taking statistics from the Chicago Board of for of Trade for statistics the time comes Chicago May?" By taking ten normal normal years years we wc find find that that the the forecast the future is of later of the the later future is forecast which the ten of the cash price price is is within within less less than than one cent in terms cent of actual price, stated in cash the actual or, stated price, or, Now of per cent, cent, it like 99 per cent correct. these years cent correct. these is something like 99 it is of per years were something per selected because there there was was no great disturbance, such as a war, to disturb the disturb as a to the selected because war, great disturbance, 8 8 take other other normal years, years, we get about the same results. barometer. If results. the If we take barometer. get It has the Exchange Exchange Stabilize Stabilize Prices? Prices? It has come to to be accepted as Does the accepted as by writers writers on commodity that the the machinery almost almost axiomatic axiomatic by commodity exchanges machinery exchanges that at of tends to prices stable or at least to minimize make more stable least or to tends to of the the exchange exchange prices at length It may their subject is is considered considered at elsewhere. It elsewhere. their fluctuation. fluctuation. This subject length may

be noted noted here, here, however, however, that that the the machinery machinery of gives of exchange be exchange markets gives the ample scope for operations on the buying and the selling sides. both the for sides. buying selling operations ample scope that is, existence of breadth of the market market-that is, the the existence of a large of The breadth of the large number of buyers and sellers-is a condition condition which operates sellersis a against sudden and buyers operates against violent upward upward or or downward price price swings. This, of course, of is .relative. violent relative. This, course, is swings. Price changes of great extent extent do occur occur on the the floors floors of of organized of great Price changes exorganized exIf a large changes as as they markets. If all commodity of specularge group commodity markets. they do on all changes group of specuif a lative sellers were not not ready ready to to combat an advancing market, or, a large lative sellers were or, if advancing market, large

127.

8s ibid., Ibid., p. p. 127.

Functions of Exchanges Economic Functions of Commodity Commodity Exchanges

45 45

group of ready ready speculative buyers were not not present of to take take advantage advantage of present to speculative buyers group of price declines, declines, would not not the the movements be more severe prolonged? severe and prolonged? price This matter matter is of proof proof on either either the the negative negative the affirmative difficult of affirmative or or the is difficult side. conservative summary summary at this point point would be that there is is strong at this that there side. A conservative strong evidence, in that contention, the balance of probabilities in support of that of probabilities contention, and the evidence, support of substantially the contention contention rather rather than the the reverse. reverse. favors the substantially favors Price Movements Discount Discount the the Future. Future. Experienced Experienced operators operators on tht:: Price the; stock that stock prices generally, not always, discount stock prices stock market know that always, discount generally, but not potential developments, favorable or unfavorable, by and somefavorable or weeks unfavorable, by potential developments, times months before before the the news of is made public. times of such is such developments public. developments Stocks, accordingly, often often sell sell off off when good Stocks, accordingly, out, and not good news comes out, infrequently they hold firm firm or or rise rise when unfavorable unfavorable news is is published. published. infrequently they in The development development has has been discounted in advance by expert discounted by expert operators. operators. Commodity prices prices can never never discount the future with the prethe same prediscount the future with Commodity in corporate cision. Experienced Experienced traders traders in corporate securities various cision. securities can analyze various analyze of profits a single factors bearing bearing upon upon the the course profits of of a factors course of single company company much more readily readily than they they can appraise appraise the the many many factors factors affecting affecting supply supply for a in world-wide and demand and prices prices for a commodity in world-wide use. Yet, use. as news Yet, as commodity statistical data which aid or statistical aid in in forming forming opinions to hand, hand, prices prices or opinions come to a higher move correspondingly, correspondingly, and the the adjustment adjustment to higher or lower level is to a or lower level is before crops, smaller or larger than normal, combefore smaller or than whether made long normal, larger long crops, mence to to reach the the market. market. In this this way way the the more distant futures serve distant futures serve as aa guide to opinion as to prices will be months in the future, and in to to as what will be the as future, guide opinion prices contracts in the the spot or physical are on the basis of these contracts in market are made the of basis these physical spot expectations. expectations. For example, during 1928, the wheat crop the United in the 1928, although example, during although the crop in States gave no promise promise of being large, large, reports came forth of aa bumper of of being forth States gave reports bumper in a crop in Canada, of a large production in the Argentine, and of larger the Argentine, of larger Canada, of large production crop in Europe yields in Europe and Australia. Australia. Europe, Europe, the the great for wheat great market for yields fill more of its exports, evidently be able to fill its own requirements, to of would be able evidently exports, requirements, while time larger larger export in at the the same time while at available in surpluses would be available export surpluses the the exchanges countries. Prices Prices on the of the the world began the exporting exchanges of exporting countries. began immediately-quite time before the crop-moving some time before the season was at at immediately quite crop-moving season hand-to decline, thus thus reflecting reflecting the the expectation hand to decline, of lower prices. expectation of prices. Such a situation, or its its reverse, reverse, is is constantly developing on exchange markets. situation, or constantly developing exchange markets. all exchanges both security exchanges-both security and commodity-there is generally On all there is commodity generally an are moving ascertainable trend trend of of prices. prices. They They are moving upward upward or downward, or ascertainable downward, or in they are'halting or oscillating in a area, preparatory to a major are or a narrow a to area, oscillating they preparatory 'halting major or minor movement. The effect of favorable favorable or is effect of or adverse adverse developments or developments is of time, thus spread out over aa considerable time, and both advances thus considerable period advances spread out period of are more orderly would be possible in a "thin" marthan in and declines a declines are "thin" orderly possible ket-one in there relatively few buyers or sellers. Although in which there were sellers. ketone relatively buyers Although

46

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

or because because the discounting of of future future events by price price movements in in the the the discounting or events by not markets commodity may not approach the exactness of the stock market, commodity may approach the exactness of the stock market, the fact fact remains that that market opinion never unanimous. The mere the is never opinion is of presence of groups of traders have formed conflicting as of traders who have presence groups conflicting opinions opinions as to the of prices to the future future of prices and will will buy buy or with their beliefs or sell in accordance sell in accordance with their beliefs is a constant assurance of orderly adjustment adjustment of to the is constant assurance of orderly of prices the probable. prices to probable. The Exchange Exchange as as a Source Source of of Trade Information. Information. From every part every part of the the world the the commodity exchanges gather of crop conditions of news of conditions commodity exchanges gather crop various statistical statistical data data bearing bearing on the the existing and various existing supplies, supplies, both foreign foreign and domestic, stocks on hand among among dealers or converters, dealers or domestic, stocks converters, shipments shipments in in transit to market, market, production, production, prospects production, transit from market to of production, prospects of in other prices in other world markets, markets, increases in consumption, or decreases increases or decreases in prices consumption, and similar material of of value value to to exchange exchange members and the similar material trade. The stastathe trade. tistics are are published published daily or weekly summarized in detail in monthly tistics or in and in detail daily weekly monthly or yearly reports. reports. In seeking regisin regisor yearly sources of of information and in seeking out new sources the news tering promptly the to the exchange by telegraph, which the comes to tering promptly exchange by telegraph, telephone, radio, radio, and cable, the commodity further than cable, the exchanges go go further telephone, commodity exchanges to act act merely merely as as clearing centers of information for the to for trade. They the trade. They clearing centers of act as as barometers barometers for for the the trade, trade, publishing publishing the the news and simultaneously act simultaneously interpreting it in price price movements. The record record of is given given it in of quotations interpreting quotations is out by the exchanges daily for the benefit of the press and radio, the out by the exchanges daily for the benefit of radio, and press in each transaction throughout day the the quantity quantity involved involved in transaction and the the the day throughout the price at it is is flashed immediately by private wire, ticker is at it made is flashed ticker which wire, immediately by private price system, radio, all all over over the the country country and the the entire world. This, This, it it or radio, entire world. system, or should be noted, noted, is is not not possible possible on the the physical physical markets, markets, where should again again be each price and quantity-is and cannot be is confidential confidential transaction its price each transaction-its quantity the contract. disclosed by by the broker without without the the consent consent of of both parties to the contract. the broker disclosed parties to in addition to The price price record record of the exchange, value to to of the to being of value exchange, in being of those in futures, futures, is is an aid trade in With the aid to to the the trade in general. the deal in those who deal general. contract to to deliver, market's appraisal appraisal of the price price for for which, which, under a contract of the market's deliver, a unit of of the during some month in the the future future should sell, the commodity unit sell, commodity during the markets prices for delivery in other or on the physical may in other months for physical may be delivery prices intelligently. made more intelligently. field of of business Exchanges Regulate Regulate Speculation. Speculation. In every business where every field Exchanges buying selling is done, speculation plays a major part, though the the is and done, major part, though speculation plays selling buying that much of it is public appears not to realize that of it The builder realize not to is speculation. speculation. public appears to sell at a profit erects aa house house which he expects expects to profit is is a speculator; sell at who erects speculator; lot may it much the man who sold the builder builder the the lot may have bought it mucb earlier earlier sold the the bought residential because he foresaw the extension of residential building and wished to of the extension to he foresaw wished because building gain by his his anticipation of the the event. event. The dealer who purchases purchases stocks stocks anticipation of gain by market of aa commodity in the physical assumes a speculative risk. in risk. the When of speculative commodity physical the farmer plants his his crop, is speculating the price price farmer plants the weather, the crop, he is speculating on the weather,

Functions of Exchanges Economic Functions of Commodity Commodity Exchanges

47 47

at maturity, of his his crop crop at maturity, and aa dozen or or more casualties casualties which may may damage damage or destroy it. it. Risk-bearing speculation in upon or destroy in substantial exists upon substantial volume exists Risk-bearing speculation is essential essential to to every every exchange. exchange. Speculation on the exchange is reguis and is the exchange reguSpeculation lated by by the the exchange exchange and must be be carried with estabin accordance with lated carried on in established rules designed designed to to make speculators speculators as possible equal as nearly as possible lished rules nearly as equal 99 in in opportunity, opportunity, however they they may may differ and resources. in ability resources. differ in ability the exchange regulated; it is also is speculation on the it is Not only also harnessed exchange regulated; only is speculation to serve function as as a risk-bearer. risk-bearer. In the the of the to the description serve an insurance insurance function description of hedge in Chapter XI, emphasis is laid on its primary purpose-removal laid in is its removal XI, hedge primary purpose Chapter emphasis of risks for for dealer, dealer, producer, producer, or manufacturer. The hedge lifts of speculative or manufacturer. hedge lifts speculative risks the risk from the the shoulders the man in the trade, trade, but it in the it does not abolabolthe risk of the shoulders of ish assume it, and the chance of gain or loss ish it. it. Somebody else must else the of or loss it, Somebody gain through price fluctuation is transferred to the speculator. It is he It fluctuation is transferred to the is who through price speculator. the hedging hedging or insurance transaction transaction possible. possible. He is is an underundermakes the or insurance writer of the risks inherent in price fluctuations. Organized writer and spreader of the inherent fluctuations. risks spreader price Organized speculation insures that that there there will will always ready market for for every always be a ready every speculation insures at any purchase and every sale and, and, therefore, therefore, a market ready of every sale ready at any time of purchase the trading day to the risk the hedger wishes to pass on. the trading to the risk the wishes to assume which on. day hedger pass Although the protection afforded afforded by by the hedge is not absolute, it is is not the protection is the hedge absolute, it Although as certain certain as as most other of insurance. value of the hedge as forms of of the other "forms insurance. The value hedge varies-depending circumstances-in the degree to it in varies on circumstances the it affords to which affords degree depending protection, but the the opportunity opportunity to to secure major measures of protection secure major of protection protection, is ever present. present. is ever Exchanges the course its in the the Trade. Trade. In the course of of its Exchanges Promote Uniformity Uniformity in operations, the commodity exchange must establish its own standards establish its standards operations, the commodity exchange of contracts contracts and of of inspection inspection and grading or else adopt methods or else of those grading adopt those by the physical markets markets or, certain circumstances, by fixed by under certain fixed the physical law. or, circumstances, by law. Where there there are legal standards, standards, the the purpose the exchange is to to are no legal of the purpose of exchange is and adopt grades standards are in the general use in the standards which in the in are most use the adopt grades general physical trade, trade, as as well well as as to to make its with existing its practices conform with physical practices existing trade usages. Not infrequently the exchange to play play a leading leading trade usages. is able able to exchange is infrequently the in part in the improvement of trade practices. Its efforts are always directed of the trade Its efforts are directed part improvement always practices. in rules toward securing uniformity in rules and customs. Standards of customs. Standards of securing greater greater uniformity contracts of weighing, weighing, inspection, inspection, and '!I ad:II'!. whether established contracts and of established ",i;i<1:ir>. directly or merely adopted improved by the exchanges, or and the insure directly merely adopted improved by exchanges, insure in orderly dealing in the futures markets and create another close point the futures markets close create orderly dealing point of the futures the physical markets. of contact contact between the futures and the cash) markets. physical (or (or cash) Excha·nges as Regulators of Consumption. Price is the prime reguas Price the is Exchanges Regulators of Consumption. reguprime lator of lator production and consumption. High prices tend to stimulate of production tend to stimulate consumption. High prices production and to to discourage discourage consumption, whereas low prices prices operate production consumption, whereas operate conversely. regulatory effect of prices is in evidence in phase in The effect of in any evidence is conversely. any phase regulatory prices 99 For a a

detailed discussion, discussion, see see Chapter Chapter Ill. more detailed III.

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

48

of life, whether or not there there are markets. It It are organized of our economic life, organized markets. cannot be said, said, therefore, therefore, that that the the commodity as function as commodity exchanges exchanges function regulators of the rate of consumption or production. They do, however, the rate of do, however, regulators consumption production. They exert important stabilizing stabilizing influence. influence. Prices the exchanges exert an important Prices on the are exchanges are sensitive. They register register almost immediately the force the many sensitive. They force of of the immediately the many and varied factors factors which influence influence prices prices throughout the world. world. Because the throughout prices thus are brought into close relationship supply and demand with into are close brought prices relationship supply to a greater and because price price movements discount to lesser degree greater or lesser degree what it may the future future may may hold in in store, may be said the machinery machinery of the said that that the of the store, it exchanges enables prices to as regulators of the rate of conto function as regulators of the rate of conprices exchanges and volume sumption the of production the of production more efficiently efficiently than would be sumption the case case without organized organized futures futures markets. markets. the A Henry H. Gate, Cate, president president of Flour Mills Mills of America, A statement of Henry of America, Inc., of of Kansas City, City, Missouri, before the the Joint Congressional Committee Missouri, before Inc., Joint Congressional 10 the Economic Report Reporpo (December 1947) on the will in conclusion serve serve (December 1947) will to to illustrate illustrate effectively clearly the the practical practical economic benefits benefits of of effectively and clearly futures futures trading to millers, merchants, and producers: to millers, merchants, trading producers: Mills of mills located •.. Flour Mills of America, America, Inc., Inc., operates operates mitIs in Kansas, Kansas, Missouri, located in Missouri, .

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also operates operates thirty in the the and Oklahoma. Our company elevators located located in company also thirty country country elevators states of Kansas, Missouri, and Illinois, buy wheat wheat direct direct states of Oklahoma, Missouri, Kansas, Oklahoma, Illinois, where we buy In addition, addition, we operate terminal grain located in from farmers. farmers. In in Kansas from Kansas elevators, located grain eleva
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assure you that to not be be fully realized. Let me assure to men in in the the business business the may not the you that fully realized. may through price changes looms as one of the biggest factors in the as of in looms factors the the through price changes biggest business. The great quantities of held by by modern businesses businesses of of grain of this this kind business. grain held great quantities and the very considerable of price price fluctuation possible over the period period in in fluctuation possible over the size of the very considerable size which grain grain must must be be carried carried make the the risk risk so that it could easily wipe so great that it could which great easily wipe out the the entire entire capital capital investment investment of of an an operating out company. . . . operating company. Wheat comes the market as as producers producers elect to sell merely as as millers millers elect to sell it, not merely comes on the it, not of merchants may may wish wish to to buy buy it, the volume of grain bought may be and and merchants it, and the grain bought may be frequently is is very very large large in in relation relation to to any any demand existing the time, that at the so that time, so existing at frequently very amounts must be accumulated without knowledge knowledge of of when, when, where, where, large amounts very large what price price it it will will be be sold. sold. and at at what

risk of of loss loss risk

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10 This This Committee Committee had had under under consideration consideration aa proposal atlministrathe Truman administraby the proposal by be empowered to determine tion that the the Commodity Exchange Authority Authority be determine the the margin tion that margin Commodity Exchange empowered to to the by commodity exchanges to protect the exchange contracts from contracts requirements imposed protect exchange requirements imposed by commodity exchanges this to control default. Administration was was seeking this authority to control margins as a method as a method default. The Administration seeking authority margins is a a major major cause cause of of regulation regulation of on the the assumption assumption that that speculation of speculation, of of speculation is speculation, on inflation and deflation. deflation. inflation

Economic Economic Functions Functions

of Exchanges of Commodity Commodity Exchanges

49

price of of wheat is is aa world world price, price, and, the period period of The price of storage, harvest and, during during the storage, harvest on in is going in some part of the in every month of the year, with wide of the world in the of with going every part year, in swings in price frequently a result. a result. swings price frequently entire process process of of the the handling handling of the Covering the entire flour from the of wheat and flour Covering the to the consumer producer to the of flour, 'the coverage of risk in the absence of hedging of the flour, producer coverage of risk in the absence of hedging would constitute constitute an important part of of the for the the distributive distributive and the charge important part charge for processing services. services. But the the modern device hedging transf.ers device of of hedging transfers practically all processing practically all the risk risk and cost cost of bearing it it to to others, others, and the the community community is is thereby relieved the of bearing thereby relieved of of the the expense. those who delight in taking pay for are those risks and will will pay for delight in taking risks expense. There are the the privilege. privilege. But most men refuse refuse to to take take risks risks in with their their usual in connection connection with usual business ventures ventures and, them, insist which make business if they must assume them, insist upon and, if they prices which upon prices an ample ample allowance allowance for for these these risks. risks. Futures Futures markets markets afford opportunity for business men, afford an opportunity for business men, through through hedging, hedging, to transfer a a part to transfer part of of their their risks risks from their their own shoulders the shoulders to the shoulders to shoulders of of are more willing those who are in those willing to carry in the hope of gains through price them the of gains through price carry hope fluctuations. evidence to to suggest suggest that market, fluctuations. There is in the is evidence that specu'lators the wheat market, speculators in as the risks of as a group, group, pay pay heavily heavily for for the the privilege privilege of the risks of wheat price of carrying carrying price I changes; so far as I aware, there is convincing evidence that speculators so far that as am there no evidence is aware, changes; convincing speculators in the wheat market, in the market, as a group group and over receive any any large over a as a a period of years, years, receive large period of for carrying the risks they assume. Whether speculators in the the reward for the which assume. risks carrying they speculators in of markets, in in fact, fact, do pay pay for for the the privilege of carrying the risks of price wheat markets, the risks of carrying privilege price is clear changes or do receive receive some remuneration remuneration for for their their risk-carrying, that it is clear that risk-carrying, it changes or they carry the risks for a smaller charge than would be exacted for the same be for the than exacted risks for a smaller the charge they carry service by elevator operators, millers, millers, and the the like like.. . . . service by elevator operators, In every year there is a large of to is farmers' hands to a wheat from farmers' In movement of large every year there market following following the the harvest. harvest. . . . This is is what is known in the trade as the in the trade the as is "01« I. •••. : period" because because of of the the large large quantity which moves at that time at that ";u
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Commodity Futures Trading Trading Exchanges and Futures Commodity Exchanges

50

it is is acquired, sell wheat becomes becomes available the market, market, and, the futures as it futures available on the wheat and, as acquired, sell out the This again is a familiar and used of hedging contract. much used is a familiar method of contract. This hedging which again protects the miller against price changes. Whether the wheat goes up up market miller the the goes against price changes. protects or makes no difference difference to to the the miller, miller, because because in in either either case there is is an or down makes case there offsetting operation operation in the futures market which keeps price. . . . the price. in the futures market keeps him even on the offsetting as price II have have discussed the usefulness usefulness of insurance futures markets as of the discussed the the futures price insurance the of free through the process of hedging, the benefits of a free and liquid but benefits of futures the hedging, liquid futures through process market to to the the trade trade and 'and to to the the public public extend beyond beyond the risk. the avoidance of risk. avoidance of market a Operators of business enterprises figure a return on the capital invested return the must invested of business figure capital enterprises Operators as aa part part of of their their costs costs of of doing doing business. business. It therefore, that that the It follows, the greater as follows, therefore, greater the investment required, the greater the margin of profit be. By By the the must be. of investment the capital margin greater profit capital required, reason of of the the availability availability of hedging market, market, millers are ahl'e men are able of a a hedging millers and grain reason grain to operate operate on substantially substantially less capital than than they they would otherwise require, with otherwise require, less capital to risk of market corresponding benefits to the public. The elimination of ,the risk of elimination of the the benefits to corresponding public. men it possible for for these business to borrow changes through hedging it these business to makes changes through hedging possible of their from the banks on the the basis basis of of 90 per cent value of their grain the banks cent of of the the market value 90 per grain as low as as 11 inventories and at at rates rates of of interest interest as H per per cent currently. it inventories currently. Were it maintain not for this hedging hedging protection protection it a working it would be necessary to to a not for this necessary working is a capital 3~ to to 55 times times that that which is there is a satisis now required. Unless there satisrequired. capital from 3J faotory futures market, such basis of credit as now prevails could be granted of credit as futures no basis market, granted factory prevails to to millers millers and grain grain men. In order the greatest order for for the the futures futures market to to be of usefulness to to millers millers in in of the greatest usefulness protecting against price changes, it is that ,the be broad them it is important that the market broad protecting against price changes, important and liquidin liquid-in other other words, words, that that there there be be sufficient trade in in the sufficient trade the market to to make it possible possible for for the the miller miller to buy buy or or sell with minimum price price fluctuations. sell with it fluctuations. A thin thin market-one with with aa small small volume of trade-makes makes it it difficult for ,the marketone of trade difficult for the miller miller to to execute his hedges hedges and subjects subjects him to to wide fluctuations result fluctuations which may result execute his may in losses. losses. in . . . Some have have thought thought that that the the futures futures market should be be confined to those those confined to wish to to hedge hedge grain; grain; that that is, is, [it should function] solely as an operation against who wish should as function] solely operation against [it specific cash grain. in the the market know that that it it could be could not not be grain. Men experienced experienced in specific cash maintained under such such conditions for the the reason reason -that a comcomthat there conditions for cannot be a there cannot plete coincidence coincidence in point of of time time or or in in volume. There must be others others in the in point in the plete market ready ready at at all all times times to to trade trade against against any hedging transaction. Such transaction. men any hedging are also the are called called speculators. speculators. They the men who carry the risk. risk. are also They are carry the A large of trading is essential to a good hedging market. A large is of essential to volume good hedging market. large trading large is necessary to obtain a true trading in the futures futures market is true expression expression volume of of trading in the necessary of values. Large results in in minimum fluctuations, thin market of values. a thin fluctuations, whereas a Large volume results causes fluctuations. Obtaining Obtaining and expressing the true value of grain grain is is the true causes wide fluctuations. of expressing important public public function, jealously guard. the exchanges an important function, which the exchanges jealously guard. to express, Speculators because they they have come to are important there is is express, where there Speculators are important because aa bona fide market, the the best best judgments judgments of the world on the the value value of the 'commodifide market, of the of the commodiin which they ties in they deal. deal. • . . ties .

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of the After the practical practical benefits benefits of the exchange, it is After this this testimony is testimony on the exchange, it of function appropriate that consider the function of speculation in futures consider in that we the futures speculation appropriate trading. trading.

~

CHAPTER

CHAPTER

III I ll) J

Speculation-A Constructive Economic Speculation A Constructive Activity on Commodity Conunodity Exchanges Exchanges Activity

Not infrequently infrequently commodity (or futures) as distinguished commodity (or distinguished exchanges, as futures) exchanges, from the the physical physical (or cash) markets, are referred to as speculative are referred to as markets, (or cash) speculative markets. The term is not incorrect, if its application is clearly underis not if its is incorrect, clearly underapplication If it stood. If is used to a vehicle stood. it is to imply that the the futures is solely futures market is vehicle imply that solely a for speculation, is the for the phrase is merely a demagogic catchword. If it is used it catchword. If is used merely speculation, phrase demagogic and understood to to mean that that speculation speculation is vital and integral part is a vital integral part of the the work of of the of the futures futures markets, markets, the the definition less faulty. definition is less is faulty. The commodity are of benefit to to of direct direct and inestimable inestimable benefit commodity exchanges exchanges are the physical physical markets markets in in affording affording facilities insurance or facilities for for insurance or "hedging" "hedging" purchases and sales-insurance sales-insurance that that cannot be be effected in any way effected in other way purchases any other in our modern society. society. Through Through the the transfer transfer of risks from producers, producers, in of risks merchants, and manufacturers manufacturers to to speculators, the price to the consumer the to the merchants, speculators, price is to the the producer producer is higher than would otherwise prevail. or that that to is higher is ,lower lower or otherwise prevail. exchanges and the the speculators operating here are consequently here are The exchanges speculators operating consequently performing economic functions vital to the public functions vital to the interest. public interest. performing in the the Distribution The Function Function of Speculation in Distribution of of Staples. of Organized Organized Speculation Staples. The statement statement of of Mr. Harry Harry Shere the Joint Congressional Shere before before the Joint Congressional Committee on the the Economic Report Report (December (December 1947) 1947) emphatically emphatically illustrates the practical necessity necessity for trading and the the economic for futures illustrates futures trading the practical functions organized speculation the distribution grain: of grain: of organized distribution of functions of speculation in the ... II am vice-president vice-president of of the the Van Dusen, Dusen, Harrington Harrington Company Minneof MinneCompany of apolis, Minnesota. conduct a general grain, milling, and feed business, in a feed We conduct Minnesota. business, in general grain, milling, apolis, connection with with which we operate terminal elevators. . . . terminal elevators. connection operate All of us us agree is in the direct direct interest producer and consumer alike alike in the it is interest of that it of producer All of agree that that have in this country a marketing system is efficient and operates which a is this efficient we have in that marketing system country operates 'a't the the lowest lowest possible possible cost. I,t follows follows that that any confeature of of operation cost. It at any feature operation which conbenefit of tributes efficiency and low cost is also the direct producers to the direct benefit also to of producers cost is t6 that that efficiency tributes t6 is futures futures trading. feature to to which II refer refer is trading. It It is is the the foundaconsumers. The feature foundaand consumers. to it to tion of the the whole whole grain marketing system. look to it to absorb the We absorb stone of tion stone the grain marketing system. of the vast risk of of price price change change inherent inherent in the ownership of the vast quantities of grain in the of risk ownership quantities grain buy. The futures futures market market enables us to to perform perform our specialized enables us we buy. functions, specialized functions, .

SI 51

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Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

52 52

the pw< (',~illg of of grain, grain,. with with maximum efficiency at a a minimum the storage storage and processing efficiency and at of price price difference difference between the the net net return return to to farmers the net cost to to conconof farmers and the net cost sumers sumers.. . . . .

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In this this country country aa very very small small proportion proportion of the grain which leaves leaves the of the the grain crop crop which in the is consumed in the area area where where it of grain it is farm is is produced. The gathering of gathering grain produced. in production in production areas areas and its its distribution distribution to the areas are most to the areas of of consumption consumption are important functions of of our our marketing marketing system. system. The farmer finds finds an immediate immediate important functions at the local country elevator. The country elevator, market for for his his grain grain at the local country elevator. country elevator, howfor local sell for local consumption but an insignficant proportion of of its purever, can sell its purever, insignficant proportion consumption but chases from farmers. farmers. Furthermore, Furthermore, country country elevators have aa limited limited storage chases elevators have storage capacity. At harvest harvest time time huge huge quantities producing areas areas of grain the producing quantities of grain from the capacity. for this are delivered to to the the local local country have aa market market for this are delivered elevators, which must have country elevators, grain in in order to accommodate farmers farmers who wish wish to order to their grain. to sell or store store their sell or grain. grain from consumers develops over the the entire year. It not constant. constant. entire crop It is is not Demand from develops over crop year. accordingly, periods periods when mills mills and processors processors are in the There are, not in the are not are, accordingly, at such a It is elevator operators vital is at such times times that that terminal terminal elevator a vital conmarket. It market. conmake operators tribution uninterrupted market. market...• to a a smooth, tribution ,to smooth, uninterrupted Terminal merchants merchants and elevator perform two major major functions. elevator operators functions. operators perform to They provide storage capacity to carry large quantities of grain cannot of which cannot carry large quantities grain They provide storage capacity be consumed immediately, immediately, but but must be be held held against future demands as these as these be future against crop year. They further provide equipment develop over over the the entire entire crop further demands develop year. They provide equipment the many in their terminal elevators to process process grain for the varied consumer in elevators to their terminal grain for many and varied requirements. total storage capacity of all terminal elevators in the United United of all terminal elevators in the The total storage capacity requirements. States million bushels. bushels. In Minneapolis Minneapolis alone there in excess of seven seven hundred million alone there States is is in excess of in 91 million bushels of storage space; in Kansas City, 61 million; in Buffalo, are in Kansas 61 bushels of million 91 are million; Buffalo, City, storage space; 57 million; in 50 million; 46 million; million; and in in in Chicago, in Duluth and Superior, 57 million; million; in Chicago, 46 Superior, 50 Omaha, 28 million--to only of the larger centers. Most of these some of centers. of to mention million the these Omaha, 28 larger only are ,the public and, as such, the physical physical grain elevators the depositories of the are public elevators are and, as such, are grain depositories of are federal is delivered futures contracts. licensed by a state state or delivered on futures contracts. They or federal which is They are licensed by a thereby qualified qualified to to receive, receive, for handling, grain agency for storage are thereby storage and handling, grain agency and are which they they themselves themselves do not not own. They They must must post bonds as the as dictated dictated by which by the post bonds licensing agency. Their Their warehouse warehouse receipts receipts are or federal are regi$tered with a a state federal state or registered with licensing agency. commission, and they they are are subjected to inspection inspection at regular intervals to satisfy at regular intervals to commission, subjected to satisfy the authorities authorities that that the the grain grain represented represented by warehouse receipts receipts is their warehouse is actually the by their actually of a proper in store is of proper grade. grade. in store and is with modern machinery machinery which constantly constantly These terminals terminals are are equipped equipped with with the the to keep pace with the changing demands required of
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Speculation Speculation

53 53

of other other industries industries which convert numbers of convert whole grain into human and animal animal grain into food and other other industrial industrial products. products . . . . food It is is generally conceded that It that terminal terminal elevator handle these these enorelevator operators enorgenerally operators handle quantities of grain economically economically and efficiently from crop year to crop mous quantities of grain to efficiently crop year crop well year. What is not so well understood is the fact that these competing terminal is the that not so understood is fact these terminal year. competing .

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their maximum contribution to the the marketing marketing process process enterprises contribution to enterprises can make their because because the the marketing marketing machinery, machinery, so highly developed in the United States so highly in the States developed over the the past past seventy-five seventy-five years, years, provides provides hedging hedging facilities, that is, insurance facilities, that is, insurance against the the risk risk of loss through through price price change. futures market which It is the futures of loss is the against change. It enables enables the the terminal terminal operator, in common with with all the distributive distributive all segments in the segments in operator, in to transfer system, to transfer this this price price risk. risk. // If speculation speculation is sufficient volume, is present in volume, system, present in sufficient the the futures futures market market is risk is readily transferred. If, on the is liquid and the other is readily the other the risk transferred. If, liquid ;w r* hand, speculation speculation is is driven driven from from the the market, market, hedging r"';':',:;i:. hand, hedging becomes i'oI a development difficult seen such a trade narrows. narrows. [Italics ours.] We have have seen development as the the trade difficult as [Italics ours.] function, that is, to to insure insure the the financial financial recently. Margins, which which have have only that is, recently. Margins, only one function, integrity of of the the futures futures contract, have recently beyond the the increased beyond contract, have recently been increased integrity has measure necessary as a result. that purpose. purpose. Speculation has diminished as a result. necessary for for that Speculation the placing Concurrently, trade trade has has narrowed and the placing and recovering recovering of of hedges hedges Concurrently, in As is case all fields against the grain buy sell has difficult. is the case in all fields the and sell has difficult. we become the against grain buy the smaller the risk to of insurance, the greater the of underwriters, the smaller the risk to the the number underwriters, insurance, of of greater each. each. So it it is speculation in in grain grain futures. futures . ... is with with speculation If the futures futures market were not not permitted permitted to provide If the to function function freely freely and provide elevator operators with with the the means of protecting themselves price themselves against elevator operators of protecting against price change, change, would their ability to serve the farmer efficiently be impaired. impaired. The their be serve the farmer and consumer to efficiently ability price difference difference between between producer producer and consumer would inevitably be widened. widened. inevitably be price At harvest harvest time, time, when many many farmers grain in large volume, the farmers are are delivering large volume, the delivering grain in the result would be be aa lower lower net net return return to to the the producer. producer. Later the crop crop year, year, as Later in as result penalty fall largely upon the consumer by way supplies decrease, the fall the would the by way largely upon penalty supplies decrease, of aa higher higher price price to to him. him. of of bank credit operators require require very very large to finance Terminal operators credit to finance large amounts of the grain they buy, buy, store, store, and process. process. Terminal elevator receipts the elevator warehouse warehouse receipts grain they are highly regarded regarded as for loans loans by by banks. banks. They regarded because becau5e collateral for are so are highly as collateral so regarded They are the terminal terminal operator, operator, who borrows borrows against has hedged the grain the grain, the against the hedged the grain and grain, has thereby protected himself himself against the risk risk of loss through change. If this If this of loss against the through price price change. thereby protected to restrict were not not possible, possible, the the banks banks would be be obliged obliged to loans, since restrict their their grain since were loans, grain they would be be secured secured by by collateral fluctuating value; value; it it would become difficult, collateral of of fluctuating difficult, they if not impossible, impossible, to to finance finance the the movement of crops. As a matter of a of fact, if not of grain fact, grain crops. of it is conceivable that, without adequate hedging facilities, many of the it without is entirely conceivable facilities, that, many adequate hedging entirely bank credit smaller elevator operators, operators, finding finding it it impossible to secure sufficient credit secure sufficient to smaller elevator impossible If that unhedged grain, grain, would be be forced to discontinue discontinue business. that should occur, occur, business. If on unhedged forced to the final result result could easily be be that that only only aa comparative few financially strong the final could easily strong financially comparative elevator interests interests would remain in this field. field. in this elevator ;>*>:.:;/;.

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Without Speculation Exchange Exchange Markets Could Not FuncWithout Organized Organized Speculation

tion. Providing aa medium for for insurance transactions is is the the principal principal insurance transactions tion. Providing

as a a economic the commodity commodity exchanges. function of of the alone, as economic function Hedgers alone, exchanges. Hedgers

54 54.

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

class, however, are not sufficiently sufficiently numerous, numerous, even with with all producers, all the the producers, are not class, however, manufacturers who constantly constantly use the exchange dealers, use both the dealers, and manufacturers exchange and the physical physical markets markets for both hedging hedging and non-hedging non-hedging operations, to for both the operations, to maintain the broad liquid exchange markets necessary for the perand for the the perliquid exchange markets necessary of the the insurance insurance function. function. Another group of traders be formance of of traders must be group harnessed into the the exchange exchange marketa market-a large of speculators, number of harnessed into large speculators, with , capital capital funds, willing and able are willing able to to absorb absorb with immense funds, who are credit risks risks which the the hedgers hedgers want to to shift to other other shoulders. market and credit shift to shoulders. distinction between between the the speCUlative trades and the trades The distinction the hedging speculative trades hedging trades If the of the the trader. trader. If intent of the is to in the the intention intention of the intent is to be found solely of the solely in at the operator at the time of the sale or purchase on the exchange is to protect time or the is to of the sale exchange operator purchase protect an existing in the or market position contract or position in the physical risks existing contract physical market from risks might otherwise long or of price price changes changes which might of otherwise develop or existing long develop from existing short positions-as in in the the case case of of aa farmer, of his growing crop, short positionsas of his farmer, long long growing crop, or or short short of of the the raw material material which it it converts converts into into a factory, or a factory, long long or finished products-it is a hedge; hedge; if the operator, whether if the of the is a intent of finished productsit the intent operator, whether a potential it is for a a he sells or buys, buys, is merely to to trade trade for profit, it is a speculation, is merely sells or he potential profit, speculation, but both both the the (long) purchase or (short) sale but or (short) sale of of the the speculative trader (long) purchase speculative trader for some non-speculative usually will will serve insurance hedge hedge for serve as as an insurance non-speculative operator. usually operator. In this this connection, it should should be be noted that the volume of that the actual of actual In connection, it deliveries of of aa commodity commodity on any exchange furnishes indication of furnishes no indication of deliveries any exchange the relative volume of hedges and speculative trades. The hedger hedger usually of hedges the relative usually speculative trades. elect to to deliver deliver or to take take deliveries contracts. does or to not elect deliveries on exchange contracts. does not exchange Neither does the speculator, a rule. rule. When the the need for insurance no for insurance as a Neither does the speculator, as longer exists, the the hedger hedger undoes his his 'hedge or buying longer exists, "hedge by by selling selling or buying what he had previously previously bought bought or or sold; sold; the does the same thing the speculator he does the speculator thing fix his wishes to to take take his his profit profit or or fix his loss, as the case may be. The the as when he wishes case loss, may be. important to remember is is that that both the the hedger fact to the speculator hedger and the important fact speculator insist on delivery of the actual commodity, can always always deliver deliver or or insist of the actual can if they delivery commodity, if they so choose. To assume, as is sometimes done, that the extremely small proas is that so choose. the small assume, done, extremely proportion of actual deliveries deliveries to to total total volume of of annual sales of actual sales on each each portion all that practically all trades are speculative exchange necessarily indicates that indicates trades are practically exchange necessarily speculative is to proceed proceed on aa false premise. It It would be be as to reason reason that that the the as logical false premise. is to logical to of facts facts means that that nearly nearly all all trades hedges, for both specusame state trades are for both state of are hedges, speculative trades and insurance insurance (or (or hedge) hedge) transactions transactions on the the exchanges as aa lative trades exchanges as rule are are closed closed out through the the clearing house without deliveries. house out through deliveries. rule clearing It is is our purpose purpose here here to to ascertain reasons for highly organized ascertain the the reasons for highly It organized in commodity futures, to examine carefully the speculative activities in to activities futures, commodity carefully the speculative many attacks which have been directed against speculation, and to analyze directed have been attacks which to against speculation, many analyze are made from time the various defenses time to to time. of speculation defenses of the various time. speculation which are not attempt attempt to to prove prove aa case case for for or speculation as such, or against We shall as shall not such, against speculation attacks and defenses but shall the validity validity of of these these attacks defenses and explain shall consider consider the explain ,

Speculation Speculation

55 55

vital and essential the vital essential economic functions functions which which risk-bearing risk-bearing spec. specplays in in the the workings workings of the futures markets in in staple of the futures markets plays staple commodities. commodities. Attacks on Speculation. Speculation. Speculative Attacks Speculative activity activity on commodity commodity exchanges exchanges has been and even has long long now (in a subject is a of frequent (in 1948) 1948) is subject of frequent and assaults from various violent assaults violent various quarters, quarters, including the federal federal government including the government at at times. times. Paradoxically, Paradoxically, speculation comes under attack from prounder attack from both both prospeculation ducers and consumers, the fires fires of the two two groups of the are generally consumers, but the groups are generally leveled during drastically different phases of the business cycle. leveled different of the business during drastically phases cycle. When are low at commodity prices are at the of a depression, the producer the bottom a of the commodity prices producer depression, is is the the most vehement critic critic of of speculation. speculation. It that the the It was no coincidence coincidence that exchanges the heavy fire of producing interests in the early came under fire of the in interests the exchanges heavy producing early the nadir 1930's, nadir of of the the last last major major downward spiral prices; of commodity 1930's, the spiral of commodity prices; a mere coincidence that nor is it a is it that agitation interests agitation from producing producing interests to a dwindled to a whisper whisper as as commodity prices swept upward to the highest to the commodity prices swept upward highest in in the prices in history in the major inflationary spirals from 1914 to 1920 and 1914 to 1920 history prices major inflationary spirals the powerful powerful influences from 1939 to 1948, of the 1939 to influences of the First First and Second Second 1948, under the If and when another downward swing in World Wars. Wars. If in commodity prices swing commodity prices the highly highly inflated inflated levels the Second World War period occurs, from the levels of of the period occurs, may again again expect expect violent violent attacks attacks from producers producers upon upon organized we may organized speculation's alleged depressing influence on commodity price influence levels. commodity price levels. speculation's alleged depressing government in in (October) (October) 1947 vigorously attacked The federal federal government 1947 vigorously attacked specuspeculation the wheat exchanges the country the prevailing prevailing of the of the lation on the because of country because exchanges of high prices. prices. Harry Harry S. Truman, President President of the United States, States, in public in a S. Truman, of the a public high statement placed the the blame for these high high prices speculation for these on statement placed prices speculation and demanded the the doubling doubling of the cash the exchanges. of the cash margins margins required by the exchanges. required by there are of of preventing are more effective As we shall shall see, effective means of abuses of see, there preventing abuses speculation, where they exist, than an arbitrary increase in margin in than increase where they exist, arbitrary margin speculation, requirements-a device which penalizes penalizes the the innocent the innocent along along with the requirements a device guilty, reduces trading volume, and destroys the breadth and liquidity breadth the reduces volume, destroys guilty, trading liquidity of exchange markets markets at the very very time time when these these characteristics characteristics are are most at the of exchange needed to prevent violent and disastrous fluctuations. fluctuations. disastrous needed to prevent violent In this connection connection an editorial editorial of the New York Times under date of of of the In this October 17, 1947, is decidedly in point, as follows: in as follows: is October 17, 1947, decidedly point,

ulation ulation

.... . . At aa press press conference conference at yesterday, President President Truman at the the White House yesterday, the expressed satisfaction with the progress of the food conservation program, of conservation with satisfaction the program, progress expressed which he. he .found signs of success. even as he making this stateas was stateof success. But this found showing which making showing signs as at were as ment in in Washington, futures M Chicago soaring a's high as $3.05 wheat futures $3.05 soaring high Chicago Washington, at between $3.02 a bushel bushel for for December delivery, dosing at a $3.02 and $3.03. $3.03. Now, delivery, and closing the government's the food program is not merely merely a question government's is not conservation program food conservation the question of the wheat for relief. It of acquiring 100 million bushels of additional wheM for European relief. It is is aa bushels additional million 100 European acquiring without serious to question of acquiring that serious disturbance to that wheat American question of acquiring

56

Commodity Futures Trading and Futures Commodity Exchanges Exchanges and Trading

is that prices. And the the unpalatable unpalatable fact that its begun to to justify justify itself itself fact is its policy has not begun policy has not in the to to date date in the latter latter respect. respect. On the the Saturday before the President launched his before the President launched his Saturday December wheat at program, wheat closed at $2.80. At the end of nine trading days yesclosed the At of nine $2.80. program, trading days yesit stood stood more than 'terday, than 22 22 cents cents aa bushel bushel higher. But an greater source even greater an even source terday, it higher. But of is that of concern is that Mr. Truman, Truman, instead instead of the situation, of facing the realities realities of of the situation, facing the still in the the commodity markets as as the the major major factor behind still stresses stresses "gambling" factor behind "gambling" in commodity markets the in food prices. the rise rise in food prices. It seems seems to to us It us that that it it is is time time for for some some plain plain speaking this issue issue of about this of speaking about "gambling." the President President began began his food-saving campaign his food-saving ten "gambling." When the campaign some ten his first first steps steps was was to to demand that that trading trading margins the days of his ago, one of days ago, margins on the commodity exchanges be raised from 17 per cent to 33~ per cent [of the value be raised cent from to cent the 17 value 33i commodity exchanges per per [of of of purchases purchases or or sales]. sales]. This was, we believe, believe, aa mistaken mistaken one, This course course was, one, stemming stemming volume of prices, on on the the from confusion confusion between between volume the one hand, hand, and prices, of activity, activity, on the in the other. The fact that wheat wheat prices prices in the United have been been the the other. United States are and have fact is is that States are is no futures In Canada, where there there now is market (and, lowest in the the world. world. In futures market lowest in Canada, where (and, is selling at therefore, presumably, no "gambling") wheat is cash wheat than $3.25 therefore, presumably, $3.25 selling at more than "gambling") cash a bushel; bushel; in Argentina it in the the neighborhood neighborhood of Truman's it is is in of Mr. Mr. Truman's of $6.00. a in Argentina $6.00. Those of persuaded him that that raising raising grain margins would reduce reduce advisers who persuaded advisers grain trading trading margins latest available available speculative were entirely correct on that that point. entirely correct activity were speculative activity point. The latest failed to it has has fallen 53 per per cent. they failed to realize figures show that it fallen 53 cent. What they realize was show that figures of thinned-out that, pricewise, the impact of government purchases on a thinned-out market the that, pricewise, government purchases impact a of was bound to be far more severe than on a market of large volume. of this kind than far severe market volume. to be more of this kind was large far in in the as far as they That explains explains why why prices prices have have risen risen 'as the past nine days they did did That days as past nine first week of of October. over
prices.

in grain In connection with the the charge that speculation grain was was the the cause cause In connection with charge that speculation in S. Vaile, of Economics, of high prices in in 1947, Professor of of R. R. S. a statement statement of of Vaile, Professor Economics, 1947, a high prices

the Joint University of before the of Minnesota, Minnesota, made before Congressional Committee Joint Congressional University is particularly interesting: on the Economic Report Report (December (December 1947) the Economic on 1947) is particularly interesting: of individual individual commodities It is common knowledge, knowledge, of that prices of course, It is course, that prices of others are other. Some are rising, rising, others are are continually changing in relation to each other. relation each in to are continually changing the falling, and still others are remaining constant. or constant. Generally, Generally, the dispersion dispersion or falling, and still others are remaining the several of the several commodities from one differences in the the movements movements of prices of of prices differences in in the has been true true in the 'post-OPA year's end to the next is considerable. This has post-OPA year's end to the next is considerable. the indicated as 1, 1 946-0ctober, 1947), as indicated clearly by the price history period (July clearly by price history period (July 1, 1946-October, 1947) of following 18 important basic basic materials: materials: 18 important the following of the ,

Speculation Speculation

57 57

RELATIVE PRICES RELATIVE Pcrcenlflf.!/.· Increase Increase of High the October 1947 1947 High of the Percentage the June over June 1946 Prices over the 1946 Prices

% %

% %

2 Rubber 6 6

Cotton

Zinc 21 21 Zinc 34 Sugar 34 Sugar 48 Copper Copper 48 54 54 Tin 60 Wheat

69 69

Steers Steers 72 Corn

Lard Lard Coffee Coffee Lead Rice Rice Cottonseed Cottonseed Oil Oil Hogs Hogs Steel Steel scrap scrap 140 Hides Hides

75 75 81 81 82 82 85 85 86 86 99 99 115 115

500 500 Cocoa

Average 90% Average 90% The average average increase increase for range from is 90%, with for the the 18 18 commodities commodities is 90%, with a range If the first and last are 2% to to 500%. the first last commodities commodities (both of which are imported) of 500%. If imported) (both are omitted, omitted, the the remaining remaining 16 a 70% 70% increase price, with with a range 16 show a in price, increase in range from to 140%. 6% to 140%. Wheat and corn prices at prices showed increases respectively, at of 60% increases of 60% and 72%, 72%, respectively, or just just below the the middle middle of of the the range range of of increases. bought and sold sold increases. Cotton, also bought Cotton, also on commodity commodity exchanges, exchanges, -showed is explained showed an increase increase of of only case is only 6%. (This case 6%. (This explained in in large part by the fact that there was OPA price ceiling cotton in June, June, in the fact on that no there was cotton large part by price ceiling 1946, in other words, the the price price already already had risen risen in response -to other words, in response to economic 1946, or, or, in demand before before June, June, 1946.) 1946.) relative price price increases negate the the charge These facts facts concerning increases appear to negate concerning relative charge appear to that operations that operations on grain grain exchanges in and of themselves have influenced in in in of themselves have influenced exchanges any major degree the price increases that have occurred. least it is apparent the have At least it that occurred. increases is any major degree price apparent that the increases in wheat, wheat, corn, corn, and cotton prices between June, June, 1946, that the increases in cotton prices 1946, and October, are less, less, rather rather than than more, more, than than average average increases increases among October, 1947, 1947, are among raw material prices. material prices.

only only

if established or monopoPrices, if markets, without without monopoly monopoestablished on free free markets, Prices, monopoly or listic practices and without interference by government with listic practices without interference by government with supply, supply, demand, or prices, prices, are determined by by the the free of supply of are determined free interplay demand, or interplay supply and demand. Professional Professional speculators merely anticipate market movements; market movements; speculators merely anticipate in anticipation they not cause cause them. them. They merely buy of rising buy in They merely anticipation of they do not rising of on their analyses of various supply and demand factors, prices, based based their various factors, analyses supply prices, in anticipation anticipation of of declining prices, when they they believe believe that that supply and sell sell in declining prices, supply will outrun outrun demand. When they they buy buy they increase total total will they temporarily temporarily increase demand,' and when they they sell they temporarily temporarily increase but total supply; increase total sell they demand, supply; but in due course course they they must sell buy and buy what they sell. sell what they sell. in due they buy buy they increase run neither nor in decrease in the long they neither increase nor decrease the Consequently, the the they long Consequently, supply or the or the demand. supply Usually professional professional operators able to to anticipate are able anticipate market movements Usually operators are

58

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

buy before before the the prevailing prevailing supply-demand prices up, factors put and buy put prices supply-demand factors up, or they sell before these these same factors factors put put prices prices down. Later, Later, when the the sell before they made general public is finally fully aware from subsequent developand is fully finally subsequent developgeneral public ments (which (which the the speculators speculators have have anticipated) that prices decline ments prices must decline anticipated) that the professional is of excess vice versa) versa), the professional speculator because of excess supply because speculator is supply (or (or vice ready to to buy buy what he has has sold sold earlier higher prices prices (or vice earlier at at higher vice now ready (or in the at the the very very time time when others the market, by current versa) at influenced by others in current market, influenced versa) news, are are selling heavily (or vice versa) versa) , thus transthe offsetting thus leaving news, leaving the offsetting trans(or vice selling heavily in of the the speculator as the only stabilizing factor in the at actions of factor market at as the the actions only stabilizing speculator overthe time. In other words, organized organized speculation, according to the overother words, to the time. the speculation, according of experts, experts, in in the the long whelming consensus consensus of long run prevents whelming prevents markets from rising as high or falling as as they otherwise the as otherwise would without the as or low as they falling rising high of leveIing influence of organized speculation. influence organized speculation. leveling angle of of attack has been that is gambling attack has that speculation Another angle gambling and speculation is therefore be abolished as morally morally pernicious. Coupled with abolished as therefore should be pernicious. Coupled with as a attacks on speculation as gambling, but deserving consideration as as consideration attacks deserving gambling, speculation is the the fact fact that that speculators relatively small separate complaint, is of relatively small means speculators of separate complaint, ill may lose relatively large the exchanges and that the ill effect lose sums on the that the effect relatively large exchanges may in afford of these losses on those who cannot afford them must weigh heavily those of these losses weigh heavily in the scale the acknowledged benefits which commodity the scale against commodity exchanges against the acknowledged benefits exchanges confer. confer. of Speculation. Speculation. Speculation, Defenses of as a a beneficent beneficent economic factor, factor, Defenses Speculation, as as being in the divers grounds grounds as being in the public interest. has been defended on divers interest. has public It is is claimed that, by by bringing bringing about a gradual gradual adjustment prices to of prices It claimed that, to adjustment of the contingencies which the speculator foresees, sudden and drastic rises the speculator foresees, drastic rises the contingencies in prices prices are are substantially substantially cushioned declines in cushioned and therefore and declines less therefore are are less abrupt disastrous, less injurious to producers, converters, and conless and to condisastrous, producers, converters, injurious abrupt they otherwise sumers than they otherwise would be without speculative speculative activity. activity. second defense defense is is that that organized organized speculation steadies prices; that A second steadies that speculation prices; in markets where organized speculation does not exist price changes does in markets not exist organized speculation price changes are whereas in fluctuations more ermtic, in organized are wider and fluctuations erratic, whereas organized speculative speculative markets prices prices move within within a much narrower narrower range; range; that that speculation markets speculation both the the peaks peaks and the the valleys smoothes out of price fluctuations. out both valleys of price fluctuations. third defense de£ense is is that that speCUlation welds markets markets together together by by keeping A third speculation welds keeping at it is at a normal parity. Finally, it is advanced prices between different markets different markets between parity. Finally, prices in defense in commodity commodity markets the risks risks incident incident of speculation that the in defense of markets that speculation in to price price changes changes may may be be shifted in the the public the shoulders to shifted in interest from the shoulders public interest of producer, producer, dealer, manufacturer to to an organized body (jf profesof df dealer, and manufacturer organized body professional risk-takers-the voluntarily accept them. the speculators, who them. sional risk-takers speculators, voluntarily accept Speculation and Gambling. In considering any controversial controversial subject Gambling. considering any Speculation subject it well to to have have clear-cut definitions at is clear-cut definitions at the the start. start. When speculation it is is well speculation is gambling, the the contention that speculation and gambling contention is branded as as gambling, is that speculation gambling ,

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Speculation Speculation

59

are the that the the poker poker player player is the speculator, are a speculator is a the same; same; that speculator and the speculator* trader is is a trader a gambler, or vice vice versa. versa. There is howis an obvious obvious distinction, distinction, howgambler, or the poker poker player player and the the speculator between the between occur speculator which must occur and clear-thinking clear-thinking observer. observer. The speculative speculative trader on a a commodity trader exchange finds present economic condifinds an ever ever present condicommodity exchange

ever, ever,

at once to every fair-minded fair-minded at to every

tion fluctuating prices, prices, based based on existing existing risks, risks, and endeavors take tion of of fluctuating endeavors to to take it it by anticipating the trends of prices. The poker player, advantage of of the trends of by anticipating advantage prices. poker player, joins with with other other gamblers gamblers in creating situon the the contrary, in deliberately situcontrary, joins deliberately creating ations out out of of which risks risks develop artificially, for the express purpose or for ations the develop artificially, express purpose or of hope of effecting a hazardous gain. Speculation thus differs fundamentally a hazardous differs thus effecting gain. Speculation hope fundamentally from gambling gambling in in this this important important particular: particular: the his own the gambler creates his gambler creates risk, whereas whereas the the speculator speculator merely merely assumes assumes existing risks, arising of out of risk, risks, existing arising out natural or or economic forces, forces, which presumably presumably he he analyzes scientifically natural analyzes scientifically before he he assumes assumes them. them. before distinction, however, however, does not go to stop That distinction, does not far enough. If we were to go far enough. If stop with this differentiation between speculation and gambling, should this differentiation we should gambling, speculation be compelled compelled to to meet the the more serious serious objection be of the the more analytical analytical objection of speculation the critic who draws his his analogy gambling between and critic analogy gambling speculation from the rather than than from the the poker poker table. table. He points out that the layel race track rather race track out that the points layei of bet on aa horse horse race race creates risks and merely profit a bet creates no risks of a endeavors to to profit merely endeavors uncertain factors factors inherent inherent in horse racingthe racing-the relative relative speed in horse from the the uncertain speed of aa number of short answer, of course, is that the layer of of animals. The short of animals. of is that of the layer answer, course, bet creates creates aa financial financial risk, risk, which would not otherwise while the bet otherwise exist, the exist, while the commodity speculator may be merely accepting the transfer of a be the transfer the of a merely accepting commodity speculator may previously existed. existed. risk which which had previously risk does the the speculator speculator in in commodities differ from the Wherein does commodities differ the man who bets-and presumably bets bets scientifically-on a horse race, considering and presumably horse bets race, scientificallyon considering of the entries, the conditions carefully the comparative past records of carefully the comparative past records of the entries, the conditions of the track, track, the ability of of the the riders, riders, and othcr other 'known the ability known factors? factors? A comparithe compariit is son of these these two two transactions transactions :>llgg(',h that it is necessary son of to go further Miyyc^ that necessary to go further than merely merely to to distinguish bctween creating risks and accepting accepting existing than distinguish between creating risks existing the nature nature of of the contract entered risks. consider the the risk risk itself. itself. Every risks. We must consider contract entered Every into by by every trader, speculative or non-speculative, sells or buys or into who sells or trader, speculative non-speculative, every buys on aa commodity commodity exchange exchange is is an obligation, by law, law, to to deliver enforceable by deliver obligation, enforceable for a a stated stated quantity or accept and pay pay a definite definite price price for of the comof to accept or to the comquantity modity at a definite time. Each purchase or sale temporarily adds to the time. or a definite sale at adds to the purchase modity temporarily total demand or supply of the commodity. of the commodity. or supply total buyer or or seller a commodity the instant of a seller of at the instant he The buyer he makes makes future, at commodity future, an of is the the purchase purchase or is integral part of the marketing machinery of or sale, the sale, integral part marketing machinery of some commodity commodity trade. trade. He increases increases either the supply either the of or or the the demand supply of at the for commodity at the moment. Whether he buys or sells-his purthe commodity sells his purfor the buys seller be from a hedging seller and his sale may be to a hedging his sale chase may be chase may hedging may be to a hedging

60 60

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

buyer-he performs an insurance insurance function. function. He may, may, at at his his own option, he performs option, buyer actually deliver the commodity or receive it; or he may step out of the the or receive deliver it; may commodity step actually transaction by counterpurchase counterpurchase or or countersale, countersale, as as the the case case may transaction by be, and may be, of the never receive receive or or deliver deliver aa single single bushel bushel or pound pound of the commodity. commodity. never Nevertheless, at time and for for aa time, time, he is the distributive is part of distributive at some time Nevertheless, part of the system useful economic function. function. is performing a system and is performing a useful Contrast the operations with those the man who bets bets of the those of Contrast the speculator's speculator's operations horse race race or bets the that the the or of of two gamblers, of whom bets the other other that on aa horse gamblers, one of price of rubber will be, say 5 cents per pound higher or lower at the end cents at of rubber will 5 or lower the be, say price per pound higher of day, week, week, month, month, or or year year and agrees basis of the the bet bet on the the day, to settle settle the the basis agrees to of such a wager of prices prevailing prevailing on the the Futures Futures Market. The layer wager of prices layer of clearly has place in the channels of distribution, performs useful in of no useful has no the distribution, performs place clearly in courts function, and for courts of of law. for that that reason reason has no standing law. economic function, standing in The speculator, because he performs performs a useful useful economic function, function, acquires acquires speculator, because duties. aa commercial commercial status status and legal right, but assumes corresponding but corresponding duties. legal right, increases supply The gambler gambler acquires acquires neither, neither, for he neither neither increases or demand; or for he demand; supply in the he renders service in the public public interest. interest. he renders no service Furthermore, every gambling gambling transaction transaction there in every there are are two or or more Furthermore, in must win others lose. parties; some one or more must and others lose. Speculation, or Speculation, parties; however, does does not not necessarily necessarily involve involve like us assume losses and gains. like losses however, gains. Let us that January to to May May the the price price of delivery for May rises cotton for that from January of cotton May delivery rises from 20 28 cents a pound, pound, advancing the even rate rate of at the of 2 cents a cents a to 28 2 cents 20 to advancing at in pound per Smith, a speculator, in January buys May cotton a cotton month. on Smith, pound per speculator, January buys May in the exchange at 20 cents; sells (or closes out) his contract in February closes contract at he sells his the 20 cents; out) February exchange (or by aa sale 22 cents cents to to Brown. Brown closes his contract 24 in March at contract in at 24 closes his sale at at 22 by cents by by aa sale to Jones, Jones, who in in turn turn takes takes aa 2-cent-per-pound profit in sale to cents 2-cent-per-pound profit in April by a sale to at 26 cents. in May closes out his a at Robinson his cents. sale Robinson closes to 26 May April by purchase by by aa sale to a converter converter of of cotton, to manufacture sale to cotton, who buys buys to purchase the price of cloth (which (which he he sells sells simultaneously) simultaneously), the of which was based on cloth price 28 cents for May cotton. for cotton. cents 28 May four speculators, speculators, everyone has made a profit profit of are four of whom has Here are of 2 2 every one of certain that pound. It It is that only only one person person could possibly have lost cents a pound. is certain lost cents a possibly If Smith's trades. 1£ in the this chain of of speculative purchase had Smith's purchase of this in the course course of speculative trades. been made from aa short the short but, if if seller would have lost; short seller short seller, been seller, the lost; but, Smith's purchase in January had been made from a liquidating holder in January holder Smith's purchase liquidating of speculative who was taking a profit, profit, we should have a series trades with with series of taking a speculative trades all profits and no losses. losses. Of course, the original producer of of the the all profits course, the original owner or producer for' if he chosen to speculate by holding the cotton for" a higher cotton, to a if chosen had he cotton, speculate by holding higher price, would have have made aa greater greater profit profit than he did did by by selling to Smith. Smith. selling to price, lose? He does not, cloth does he lose? of the of the purchaser of the cotton cotton cloth-does not, the purchaser What of in the the delivery month, May, the price of the May cotton future because in the of because future May delivery month, May, price the price price of of spot spot or or current deliveries deliveries come together together at, at, say and the 28 cents, cents, say 28 ,

Speculation Speculation

61

his purchase for cotton. Consequently purchase of cloth is is for Mayor of cotton cotton cloth May or spot spot cotton. Consequently his the current current price price of spot spot cotton. cotton. based on the After pointing pointing out that that legal legal distinctions distinctions between speculation speculation and gambling cannot properly by legislation so long distincbe made as the the distincgambling by legislation so long as properly tions are the subject subject matter or the the form of transaction, Dr. Dr. tions are based on the of the the transaction, Hadley, president of University, comments on speculation former of Yale Hadley, University, president speculation as follows: follows: as

difference between between legitimate in The difference lies neither neither in legitimate speculation gambling lies speculation and gambling nor in the subject matter in the form of the transaction, but in its intent and the matter the of the transaction, but in its intent subject purpose. Legitimate Legitimate speculation speculation involves involves anticipation the needs of the of the the market needs of purpose. anticipation of and aa power power to to assume risks risks in in making making contracts contracts to to meet meet these these needs. needs. 11

The law, as we shall shall see see later, later, enforces speculative the contracts where the law, as speculative contracts the he speculator (and the party to sells or from he buys) to whom sells whom is speculator (and party buys) is entitled under the the contract to to insist insist on delivery, or on delivery being entitled delivery, delivery being taken, if he so so chooses. chooses. taken, if States Industrial The United States Industrial Commission, Commission, in it') its extensive extensive Survey of Survey of Economic Condition of of the the United States, summed up the distributive the distributive States, up function of of speculation p. 28) 28) as as follows: follows: 6, p. (Vol. 6, speculation (Vol. of speculative in distributing Economic services speculative agencies, agencies, engaged services of distributing farm engaged in

products, are are threefold: threefold: products, They industrial risks risks among among aa commercial localize industrial class whose special commercial class They localize special places in in such is to distribute supplies over is to distribute surplus over deficit deficit times such times and places surplus supplies to lessen the uncertainty uncertainty of of producers producers and consumers. a way way as as to lessen the consumers. a 2. They relieve producers producers and consumers from carrying year's a whole year's 2. carrying a They relieve convert his into cash stock, enabling the the farmer farmer to to convert his crop promptly into cash capital stock, enabling crop promptly capital and the to supply supply himself, himself, as as his his periodical periodical needs may may require, require, without without enenlatter to the latter the rate of risk hancing prices beyond the ordinary rate of risk and returns of such capit:;tl returns of such ordinary hancing prices beyond capital investments. investments. 3. Competition dealers tends tends more than any force to to of speculative other force 3. any other Competition of speculative dealers a minimum unit of reduce profits profits of of these these agencies to a per unit of commodity handled. to handled. reduce agencies per commodity it is is to to their their interests Released functions, it interests to to seek other economic functions, seek to reduce to reduce Released from other distribution to to aa minimum. By By expert acquaintance with the conthe risks of with the of distribution conthe risks expert acquaintance ditions that involve risks, risks, the the hazardous hazardous elements limited, if not are gradually elements are if not that involve ditions limited, gradually entirely eliminated. eliminated. entirely 1. 1.

function function

in a speech speech delivered in the the Senate on July 22, 1892, White in Edward D. 'Vhite 1892, July 22, discussed the benefits of futures trading to the cotton planter as follows:to as of futures follows: discussed the benefits trading planter It gives a wider", wider: safer, safer, relatively relatively higher, higher, and less market. It less fluctuating It It fluctuating market. gives him a the cheapens the rate at which the producer obtains the money to make his the obtains to at his crop money producer crop cheapens the rate all who deal with the the producer to sell sell by producer to by futures by enabling enabling the the factor factor and all futures by is to the product product with with which which the the producer producer is to pay pay them, them, thus thus diminishing their the diminishing their the producer. risk to reduce reduce their their charges to the producer. risk and and enabling charges to enabling them to in The Functions 1 Twining Hadley, Functions Of Legitimate i Arthur the Legitimate Arthur Twining of the "Speculation," in Hadley, "Speculation," Exchanges (Chicago: Hartzell, Lord Company, p. 229. 1910) p. 229. Company, 1910), (Chicago: Hartzell, Exchanges ,

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

6s

It has has diminished diminished the the charge the middlemen by by drawing drawing the producer the producer of the It charge of sell for for future future delivery and consumer together, by by enabling enabling the the buyer buyer to to sell delivery and and consumer together, buy the the producer's producer's crop to fill fill his his future future sale, sale, already already made. crop to buy It has multiplied multiplied sellers sellers and brought brought them to to the the door of the consumer. of the It has consumer. It It them to has multiplied multiplied investors investors by by enabling to buy actual cotton and sell futures actual cotton sell futures has enabling buy against it at small advance advance to to cover cover interest thus making making the the interest and charges, a small at a charges, thus against it investment investment

safe. The investor, investor, having having sold his purpurfor future future delivery sold for safe. against his delivery against to no chase of actual cotton, is absolutely safe, is submitted to risk of fluctuation is risk of is fluctuation chase of actual cotton, absolutely safe, in the market, market, and, and, therefore, therefore, can can afford afford to to pay a better better price to the the producer. in the pay a price to producer. make better It has enabled the spinner to a better price to the consumer. buys the to the It has consumer. He buys spinner to price his cotton for consumption by means of a future contract, thus obviating the a of future contract, thus obviating the his cotton for consumption by the goods risk of a decline in the the market. market. He sells sells the he is is to to make from the the risk of a decline in goods which he cotton by aa future future contract, contract, thus thus insuring insuring a profit, profit, and thus thus enabling cotton by the spinner enabling the spinner to his business business on aa narrower, narrower, because because aa safer, profit. It to do his of profit. It has has brought safer, margin margin of brought centers of the cotton fields fields of the South nearer nearer to to the the great of American and the cotton of the great centers European consumption consumption by by diminishing diminishing the the risk, thus reducing the difference difference risk, thus reducing the European in price which formerly existed between cotton the producer producer in price in the the field cotton in field of of the formerly existed and that that cotton cotton at at the the door of of the the consumer. consumer.22

Professor Weld, says: Professor Weld, says: The functions of speculation speculation may may be be summarized under the three following the three functions of following heads: First, it largely makes possible the of risk the shifting of risk from the actual heads: First, it the actual mermershifting largely possible of commodities commodities to to aa body body of of professional risk-takers; second, it aids chandisers of chandisers it aids risk-takers; second, professional in in the price level and in regulating the rate at which the year's crop in steadying level the rate at the the regulating steadying price year's crop in adjusting is consumed; consumed; and, and, third, third, it it aids aids in prices between between different is different markets markets adjusting prices and hence hence in in regulating regulating the the flow commodities from producing producing to flow of of commodities to consumconsuming regions. 3S ing regions.

C. Emery Emery sums up up the the function function of of organized H. C. as follows: follows: organized speculation speculation as of fluctuating To relieve relieve trade trade of of the the risks risks of values, by by providing providing aa class class always fluctuating values, always ready to take or or deliver deliver aa property property at at the the market price to take in so so doing, to and, in price and, ready doing, to direct commodities to to their their most advantageous the investment investment of of direct uses, and the advantageous uses, for commodities capital the most profitable profitable channels, channels. by into the commodities and securisecurifixing for by fixing capital into 4 4 ties comparative prices prices for for delivery delivery at at different different times times and places. ties comparative places. The United United States has emphatically the States Supreme out the emphatically pointed Supreme Court has pointed out Chicago Board of Board of Chicago in the an Trade, the Court, in opinion by Justice Oliver Holmes, said: Oliver Wendell Trade, Court, Holmes, said: opinion by Justice

social benefits of speculation. speculation. In In aa case case concerning the social benefits of concerning the

This Chamber of of Commerce is, in the the first great market, market, where, first place, a This is, in where, place, a great is its hundred transacted a through its eighteen members, is transacted a large part the grain of the members, through eighteen large part of grain in a a modern market, and provision provision business business of of the the world. world. Of course, contracts course, in market, contracts are sales for are not not confined confined to to sales for immediate delivery. People will will endeavo~ to foreendeavor to foredelivery. People Congressional Record, Vol. Vol. 23, p. 6,565. 6,565. 23, p. Congressional Record, L. D. H. Weld, Weld, Marketing Marketing of of Farm Products Products (New York: The Macmillan MacmilIan Company, Company. (New York: 1916) , pp. 336-337. 336-337. 1916) pp. 4* H. H. C. Speculation on the the Stock Stock and Produce Produce Exchanges Exchanges of of the C. Emery, the United United Emery, Speculation States (New York: Columbia University University Press, Press, 1896) p. 113. States 113. (New York: 1896) , p. 2 2

8 8 L. ,

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63

cast future and to to make arguments arguments according according to to their their prophecy. prophecy. Speculation the future cast the Speculation is the of kind by by competent competent men is the self-adjustment of society the probable. probable. of of this this kind to the self-adjustment society to Its value is well known as as aa means of of avoiding or mitigating catastrophes, Its value is well avoiding mitigating catastrophes, equalequalizing prices, providing for periods of want. It true that the success of of want. It is and for is true that the success of periods izing prices, providing the that the induces imitation by the weak, and that incompetent persons bring imitation the strong weak, strong by incompetent persons bring in their themselves to to ruin ruin by by undertaking undertaking to to speculate their turn. turn. But legislatures themselves legislatures speculate in courts gt 11t·1.111y have recognized recognized that that the the natural a complex IK r, illy have natural evolutions and courts evolutions of of a complex be with cautious society are to touched only with a very cautious hand, and that such coarse touched that are to such coarse hand, very only society attempts at a remedy for the waste incident to every social function as a simple incident to a for the waste social as a at function every remedy attempts simple prohibition and laws to stop being are laws to its being are harmful and vain. vain. stop its prohibition <;<

Speculation Make for for Lower Prices? Prices? Many Many vigorous vigorous complaints Does Speculation complaints arise against speculation arise agricultural and other producers, inspired from other agricultural producers, inspired against speculation their by the inadequate prices their products sometimes bring on world-wide the world-wide products bring inadequate prices by markets as as compared compared with with the the heavy heavy toil toil and risks production. risks involved in production. markets involved in deal here There is intent to to deal here with problems of farm depressions of is no intent problems depressions and farmers. governmental subsidies to farmers. When speculation by to is attacked subsidies attacked by speculation is governmental as an influence producers or or demagogic demagogic politicians politicians as influence which lowers lowers prices, prices, producers of its there is is too often an imperfect imperfect understanding understanding of role; there its role; too often there is is perhaps there perhaps cost of of production more than than a tinge tinge of of the the fallacy fallacy that that the the cost production of of a a comits market price, in reality modity in a a free free price, when in modity should determine its reality in for a competitive for a staple commodity it is the economic law of market it is the law of staple commodity competitive supply and which, regardless of costs or other conditions in any demand of costs or other in conditions which, regardless supply any one locality or country, determines the price. determines the or country, one locality price. that Speculation Phases of Speculation Lowers Prices. Prices. Although Although the Contention that Phases of the it seems a the proposition proposition is is not not capable capable of of exact proof, proof, it reasonable supa reasonable the supa depressing exerts a if position that, if speculation exerts influence on prices, they influence that, depressing speculation prices, they position is rampant. Various should lowest when speculation of price price should be lowest studies of speculation is rampant. Various studies of volume in trends and of of the the accompanying of trading in different commodidifferent trends accompanying trading ties show no such correlation. correlation. ties for illustration. One single example 55 will will be sufficient sufficient for In 1891, the illustration. In 1891, the single example in States averaged price of in the States $1.08 for the year. In that the United for wheat the In of that averaged $1.08 year. price year, 1,604,450,000 bushels were traded traded in on the the New York Produce Produce 1,604,450,000 bushels year, Exchange. The following year the the price cents, following year price of wheat averaged averaged 891 Exchange. 89f cents, that but the of trading on that exchange declined to 1,079,713,500 of declined volume to but the 1,079,713,500 trading exchange bushels. In In 1893, less than aa billion billion bushels were traded traded in bushels were in on bushels. 1893, when less the prices averaged approximately 17 cents lower than wheat cents 17 lower than the exchange, prices averaged approximately exchange, in the preceding preceding year. year. in the Such -studies, numerous, have only a negative value. -studies, no matter how numerous, only a negative value. It probable that that declining declining prices, prices, coupled with the fact that, in the the fact in It is is probable the that, coupled business was particular periods periods studied, undergoing a severe studied, business generally severe generally undergoing a particular ~ J. G. G. Smith, Markets (New Co., York: Longmans, Green &: & Co., Smith, Organized (New York: Longmans, Green Organized Produce Markets 5J. 1922) p. 129. 129. 1922) • p. ,

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

64 64

depression, were were of of themselves themselves sufficient to restrict restrict speculation. sufficient to the speculation. On the depression, other hand, hand, it is equally equally clear these studies that the volume of it is clear from these the volume studies that futures other of futures trading upon the the price price trend. trend. In In general, to say say effect upon it is is safe safe to general, it trading had no effect with rare exceptions, that is always the case. that, that is rare the case. that, always exceptions, A more extended extended comparison comparison of the volume of of the of futures futures trading trading and in price in the Report of the Commissioner of Corpothe movements was made the of Report of price Corporations Exchanges,6 as as follows: follows: rations on Cotton Exchanges, COMPARISON OF AVERAGE SPOT PRICES OF MIDDLING COTTON WITH VOLUME SALES, NEW NEW YORK MARKET, MARKET, AND WITH COTTON CROP, OF FUTURE SALES, CROP, 1871-1897

Tear ended August 31

Futures Sales New Tork a

Average spot pricea

Cotton Crofl>

1871 1872 1873 1874 1875 1876 1877 1878 1879 1880 1881 1882 1883 1884 1885 1886 1887 1888 1889 1890 1891 1892 1893 1894 1895 1896 1897

Bales 3,000,000 4,933,700 5,299,700 6,187,700 8,358,000 7,233,650 10,735,400 12,973,300 25,410,600 34,006,600 28,800,900 33,077,400 26,543,600 24,632,100 20,889,700 23,270,600 26,482,100 25,763,900 18,764,800 22,138,200 24,885,900 34,187,200 53,245,400 37,888,400 39,368,500 56,469,000 36,113,000

Cents 16.95 20.48 18.15 17.00 15.00 13.00 11.73 11.28 10.83 12.02 11.34 12.16 10.63 10.64 10.54 9.44 10.25 10.27 10.71 11.53 9.03 7.64 8.24 7.67 6.50 8.16 7.72

Bales 4,352,317 2,974,351 3,930,508 4,170,388 3,832,991 4,632,313 4,474,069 4,773,865 5,074,155 5,755,359 6,605,750 5,456,048 6,949,756 5,713,200 5,682,000 6,575,691 6,505,087 7,046,833 6,938,290 7,472,511 8,652,597 9,035,379 6,700,365 7,493,000 9,901,251 7,161,094 8,532,705

Relation of Futures Sales to Crop Per Cent 69 166 135 148 218 156 240 272 501 591 436 606 382 431 368 354 407 366 270 296 288 378 795 506 398 789 42~

a Compiled Compiled from from Latham, Latham, Alexander Alexander & Co.'s Co.'s Cotton Cotton Movements Movements and Fluctuations. Fluctuations. a b From Census Census Bulletin Bulletin No. No. 100, lOO, on Cotton Production, 1908. crop figures here given given are 1908. The crop are for for Cotton Production, b figures here crops marketed marketed in in the the season season indicated indicated in Thus the 4.352,317 bales bales was grown in 1870, in column 1. 1. of 4,352,317 the crop grown in crop of 1870, crops is on the basis. but marketed marketed In the season diilCuBSion in the folIowing the same basis. in the 1870-71. The discussion in the season 1870-71. following pages pages is but e 6

Chapter VIII, Part p. 173, Part 4, 173, 4, p. Chapter VIII,

Speculation Speculation

65

The report report continues: continues: It will be be seen that the the first first phenomenal phenomenal increase ratio occurred in It will seen that in the the ratio occurred in increase in 1879, the total total sales futures were were 501 sales of of futures actual crop, of the the actual 501 per cent of 1879, when the or, per cent crop, or, to use use aa common expression, expression, the the crop crop was "dealt times over" the to in five "dealt in five times over'* on the New York Cotton Exchange. Exchange. In this this year year of the average average of exceptional activity the exceptional activity price of middling fell fell to to 10.83 with 11.28 preof middling as compared 10.83 cents, in the cents in the pre11.28 cents cents, as price compared with In the the season, season, 1878-79, however, for the first in the the history history ceding year. year. In for the first time time in 1878-79, however, ceding of the cotton trade, trade, the the crop crop exceeded exceeded 5,000,000 bales. In In the next year, of the cotton the next 5,000,000 bales. 1880, year, 1880, future 591 per per cent a materially materially increased Yet the the price price rose rose future sales sales were 591 cent of of a increased crop. crop. Yet from an average it is to 12.02 is not not contended of 10.83 cents to cents. Of course, 10.83 cents 12.02 cents. course, it average of for for aa moment in in this this report report that that the the heavy heavy volume of trading explains of future future trading explains this great this in price. price. It It may may be be pointed out, however, that, other other conconhowever, that, out, great advance in pointed ditions being the the same, same, an increase increase of bales above the previous ditions being of about 700,000 the previous 700,000 bales crop of of 5,000,000 5,000,000 bales bales must have tended to to produce produce aa depression year's record crop year's record depression in the in price. If the theory theory that that aa heavy heavy volume of futures trading the price. If the of futures trading depresses depresses of over any merit, merit, aa decided decline instead of over a cent cent prices has has any decline instead of an advance of prices might, therefore, have expected in 1880. a matter of fact, any depressing have been in As 1880. a matter of therefore, fact, might, any depressing expected influences were evidently influences evidently offset by other other conditions. these probably probably offset by conditions. The chief chief of of these was the improvement in in general general trade resumption the marked improvement the resumption trade which followed followed the of in six of specie payments in 1879. the crop dealt in times over six times over on 1879. In 1882 1882 the crop was dealt specie payments 11.34 cents to the New York Cotton Exchange. Exchange. Yet Yet the the price price advanced from 11.34 cents to 12.16 cents. The explanation undoubtedly is to be found chiefly in the sharp be in is to the 12.16 cents. chiefly explanation undoubtedly sharp reduction reduction of the crop, crop, which fell fell from about 6,600,000 of the bales for for the the season of season o£ 6,600,000 bales bales 1880-81 to to 5,456,000 bales for the season of 1881-82. 1893 the ratio of futures season of In futures for the 1893 ratio of the 1881-82. 5,456,000 sales highest for for any any year year shown in in the the table, being traded traded in in sales was highest the crop table, the crop being nearly eight eight times times over. over. This great great activity adnearly activity was accompanied accompanied by by an ad0.6 cent the average price of middling. However, However, the the crop vance of vance of 0.6 cent in in the of middling. for the the average price crop for season short, falling falling :!,:U:;,OOO preceding of 1892-93 season of bales under that that of of the the preceding 1892-93 was short, iVM.^OOO bales season. season. Thus, it will be seen seen that that pronounced pronounced activity in the market has it will the futures futures market has Thus, activity in in frequently accompanied by an advance in the price of spot cotton instead been the advance of cotton instead frequently accompanied by spot price of by by aa decline. decline. Similarly, inactive futures market has has frequently of futures market been Similarly, an inactive frequently been accompanied by a decline. Thus, in 1883, the volume of futures trading, in a decline. when the of futures Thus, 1883, accompanied by trading, with the the crop, crop, was comparatively price fell over U as compared as the price fell over small, the li comparatively small, compared with cents. For this this season, season, however, however, the the crop showed an increase of nearly 1,500,000 increase cents. For of 1,500,000 crop nearly bales, which brought brought the the total total up up to to nearly nearly 7,000,000 all thus exceeding 7,000,000 bales, bales, bales, thus exceeding all in when previous records. Again, in the season of 1893-94, the of futures records. season of the the volume of futures 1893-94, Again, previous sales fell off the average average price price of middling middling showed aa decline decline from 8.24 off sharply, sales fell 8.24 sharply, the cents to to 7.67 cents. For this this season there was an increase nearly 800,000 800,000 bales season there increase of of nearly cents bales 7.67 cents. in cr.op. For the the season there was a heavy heavy contraction in the the volvolseason of 1896-97 there contraction in in the the crpp. fall in ume of futures trading, and again a fall in the price, namely, from 8.16 cents a the of futures trading, 8.16 cents again price, namely, the increase to cents. The principal principal reason reason undoubtedly undoubtedly was the approxiincrease of of approxito 7.72 7.72 cents. mately 1,:1:,0,000 bales in in the the crop. 1,350,000 bales mately crop. of future The relationship relationship between prices prices and volume of may better better future trading trading may be seen the following following summary: seen from the be summary:

Commodity Exchanges and Futures Trading and Futures Trading Commodity Exchanges

66 66

rears in Which Volume of Futures Trading Decreased

rears in Which Volume of Futures Trading Increased

Price Movement

Production

1877 1878 1879

Declined do do

Decreased Increased do

1881 1883 1884

1880 1882 1886

Advanced do Decreased do Declined Increased

1885

do

Practically unchanged

1887

Advanced Practically unchanged do Increased Declined do do do Advanced Decreased Declined Increased Advanced Decreased

1888 1889 1894 1897

do Advanced Declined do

Increased Decreased Increased do

1890 1891 1892 1893 1895 1896

Price Movement

Production

Declined Increased do do Practically Decreased unchanged

From this this summary summary it it appears that of of the years for the volume the thirteen for which the thirteen years appears that of increases the the average average price price advanced in six and declined declined in in in six of trading trading showed increases seven. the eight years when the the volume of trading showed aa reducreducseven. In In the of futures futures trading eight years tion, there there was only only one in in which the the price price of middling cotton of middling cotton showed an tion, appreciable advance. It is not intended here to leave the impression that there there It is not the advance. intended here to leave appreciable impression that necessary connection between these facts; instead, it is perfectly was any between these it is connection safe instead, facts; necessary any perfectly safe in are to that the changes in price are chiefly attributable to the changes in prothat the to say attributable to the in changes changes say chiefly price production. Thus, Thus, out of the the eleven years in decline in in the the eleven years in which there duction. out of there was a a decline in ten price of middling, there in ten years an increase in production and in there was increase in of in years middling, price production only year a decrease. the other hand, of the seven years in which there a the of one decrease. On the seven other in there hand, years only year in the the price, price, four four showed aa decrease in production, only two two was an advance in decrease in production, only increase, and in in one production production was practically practically unchanged. unchanged. Of the an increase, the three three years for the price price was practically practically stationary, reduction a reduction for which the years stationary, one showed a in the one increase, while in the third year the crop was in and in the the crop, an while third the itself was increase, year crop, crop itself It be practically 1II1l11.lllgCl1. It will be seen, therefore, that a heavy volume of futures will that of futures seen, therefore, heavy practically uiuli.m^cd. transactions has has by by no means usually usually been accompanied by aa decline decline in in the the transactions accompanied by the that in price of cotton. Indeed, the table shows that an increase in the of futures table increase the of cotton. volume of futures Indeed, price in the trading has has frequently frequently been accompanied accompanied by the price. In most most trading by an advance in price. In in the such however, there a reduction in the crop. there was reduction such cases, cases, however, crop. is that the volume of What these these figures really seem to to show is that the is of speculation figures really speculation is of usually greatest in times of higher prices and that this increased probthat in times this increased volume higher prices usually greatest probresult of of advancing advancing prices prices and not not necessarily necessarily aa cause. It is is an accepted accepted ably is is aa result cause. It ably active in times the great of speculators speculators are are more active times of prices fact that that the of high fact great mass of high prices 7 7 than in in times times of of low prices. prices. than "t Report Report of of Commissioner of Exchanges, pp. pp. 273-276. 273-276. of Corporations Corporations on Cotton Exchanges,

Speculation Speculation

67

of the effect of speculation Another aspect effect of the question is the aspect of speculation on prices prices is question are unduly in the whether prices the crop-moving season (and later prices are unduly depressed depressed in crop-moving season (and later so that the a raised) so that the producer always obtains a low price. At the outset it obtains the it outset producer always raised) price. if must be emphasized that, if speculative trading were unknown, it would it unknown, emphasized that, speculative trading be a normal condition for for prices to be lower in the lower in the crop-moving season prices to crop-moving season six at a period later. is simply the than at six months later. This is result of the operathe result the of period simply operaof supply tion of of the the law of tion and demand. When the prices of representative the of supply prices representative commodities throughout the year are examined for for a a period of years, it throughout the year are years, it period of that is an evenness is there is rather greater than might be exis apparent that there evenness rather be exapparent greater might case of of commodities which are in on exchanges, pected the case are traded traded in pected in the exchanges, but sold within are within a few weeks after are sold after harvest, at one the markets markets at harvest, flooding flooding the time, the demand is scattered throughout the year. the is scattered the time, although although throughout year. his book The Value of In his of Organized Organized Speculation, Speculation, H. H. Brace points points in a ten-year that in the out that the average difference between September difference ten-year period, average period, September and May prices of wheat was only 2.9 cents; cents; consequently, only 2.9 May prices consequently, considering considering of interest, loss of elevator charges, a farmer elevator insurance items, farmer interest, and insurance items, a shrinkage, loss charges, shrinkage, little or nothing by holding his wheat through would have gained little his the by gained nothing holding through the in similar comparison is made in winter. is the Report on the Winnipeg winter. A similar the the comparison Report Winnipeg Grain Exchange* to the Exchange 8 submitted by that that body body to the Royal Inquiry submitted by Royal Grain Inquiry as follows: Commission in 1921, follows: 1921, as

The fallacy fallacy of of the the argument argument that, that, when the the farmer has has wheat to to sell, the sell, the he has his and that after sold the is low, that after has sold his wheat, the price is high, is shown price is is is low, wheat, price high, price in in the the following table: following table: PRICES AT WINNIPEG FOR No. ONE NORTHERN WHEAT IN IN RANGE OF PRICES MAy-1908 1908 TO 1914 OCTOBER AND MAY 1914

October Low High c c 96.18 100.00 1908 94.50 99.75 1909 91.75 100.25 1910 97.50 102.00 1911 88.00 94.00 1912 78.00 82.62 1913 Pre-war period-six years

May High c

Average c

98.09 97.12 96.00 99.75 91.00 80.31 93.71

1909 1910 1911 1912 1913 1914

128.38 100.25 96.25 104.75 95.00 96.62

Low

c 120.88 86.50 93.50 102.75 91.38 90.38

Average c 114.63 93.37 94.87 103.75 93.18 93.50 98.88

is between the the cash cash closing closing price price at at Fort Fort William William in in the the The 'comparison comparison is of October, October, as as compared compared with with the the month of of May, May, from 1908 1908 to to 1914, 1914, month of inclusive. inclusive. It would have have paid paid the the farmer fa·rmer to to have held held 'his his wheat in in 1908, 1908, as as there there

It s 8

Pages 42, 42, 43. 43. Pages

68 68

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

was aa difference between the the average average October price price and the the average average May price was difference between May price in the for the the increase of 16.54 cents aa bushel. bushel. There were were two two reasons increase in the price price reasons for of 16.54 cents in the for that year. One was was ,the shortage of of wheat in States and the the shortage the that year. the United States for other was the the influence influence of the "Patten corner." of the corner." other in October was more than the In in 1910 the average average price price in the average 1910 the In 1909 1909 and in average the lost also price in May. farmer lost the difference, and also the carrying farmer would have in The difference, carrying May. price charges on his his wheat, wheat, had he he held held it it those two years. years. In In 1911 in 1912 those two 1911 and in 1912 charges in May. the average average in in October October was was aa little little lower lower than in Had the farmer held the held the May. his wheat those those years, years, the the additional price that in that he would have gained additional price his gained in May would not not have have paid paid the the carrying carrying charges his wheat. In 1914 wheat. In 1914 the the averavercharges on his May in the in the the month of May was was 13.19 previous age in cents more than that that in 13.19 cents the previous of May age October. October. Taking the whole of the six six years, years, the the average cents of the 93.71 cents the whole average October price Taking price was 93.71 a difference of a and the May price 98.88 cents, a difference of only 5.17 cents a bushel, the average 98.88 cents 5.17 cents, bushel, only average May price not have have paid paid carrying carrying charges the wheat. wheat. 99 which would not charges on the

in October for wheat at at Chicago comparison between mean prices prices for A comparison Chicago in for the and in in the the following the period period 1890-1927 has been made, 1890-1927 has made, May for following May Board of using statistics of the Chicago of Trade. The average range of of the statistics Chicago average range of using war wheat in excluding the years, was $0.94.g.-$l.H!, and the in October, the the October, excluding years, |0.94|~$1.11^, in the the following May was $1.05i-$1.27~. beaverage range range in $1.05-$1.27. The spread following May average spread beof May cents. tween the October and the the mean of was 13! cents. of October 13 the mean of tween May J for the cotton prices prices at at New Orleans for the period period 1827-1909 of cotton A comparison 1827-1909 comparison of is interesting in the same connection. connection. During During the years of of in the the first first forty-four is interesting forty-four years this period there there was was no futures futures market, market, but from 1871-1909 there was was this period 1871-1909 there trading in in New Orleans Orleans and New York. York. During organized futures futures trading the During the organized first period, 1827-1871, the highest highest mean prices were recorded recorded in in Sepfirst period, 1827-1871, the prices were Sepin ten years. years. There were were seven in which August prices tember seven years for ten tember for years August prices the highest, highest, five years in in which July prices were the the highest, were five years and< were the July prices highest, and. five years years in in which which October prices prices were were the highest. In only the highest. three of of the five the only three the in forty-four years were May prices the highest, and in only two years were were two were May prices highest, only years forty-four years June prices the highest. During During this this same period, prices were the lowest the highest. lowest prices were period, the June prices in in eight years. In five years December prices were reached five in September reached in eight years. years September prices were November and in four years March and were the two months of of lowest, in four the months lowest, years not reached in lowest prices. Lowest prices prices were not reached in October or June in in any or June lowest prices. any one of of the years. the forty-four one forty-four years. eleven years in which September In the the period, period, 1871-1909, there were eleven In 1871-1909, there years in September in highest, five prices were were highest, highest, six years in which August six years five August prices prices were highest, prices in years in July saw peak quotations, and four years when May which peak quotations, years July years May in this this period were April prices the registered the peak. peak. Only Only once once in the period were April prices registered the of June highest of year, whereas whereas the the months of June and January January were were highest highest of the the year, highest for three of of the thirty-eight years. years. Lowest prices prices were were recorded the thirty-eight recorded in in August for three August in the is really a mean between P The average price in the above above report report is high and low *>The between high and low average price really a all prices for and not not an of all the month, month. an average average of prices for the

Speculation Speculation

69 69

for seven for years and in years. There were were four in November for seven years. four years six years for six years in which which September, October, and December prices were the lowest. the lowest. in September, October, prices were of prices prices in in subsequent years bear out the the same conclusions. Studies Studies of conclusions. subsequent years are These various various price price comparisons are suggestive of an evenness of more of evenness of suggestive comparisons price adjustment throughout the the twelve twelve months than than of of any any marked adjustment throughout price a decline rise at at one season decline in in another. suggest, not that another. They that specuseason and a not rise They suggest, specuthe lation operates to depress prices in the crop-moving season, but exactly to lation operates crop-moving season, depress prices exactly the reverse: reverse: that, that, because because the the dealer dealer and speculator the speculator anticipate anticipate demand at the time time they they buy buy and because because producers producers and converters protect converters can protect at the their positions by hedging, the price realized by the producer is the realized the their positions by hedging, closer by price producer is closer if speculation to the the price price paid paid by by the the consumer than than would be be the the case, to case, if speculation were not the exchange exchange markets. markets. into the not geared were geared into In referring to to the the influence of organized organized speculation prices, thereIn referring influence of therespeculation on prices, that conclusion appears justified that speculation, as such, is not fore, is the conclusion as not such, fore, the appears justified speculation, a material material factor factor in lifting or or depressing price levels. In any case, in either either lifting levels. In a any case, depressing price it appear that that speculation speculation merely merely levels the peaks peaks of levels off off both the it would appear of prices and the the valleys valleys of of depression depression levels. Manipulation will be levels. Manipulation boom prices will be are concerned here with legitimate referred to later; here only referred to later; we are only with legitimate speculation speculation of unlawful and are are not not considering considering the the influence unlawful concerted taken influence of concerted action action taken for the the ulterior ulterior and illegal purpose of controlling prices. of for controlling prices. illegal purpose Steady Prices? Prices? It necessary first It is first to Does Speculation to define define what we is necessary Speculation Steady by "steadying" prices. In any market, oscillations mean by oscillations in in "steadying" prices. any exchange exchange market, prices are more frequent, but smaller than in the physical markets. What than in but smaller the markets. are physical frequent, prices is whether the is meant by by our question, question, then, then, is the range these oscillations of these is oscillations range of is less than it be, if if organized organized speculation were not present. This it would be, were not is less than speculation present. This is another question which does not lend itself to positive statisdoes not itself readily to is another question statisreadily positive tical proof. Various Various attempts the contention to support tical proof. contention attempts have been made to support the it in by these methods, but it should be observed in advance that none of of but should be observed that these methods, by 10 is entirely satisfactory as positive proof.lO these is as these interpretations entirely satisfactory interpretations positive proof. 10 In 10 a case (Board of of Trade of of the the City City of of Chicago, v. Charles F. Clyne, Clyne, et et al., al., case (Board et al., In a Charles F. al., v. Chicago, et in United in 1922, before the States Supreme Court, involving the con260 U.S., 704), before the States the con260 U.S., 704) 1922, Supreme Court, involving stitutionality of the Grain Futures Futures Act, Act, affidavits were filed by twenty-two nationally of the filed by affidavits were twenty- two nationally stitutionality known economists, economists, each of his belief belief that, that, with infrequent infrequent and minor of whom declared declared his exceptions, trading had aa marked tendency to stabilize futures trading stabilize prices. tendency to prices. exceptions, futures These economists economists were: were: T. S. Adams, Yale University; Boyle, Cornell; Cornell; S. Adams, E. Boyle, James E. University; James Charles J. J. Bullock, N. Carver, John Bates Clark, Columbia; Columbia; Bates Clark, Charles Carver, Harvard; Bullock, Harvard; Harvard; T. N. Harvard; John Fred Emerson Clark, Northwestern; Melvin T. Copeland, Rogers FairFred FairClark, Northwestern; Harvard; Fred Rogers Copeland, Harvard; child, Yale; Henry Henry F. F. Farnam, Farnam, Yale; Yale; Frank A. A. Fetter, Fetter, Princeton; Irving Fisher, Fisher, Yale; Yale; Princeton; Irving child, Yale; Arthur Twining Twining Hadley, President of of Yale; Yale; Grover G. Heunber, University University of of PennsylG. Heunber, Arthur Hadley, President PennsylS. Huenber, Huenber, Pennsylvania; Pennsylvania; Joseph Univania; vania; Solomon S. Johnson, New York UniJoseph French Johnson, versity; Edwin Waiter Kemmerer, Princeton; Roswell C. McCrea, Pennsylvania; Walter C. Roswell Kemmerer, Princeton; McCrea, Pennsylvania; versity; Wesley C. C. Mitchell, MitchelI, Columbia; Robert Riegal, Riegal, Pennsylvania; Pennsylvania; E. R. A. E. R. A. Seligman, Columbia; Robert Wesley Seligman, Harvard; and Allyn A. Young, Harvard. Columbia; Abbot Payson Usher, Harvard; A. Harvard. Columbia; Payson Usher, Young, Allyn Jp this same case case quotations, quotations, similar to the just mentioned, mentioned, similar in in meaning affidavits just the affidavits Jn this meaning to ,

7yo0

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

price fluctuA frequently frequently used used statistical fluctuthat of of comparing is that statistical method is comparing price ations in aa commodity commodity before before and after futures trading trading was inaugurated. after futures ations in inaugurated. objection to this is it out of it leaves leaves of account changed that method is that to this The grave changed grave objection the periods transportation and distribution. periods conditions of distribution. Sometimes the of transportation conditions fluctuations as to be ludicrous. Wide price fluctuations compared are so far far removed be ludicrous. as to are so price compared in the the Middle Middle Ages Ages have have been compared the relative relative of of commodities commodities in compared with the steadiness prices in in our our modern economic society, of what value of prices steadiness of society, but of steamof prices in a distributive system, when railroads, steamis a comparison in is a of a distributive railroads, system, comparison prices boats, automotive vehicles, even efficient wagon transportation and automotive even efficient vehicles, boats, wagon transportation were unknown, with with those those prevailing prevailing under modern conditions, entire conditions, when entire unknown, trains and fleets of ships, ships, as as well well as as automotive trucks, loaded with with aa trains fleets of trucks, loaded with aa speed the world today today single commodity, move with single commodity, speed which makes the in the than Great Britain Britain was was in the Middle Ages? is there there a proper proper smaller smaller than Ages? Nor is in of the in parallel conditions in the 1850's and those in any decade of the between conditions the 1850's those any parallel twentieth century. century. The entire entire tempo tempo of markets and transportation transportation of the twentieth the markets their prices and communication facilities prices facilities which feed feed commodities and their into these markets have have changed changed drastically. drastically. these markets into It may be be remarked, remarked, however, however, that that the the many many comparisons It may comparisons which have invariably indicate narrowing in the range range of of price price been made almost a narrowing in the indicate a almost invariably been under futures trading. In this narrowing of the range range it it is fluctuations under futures trading. this narrowing of the is fluctuations possible that futures trading exerts an influence; but, since the method that futures trading exerts influence; but, since the possible is regarded as inherently unsound, such comparisons as such are dismissed is dismissed here here unsound, inherently regarded comparisons are with the observation that their conclusions are rather favorsimply the that their conclusions with observation rather more are favorsimply able futures trading trading as as aa steadying steadying influence than adverse to it. it. influence than able to to futures adverse to A more valid valid method is is aa comparison of fluctuations in commodities fluctuations in commodities comparison of in which futures futures trading trading is conducted with with fluctuations in in other is conducted fluctuations in other comcommodities which have no futures markets. Here again the statistical method futures markets. modities again the statistical is of production and marketing difis imperfect. Methods of conditions for for difmarketing conditions imperfect. production ferent commodities commodities are are so dissimilar that rice prices prices cannot that fluctuations in rice so dissimilar fluctuations in ferent cannot in wheat prices be fairly fairly compared compared with with fluctuations fluctuations in reach aa valid valid conbe to reach conprices to clusion that, that, solely because the latter are narrower, organized futures are clusion latter the because futures narrower, solely organized trading is is the the cause. cause. trading reasonable comparison comparison is that made between between the the prices prices of of A more reasonable is that for the wheat, barley, and oats oats for the period, period, 1899-1916, by Professor Professor James James E. E. wheat, barley, 1899-1916, by oats were Boyle, of Cornell Corn ell University. University. Wheat and oats were subject to futures futures Boyle, of subject to but barley barley was not. not. The following following comparison period trading, for the the period trading, but comparison for from the the writings writings of of four four of of those those economists economists and from the the following econoadditional econofollowing additional mists, were incorporated into the the court court records: records: Paul Paul LeRoy LeRoy Beaulieu, France; Richard Richard mists, were Beaulieu, France; incorporated into C. Emery, T. University of Wisconsin; H. H. C. Emery, Yale; Yale; Benjamin Benjamin H. Hibbard, Hibbard, Wisconsin; Wisconsin; of Wisconsin; T. Ely, Ely, University Paul W. Ivey, Ivey, University University of of Nebraska; Nebraska; Otto Otto Johlinger, Johlinger, Germany; Germany; Louis Paul Louis Perlmann, Perlmann, of Birmingham, Germany; John George Smith, University of England; F. F. W. Taussig, Taussig, Smith, University Birmingham, England; Germany; John George Harvard; L. H. Weld, Weld, Yale; Yale; and George Wermert, Germany. L. D. H. Harvard; George Wermert, Germany.

Speculation Speculation

7711

shows aa higher higher degree degree of barley than of fluctuation fluctuation in in barley than in the other in the other two 11 l l commodities. commodities. Wheat rear Tear

1899 1900 1901 1901 1902 1902 1903 1904 1905 1905 1906 1907 1908 1909 1910 1911 1911 1912 1912 1913 1914 1915

Per Cent Cent Per

24.2 24.2 42.6 42.6 26.6 26.6 41.0 41.0 32.5 32.5 50.3 50.3 59.2 59.2 42.9 42.9 71.8 71.8 31.4 31.4 61.2 61.2 44.7 44.7 40.5 40.5 43.5 43.5 43.1 43.1 70.1 70.1 70.4 70.4

Barley Barley Per Cent Per Cent

Per Cent Cent Per

57.1 57.1 97.6 97.6 73.2 73.2 93.3 93.3 72.2 72.2 103.3 103.3 57.1 57.1 52.7 52.7 175.0 175.0 130.4 130.4 91.9 91.9 114.3 114.3 152.6 152.6 233.3 233.3 102.4 102.4 79.5 79.5 87.5 87.5

46.7 46.7 25.0 25.0 107.5 107.5 103.4 103.4 44.0 44.0 62.9 62.9 38.0 38.0 48.0 48.0 68.6 68.6 31.5 31.5 72.2 72.2 64.7 64.7 65.8 65.8 93.4 93.4 37.1 37.1 52.6 52.6 68.2 68.2

Oats

interesting study study between aa commodity, is subject to An interesting commodity, which is subject to futures trading, trading, and other other commodities, commodities, which are not, contrasts prices are not, contrasts prices futures of onions, with those those of potatoes, and apples, reported in in of wheat with of as reported onions, potatoes, apples, as Orderly a publication publication of of the the Minneapolis of ComOrderly Jlar/(f'lillg, Marketing, a Minneapolis Chamber of merce. all these these commodities commodities are for each month of of all are averaged merce. Prices Prices of for each of averaged for of the crop year for a period of twenty-nine years. The average annual the crop year twenty-nine years. period average fluctuation prices from low to per cent. in wheat prices to high fluctuation in 5.36 per cent. high was only only 5.36 fluctuated more than 10.9 On the the other hand, onions fluctuated cent, and apples other hand, 10.9 per cent, per apples fluctuation of 100 per experienced a price price fluctuation of almost almost 100 per cent. range cent. The annual range experienced a in potato potato prices prices was shown to to be 68 per cent. in cent. per Recalling again that this this method of proof is not positive, positive, nevertheless nevertheless of proof is not Recalling again that it should be observed that it is one of the best methods available that it is it should of the best available and the evidence points points most strongly strongly to to the the conclusion there is is more the evidence conclusion that that there than aa casual casual relationship relationship between futures futures trading trading and price stability. price stability. E. Boyle, in his Professor James James E. Boyle, in his testimony testimony before the Canadian ComProfessor before the mission mentioned in Chapter II, H, says: says: in Chapter mission It is of all all countries It is almost almost unanimously unanimously agreed by economists of futures countries that that futures agreed by the effects trading has two effects on the producer's price: By lowering the has two the middleman trading producer's price: By lowering of money charges, it the amount of money received by the It stabilizes it increases increases the the farmer. received by farmer. It stabilizes charges, the on brake the price by putting the against severe bulges and breaks in price* price. breaks in the price by putting against severe bulges 11 Speculation 11 Speculation

pany) pany)

, p. p. 123. 123. ,

York: The Macmillan Macmillan Comand the the Chicago of Trade (New Chicago Board Of (New York:

72

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

to present Since these two two effects effects are are very very important important to the farmer, I desire desire to present to the Since these fanner, I some supporting evidence. evidence. supporting Raises Price Price to Farmer. Why Why is is wheat wheat now handled handled at lowest cost cost to the the Farmer. at the the lowest Raises insurthe of any any agricultural agricultural commodity? commodity? The answer is, chiefly because the price insurbecause of is, chiefly price the futures market enables enables -the ance feature of to work in comof the futures market the middleman to ance feature paralive safety margin. Contrast Contrast hay wheat. Both are standarda low margin. safety on a hay and wheat. parative ized non-perishable commodities. commodities. Yet the the brokerage brokerage fee charge ized non-perishable fee or or commission charge on selling hay is times that for selling wheat. Mr. P. E. Goodrich, presiis many times that for P. E. wheat. Goodrich, presiselling selling hay many dent of of the the National National Hay Hay Association Association of the United States this of the States comments on this in these these words: words: fact in fact that handles hay hay from the the producer producer to to the "Every the consumer speculates speculates "Every man that his largely takes great chances, as there is no way in which hedge his and he can hedge takes great chances, as there is largely way in few trades. For this reason the fluctuations of the market are large and often a often trades. this reason the fluctuations of the are large days will show aa variation varia·tion of of values values from 25% 25% to to 50% " days will 50%.. . . •." Stabilizes the Prices. The second second effect effect of prices is is Stabilizes of futures futures trading the Prices. trading on farm prices violent flucto stabilize these prices. prices. Futures Futures trading trading does prevent flucto stabilize these prevent sudden and violent in price tuations in price by by putting putting on the the brakes. brakes. Evidence Evidence of various kinds kinds can be tuations of various produced to to prove prove this this statement. statement. produced If we compare If price fluctuations fluctuations under futures with those those before before the the futures trading trading with compare price days of of futures futures trading, trading, we see see at at once once aa vast vast difference. Fluctuations of of ten ten difference. Fluctuations days cents aa bushel bushel in day are are about as common now as of fifty fifty in one day as fluctuations fluctuations of cents about as stacents a bushel bushel in day then. then. Of course, part of greater price price stacents a in one day of this this greater course, part bility is is due to to our better better communication and transportation, transportation, but part part of of it it bility is due to all marketing is to futures futures trading. trading. On this this point point practically all marketing economists practically are agreed. agreed. are Report on Futures Futures Trading by the the United The Garfield in Cotton, Cotton, made by Garfield Report Trading in States of Corporations in 1906 and 1907, the most comprein was the States Commissioner of 1906 1907, compreCorporations that subject subject ever published. Futures trading trading in in cotton cotton and hensive study study on that hensive ever published. futures ·trading in wheat wheat have have exactly the same economic effects price. The effects on price. futures trading in exactly the Garfield Report that futures trading in cotton prevents sudden and violent in cotton violent found futures that Garfield Report trading prevents fluctuations price. in price. fluctuations in We may to the the testimony testimony of economists the the world over who have studied of economists studied may turn to in this and they are in almost agreement on the stabilizing this subject unanimous the almost are agreement stabilizing subject they 12 effect of of futures futures trading trading on price. price. 12 effect .

.

Exchange Trading Levels Prices Prices between Markets. Markets. With modern Trading Levels Exchange methods of communication, the the price price of of communication, of cotton in New Orleans, cotton in Orleans, New other world world markets markets would in maintained York, and other in all all probability be York, probability be maintained in fairly close relationship, or not futures trading were carried in close whether or not futures were carried fairly relationship, trading on. The adjustment adjustment is is far far more certain rapid, however, however, with the certain and rapid, on. the exchange arbitrageur ready ready to to act act instantly instantly to take advantage to take situaof situaexchange arbitrageur advantage of tions when prices prices on the the different different markets markets get of normal relationtions relationget out of ship or parity. futures markets are sensitive and respond rapidly are The or futures markets sensitive respond rapidly parity. ship 12 12 Proceedings Proceedings of Inquire into Futures the Canadian Commission to to Inquire in Grain into Trading Grain Futures of the Trading in (Winnipeg: Grain Trade News, News, 1931). p. 130. 130. 1931) , p. (Winnipeg:

Speculation Speculation

73 73

to to

received from other market places. places. Without advancing the news received other market advancing the proposition that that futures futures trading trading is is the leveling prices prices the only of leveling proposition only means of it is markets, it it may may be stated without reservation that it between markets, stated without reservation that is a most important influence. contributory influence. important contributory The Speculator's Speculator's Assumption Assumption of Risk. Other services by services performed of Risk. performed by be the speculator may regarded as unimportant in comparison with his in as his the with regarded unimportant speculator may comparison risk-taker. Let Let us us imagine vital function vital as a a risk-taker. function as or exchange insurance or imagine an insurance exchange market in in which there there are interare no speculators, only commercial interspeculators, but only ests-producers, dealers, converters-placing hedges. shall assume We shall and dealers, convertersplacing hedges. estsproducers, that this condition condition exists exists in the wheat market. market. Elevators Elevators buy it that this in the as it buy wheat as comes to to the in the the fall fall months. months. They then actively are then the market in They are actively engaged engaged in selling futures as a hedge against their spot purchases. Yet, the their when the in futures as Yet, selling hedge against spot purchases. must be of hedger offers to sell futures, assured of ready purchasers-buyoffers sell he assured to futures, ready purchasers buyhedger ers who will will immediately take his futures at only a narrow price price differfutures at take differhis ers only immediately at which the calculates he can afford sell ence below the level at the hedger hedger calculates afford to to sell the level in light of prevailing spot prices. The large commercial buyers of in the of the light large buyers of prevailing spot prices. futures (as hedges) are are the the millers millers-who futures who do not, concentrate not, however, however, concentrate (as hedges) their purchases in the fall or in anyone short period. in fall or in their hedge one short sales the any hedge purchases period. Their sales are of flour are are spread throughout the the year, year, and their their purchase purchase hedges of flour hedges are spread throughout likewise widely widely distributed. distributed. The flood flood of hedge selling from of concentrated hedge likewise selling the in the the fall, fall, consequently, consequently, would meet with but aa elevators in the grain grain elevators partial response response from the the millers, millers, whose hedging hedging purchases not are not partial purchases are concentrated. of sales the demands sales 'Would would overwhelm the concentrated. The volume of from purchasers, purchasers, and the the elevator hedging market would sink elevator owners' hedging sink beneath it. it. beneath In every every successful successful exchange exchange market the the hedger, therefore, must depend hedger, therefore, depend presence of of professional professional speculators speculators in with in substantial substantial numbers with the presence on the substantial capital funds. funds. The speculator be ever ever present, to substantial capital speculator must be ready to present, ready assume risks, regardless of of season. buys the the elevators' hedging conconelevators' hedging season. He buys assume risks, regardless tracts when other buyers are are few or entirely in sells later other buyers later in tracts absent; he sells entirely absent; the year when the the millers millers are are actively actively buying buying hedges hedges and there there are are few the year trade In that that way way the the speculator speculator is economic is performing a vital vital trade sellers. sellers. In performing function of genuine genuine value. value. He has has been likened to an insurer, insurer, and the likened to function of the correct. likeness, though not not exact, exact, is is correct. likeness, though efficient, continuous, broad, and liquid market that is, An efficient, continuous, broad, is, one where liquid market-that abnormal, erratic, violent price fluctuations are avoided, are fluctuations and violent avoided, despite abnormal, erratic, despite price heavily concentrated seasonal selling or buying-cannot be maintained or cannot seasonal maintained concentrated buying selling heavily and operated successfully with with only the usual interests actively usual commercial interests only the actively operated successfully represented. The presence of organized speculation is the is imperative to of organized speculation presence imperative to the represented. making of a broader, broader, steadier, steadier, and more liquid of a liquid market. making a Speculators Provide a Market. The term "broad market" market" Broad Market. Provide Speculators all in a market market that that is is capable of absorbing absorbing all offerings the course means a course offerings in the capable of

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

74 74

of any without the the price price of the commodity being affected of the affected of commodity being day without trading day any trading appreciably by by mere volume of of sales. sales. Perhaps Perhaps a more descriptive descriptive term appreciably "solid market." for a "solid market." The volume of in a of speculation a this would be a for this speculation in market contributes greatly to its breadth or solidity. On the Chicago to breadth its or the market contributes greatly solidity. Chicago Board of of Trade there there have have been been instances instances when offerings as much as of as as Board offerings of 5,(l(lO,OOO bushels bushels did did not not depress the price than one-eighth of the more of 5,000,000 one-eighth price depress aa cent cent per per bushel. bushel. Such aa broad broad market is of is essential essential for for successful successful use use of the because the the speculator's speculator's presence broader market the hedge, hedge, and because presence makes a broader he is is an invaluable invaluable aid to the the hedger. hedger. aid to he Professor Boyle, in his his testimony testimony before Professor the Canadian Commission, before the Commission, Boyle, in referred to to earlier, referred earlier, says: says:

is just just one question question on hedging hedging II desire to leave leave before the There is desire to the Commiswide aa market is is needed ,to provide ample hedging sion, namely: How wide facilito provide sion, namely: ample hedging faciliat It is is my my conviction here that that a hedging hedging market must be be made up up of of at ties? It conviction here ties? at is use the least 50 per cent pure speculation. is no use to ·shy at othe word speculaleast cent pure There to 50 per speculation. shy speculation. of this this blanket blanket condemnation of is, II am firmly conof all tion. Much of all speculation firmly conspeculation is, Shall on vinced, idle nonsense, bordering cheap claptrap. The question, Shall idle mere nonsense, vinced, question, bordering cheap claptrap. somebody speculate in in farm products? products? has already in the affirmaaffirmaalready been answered in somebody speculate tive. The essence of speculation speculation is risk-bearing. So long as the farmer grows tive. is risk-bearing. the essence of as grows long at one place place at at one time, time, and this this wheat reaches reaches the the consumer's mouth wheat at risks will be risks at other time time and some other place, there at 'Some there are are and always some other other place, always will involved. risks are inevitable economic economic risks. are speculative risks. risks. are risks. They involved. These risks are inevitable They speculative in wheat, wheat, therefore, therefore, may may be be shifted shifted or partly reduced, Speculations or distributed or partly distributed or reduced, Speculations in never can can be be eliminated. but never eliminated. hedging function regard as as the the second second major of futures futures trading. The hedging function II regard service of trading. major service The purpose purpose of of hedging hedging is is to to protect protect profits, profits, limit losses, and safeguard limit losses, safeguard bank credit. Hedging Hedging does does all all three three of it does does not of these these ,things. credit. not insurance, it things. As price price insurance, no furnish 100 per cent coverage, for form of insurance is supposed to do that. furnish 100 per for of insurance is that. coverage, supposed to I I do not not need to to add to to what has has already here .1\'!!..I/(I;lIg the value said here the value j<-i!.ii
Though act strictly in their their own interest, they may may also also interest, they Though speculators speculators act strictly in in a be said said to to serve a representative representative capacity, considers the serve in one when considers the capacity, effect which their effect their combined operations operations exert prices. The bulls, bulls, or exert on prices. or a rise "long" for a rise in price, are market representing, representing, in price, in the are in the market "long" speculators speculators for in effect, effect, the the interests interests of the producers. producers. Their efforts, of the of course, are course, are efforts, of to make for designed to profits for themselves, but the force of their specubut the of their force themselves, designed profits speculative buying lative buying contributes contributes definitely in the the short short term, are term, when .they definitely in .they are toward buying, higher prices for all growers. The bears, or "short" for all or "short" bears, higher prices buying, growers. sellers for sellers for aa decline decline in price, price, on the the other hand, represent, represent, in other hand, in effect, effect, the the converting manufacturers and consumers. Although the the aim of consumers. Although each of each converting manufacturers p.

is Ibid., 18 Ibid., p. 131. 131.

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seller is short seller individual short is aa profit for himself, individual user of of the the commodity himself, every profit for every user commodity at least least in in the the short does benefit, short term, does from whatever benefit, at whatever effect term, from effect the the specuspecuexert lative seller toward seller may the commodity lative exert toward reducing the price of the of the may at reducing price commodity at the time his selling. of his time of when the the the short short seller seller closes Later, when closes out out his his specuselling. Later, specuhe becomes lative position, becomes aa buyer, lative and the the speculative bull becomes becomes aa position, he buyer, and speculative bull seller when when he he closes closes out out his his position. seller position. a In every market considerable In market a considerable part on of the the speculative every part of speculative trading trading on is done done by the floor commodity who has floor trader, or "scalper," trader, or commodity exchanges exchanges is by the "scalper," who has of been the subject of considerable criticism. The volume of his purchases considerable criticism. The volume of his subject purchases sales contributes contributes greatly and sales broad and and liquid greatly toward making making aa broad market, liquid market, the very his operations-buying but the for a quick or selling for a turnvery nature of his operations buying or selling quick turnovermakes him aa negligible factor in over-makes factor in influencing prices in the long term. in the term. negligible influencing prices long influence on the "The scalper the exchanges. is trading for the scalper exercises no influence exchanges. He is trading for the all he is is all is doing. What he next fluctuation; buys this minute, it is fluctuation; that is he this it is minute, doing. buys is going to to sell in the known that he is sell in the next two or three minutes; when aa or three when going minutes; is to man has bought a thing and is going to sell it again immediately, and sell it again bought thing going immediately, and it and sells it back and forth, sells it it cuts he buys cuts no figure and has forth, it has nothing buys it figure and nothing to do with disturbing values from either the farmer's or the consumer's either the farmer's or the consumer's disturbing 14 floor trader fills the trader fills standpoint."14 the "air "air pockets" in the the market-spots standpoint." The floor pockets" in market-spots where there are temporarily temporarily buyers buyers without sellers vice versa) -by sellers (or vice (or versa) by breaking the temporary deadlocks between the regular buying deadlocks between the and breaking temporary regular buying and selling traders. traders. selling of Transactions Transactions on Exchanges. Exchanges. In In the the last last column column of of Large Volume of Large the the table table on page page 65 65 it it will will be noted that that the the total total number of of bales bales sold sold and bought bought annually annually on the the New York Cotton Cotton Exchange Exchange over over aa great great number of of years years ranged ranged from less less than than two two to to almost almost eight eight times times the the total total number of of bales bales produced produced in in the the corresponding corresponding crop crop year. year. This This condition condition is is not not an isolated isolated one. one. In In fact, fact, it it is is typical typical of of every every commodity commodity exchange exchange and of of every every organized organized physical physical commodity commodity market market where where sales sales and and are made for future or purchases are made for future or forward deliveries. In every market forward deliveries. In market purchases every which which deals deals in in such such future future contracts, contracts, whether whether or or not not it it is is an an exchange exchange it is is inevitable inevitable that that the the crop crop be be sold sold and and resold resold in in effect effect many many market, it market, times. Without doubt, doubt, in in sE .me ,me instances instances the the ratio ratio may may be be 10 10 or or 15 15 to to times. Without 1I or even or even higher. higher. This This fact fact alone alone is is often often cited cited as as aa basis basis of of severe severe criticism criticism of of speculaspeculation tion not not only only on on commodity commodity exchanges, exchanges, but but also also on on all all physical physical markets markets in forward forward deliveries. deliveries. The The fact fact that that total total annual annual sales sales on on such such dealing in dealing markets markets .are are many many times times the the annual annual crop crop-or, in the the case case of of imported imported or, in articles, such such as as rubber, rubber, cocoa, cocoa, and and coffee, coffee, many many times times the the total total annual annual articles, imports of of such such commodities commodities-is constantly seized seized upon upon by by uninformed uninformed is constantly imports i* 14 Statement Statement

by John John C. C. F. F. Merrill Merrill before before the the Scott Scott Committee, Committee, quoted quoted in in The The FuncFuncby Exchanges (Chicago: (Chicago: Hartzell, Hartzell, Lord Lord Company, Company, 1910) 1910) , p.p. 251. 251. Exchanges

tions of Legitimate l.egitimate tions of

,

^6

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

or intellectually dishonest dishonest critics of these these markets markets as that gamgamas evidence that critics of or intellectually that unrestrained speculation bling or is rampant or uneconomic and unrestrained rampant and that speculation is bling to the to organized speculators pool together to depress prices to the farmers or farmers depress prices organized speculators pool together the ultimate other producers and to inflate prices for the converters and the ultimate for converters the to inflate other producers prices consumers. consumers. is aa simple one. For example, let us us consider consider an imThe explanation example, let simple one. explanation is portation of coffee the actual or physical market. B, a York dealer, dealer, market. a New actual or on the of coffee B, physical portation in buys 100 tons of actual coffee coffee for for March shipment of actual 100 tons in December buys shipment from with arrival arrival in May. He pays 15 cents per pound pound Brazil with in May. 15 in New York due in cents Brazil per pays market cents for it. Two days later the has risen to, say, 15.75 cents New York has risen the 15.75 it. later for to, say, days the lot to C, also aa New York dealer, who, in turn, sells in turn, sells it it and B sells lot to sells the C, also dealer, who, to D several later at 16.50 cents. The market then eases off and later at cents. then eases off to several days 16.50 days 16 cents, D sells to E at at 16 cents, losing losing |i cent cent per sells to per pound. pound. Between December and May coffee roaster sold to the coffee arrives and is to X, X, a coffee roaster coffee arrives is finally May (when (when the finally sold York in New dealer hands the in Chicago) this parcel may have changed on the dealer this have Chicago) parcel may changed market as often as as ten ten to to twenty twenty times times-sometimes sometimes as often at a profit, sometimes at profit, a loss resale being at loss-none of the the profits profits or purchase and resale at a none of each purchase or losses losses on each being very large. very large. It It is ease with with which parcels is this of standardized standardized comthis condition-the condition the ease parcels of modities may be be bought bought and sold by description without sampling modities may sold by description without sampling and on inspection standardized contracts at slightly varying prices at standardized contracts inspection organized slightly varying prices on organized markets that makes for markets-that for broader, broader, steadier, markets. steadier, and more liquid liquid markets. in what may The same methods of of buying buying and reselling reselling in may be called chain be called chain contracts is is carried carried on even more extensively extensively on the the exchange markets, contracts markets, exchange where not not only only domestic, domestic, but but foreign foreign producers, producers, dealers, converters and dealers, converters large numbers of of speculative operators actively buy and sell. sell. The ability large speculative operators actively buy ability freely is increased on the exchange markets to buy buy and sell to so freely sell so is greatly increased the greatly exchange markets because of of the the presence presence there there of professional speculators with ample funds, because of professional ample funds, speculators with are geared into the the exchange exchange to permit it which are it to to function function more effecto permit effecgeared into as as an insurance institution. speculator'S presence the tively insurance institution. the The makes tively speculator's presence exchange markets broader, steadier, and more liquid than the markets much broader, steadier, exchange liquid than the physical markets-thereby benefiting the producer, the dealer, the conmarkets the the condealer, the physical thereby benefiting producer, the and the consumer. Each speculative transaction may serve as a verter, consumer. transaction serve a as verter, may speculative hedge for than one hedger. buys as a hedge from X, a specufor more than A X, a specuhedge buys as hedger. hedge lator, and, the insurance insurance protection protection is needed, A sells is no longer needed, sells and, when the lator, longer out his his hedge, hedge, possibly possibly to to another hedger, hedger, and so so on from one hedger hedger to another. to another. , of transactions The number and volume of transactions on the the exchange is further further exchange is increased increased substantially by the fact that the speculator never, or rarely the fact that the or substantially by speculator never, rarely or makes delivery delivery on the the exchange he may do so, ever, takes or ever, takes so, exchange (though (though may if he so so chooses) if chooses). Instead, Instead, he he usually usually sells has bought bought-either sells what he has either at at or at and buys a profit profit or at aa loss loss-and buys what he may have sold-either at a profit have sold a either at may profit .

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77 ft

at a loss-settling loss settling the or the differences differences either way by paying cash the losses losses or at either way cash for for the by paying or receiving cash for his his profits. profits. or receiving cash for Furthermore, as as will will be be explained explained in producer or in detail detail later, a producer or Furthermore, later, when a converter uses a converter uses the the exchange exchange as as an insurance to hedge, or insure insurance device device to hedge, or insure or credit against price or credit risks risks-whether he insures purchase or whether he a purchase insures by a or by against price by a by a the exchangehe exchange-he seldom, seldom, if if ever, takes or on such sale sale on the or makes delivery such ever, takes delivery exchange contracts. On the the contrary, will sell sell on on the the contrary, he most likely exchange contracts. likely will exchange previously bought there as a hedge, or he will buy, he there what as or he will bought previously exchange hedge, buy, just as as soon as the the insurance insurance protection protection is needed, what what he is no longer soon as he just longer needed, there. sold previously sold there. previously factors and conditions, of these As aa result result of these various various factors that operthe fact fact that As conditions, the operin exchange markets, markets, dealing in future deliveries of the exchange future ators ators on the deliveries of staple dealing staple commodities, buy and sell sell annually annually a volume several times the several times the annual annual commodities, buy surest that is the crop of the commodity is the surest evidence that these organized markets evidence these of the markets commodity organized crop constructive economic functions been successful in performing performing the the constructive have been successful in have functions developed-to serve the public interest by the for which they were to serve the interest for estabby the estabdeveloped public they lishment of an effective effective insurance device against insurance device credit risks. In lishment of risks. In against market and credit fact, were a perfect insurance institution, there would be insurance there if the the exchange were be institution, fact, if exchange perfect no deliveries deliveries at at all, all, whereas whereas deliveries deliveries on commodity commodity exchanges exchanges generally generally in the constitute less than than one one per per cent of the the volume transacted cent of transacted in the course course of of constitute less a crop crop season or aa year. year. The transfer transfer of these risks to speculators reduces of these risks to season or a reduces speculators to producers raises prices prices paid paid to the elimprices to to consumers or raises elimthrough the producers through prices costs of of production, ination of of what otherwise higher costs distribuotherwise would be higher ination production, distribufall upon tion, and conversion, conversion, which without without speculation upon the the tion, speculation would fall run. in producer or the in the long run. consumer the long producer or the Short Selling. The use use of of a futures futures contract contract as as a medium for for short short Short Selling. much criticism selling has perhaps subjected the exchanges to as criticism and attack to as the has attack exchanges selling perhaps subjected is neither other factors here is neither to as to uphold factors combined. The purpose all other as all purpose here uphold nor to to condemn, but rather rather to to examine the the mechanism and uses uses of a of a nor condemn, but is short with a view to showing a short sale is and the legitihow short made to sale a view the with short sale, sale, showing legitiit serves. serves. mate economic functions functions which it mate declares that most quoted short selling that The most selling declares adage about short quoted adage

"He who sells sells what isn't his'n isn't his'n buy it to prison," it back or or go to Must buy go prison." The best best that that can can be be said about this this is that the the is that the law is is as said about as bad as as the and until a modern statute quality of of the the verse. verse. Unless Unless until a statute makes short short quality in selling a: penal offense, short seller is in any danger of prison because seller is of short no because a offense, any danger prison penal selling in commodity of that that act However, short short sales markets have have at sales in act alone. alone. However, at of commodity markets in the past, times been been outlawed by ill-advised ill-advised legislation outlawed by times past, both abroad legislation in the and in in the States. the United States. are much simpler The mechanics mechanics of the short sale of than a commodity of the of a short sale commodity are simpler than

78

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

those of of the the short short sale stocks. of stocks. sale of those

A person person who believes believes that that the the price price of of

in relation its earning General Motors common stock is too too high high in relation to to its stock is General Motors earning it back later at power may sell it short in anticipation of buying it later at a lower of in it short sell buying anticipation power may of price. Nevertheless, all contracts on the stock exchanges of the country all the stock the contracts country exchanges price. Nevertheless, to hours. require delivery on all sales within twenty-four to seventy-two hours. all within sales seventy-two twenty-four require delivery Not Consequently, a short seller deliver promptly. owning any must deliver a short seller promptly. owning any Consequently, number of the shares he stock of General Motors, he the of shares has must he borrow stock of General Motors, of the stock will sold in order order to to make delivery. the stock will lend it it sold in delivery. No owner of without adequate security; therefore the short seller of the stock must short the stock the seller of therefore without adequate security; give the owner cash cash or to secure the loan of of the the stock. secure the stock. or its its equivalent equivalent to give the the lender has short The short has the the lender's the short lender's stock; has the seller now has short seller stock; the seller delivers the lender's the short stock on the seller's lender's stock short sale sale delivers the short seller cash. The short seller's cash. the sales price from the the buyer. buyer. sales price and collects collects the will do later Until the returns the the stock, he will later when the short seller returns short seller Until stock, which he he his short by purchase purchase on the the stock market, he pays pays the stock market, the short sale sale by covers his he covers be declared stock. On lender any dividends which may be declared on the borrowed stock. the lender any dividends may short seller seller interest at the hand, the the lender of the the stock stock pays the short interest at lender of the other other hand, pays the the security the return current rates rates on the the cash cash which forms the for the return of the for of the current security lent the demand for for aa stock the loan supply supply limited, limited, is great and the stock is lent stock. If the stock. If great decline. Loan demand the rate of interest which stock will pay pay may may decline. stock lenders lenders will the rate of interest in for may be be so in relation to supply that the the stock relation to stock lender so great lender for the the stock stock may great supply that "flat." If will pay pay no interest interest at at all. all. The stock then lends there is is aa lends "flat." If there stock then will serious of the stock available for loans, the stock lends at aa available the for the of stock stock lends serious shortage at loans, shortage premium-that is, the borrower not only has to give cash as security, not has borrower to that the cash as is, only give security, premium dollar or or less but has pay aa premium premium of, of, say, say, one dollar but less per share to has to to pay to the the per share lender for for the the temporary temporary use use of of the the stock. stock. lender The short of aa commodity profaces none of of this this complicated seller of short seller commodity faces complicated prohis sale time contract. cedure. He makes his a time contract. He sells for delivery sale on a sells for cedure. in delivery in some distant month; consequently, until the arrival of the delivery until the arrival of the distant month; consequently, delivery month, he he is is required required only only to to keep keep his protected, his short sale adequately short sale month, adequately protected, adverse rise rise in the price the commodity. by cash margins, from an adverse in the cash margins, of the by price of commodity. delivery month arrives, arrives, he must cover his sale purchase the delivery cover his When the sale by by purchase make on the the exchange or delivery the contract. He may, however, or on contract. the delivery exchange may, however, at any time without without waiting for the the delivery make his his purchase purchase at any time waiting for delivery month to arrive. arrive. to is most frequently attacked that it Short selling the ground it artifiartififrequently attacked on the selling is ground that When a a sharp price decline occurs in any comcially depresses prices. decline occurs in cially sharp price depresses prices. any comin dealt on futures in futures markets, the short seller alone is usually modity dealt the short seller alone is markets, modity usually blamed for for bringing bringing about the the debacle, debacle, unaided by by conditions of demand conditions of and supply anything except the alleged weapon of the of the except the alleged all-powerful supply or anything all-powerful weapon sale. The following short sale. declaration short declaration by Senator Capper (of Kansas), Senator following by Capper (of Kansas), made some years years ago in connection with the the introduction into introduction of of a a bill bill into ago in

Speculation Speculation

79 79

the States Senate the United States to limit limit trading trading Senate to

and prohibit short selling prohibit short selling on

commodity exchanges is typical: typical: commodity exchanges is Inasmuch as as selling, nothing but but selling, a decline, forces a decline, and inasmuch selling, and nothing selling, forces also of the also as as 90 90 per per cent of the selling selling is is done by to force short to force a a by gamblers selling short gamblers selling it decline, it follows logically that speculative selling is the dominant factor in follows that is the factor in decline, logically speculative selling

in the the wheat market. forcing market. The market's market's two great great abuses decline in abuses are are short short forcing a decline excessive speculation. selling and excessive selling speculation. first three three days the "bear raid" which started May, the the futures In the the first of the in May, "bear raid" started in futures days of transactions 97,400,000, 90,300,000, and 93,700,000 bushels, respectively, transactions were 97,400,000, 93,700,000 bushels, respectively, 90,300,000, as the or almost as as much wheat as the entire entire crop this year year in in this country's this country's grown this crop grown state. premier sta'te. This hammering continued until on July 23 wheat until was hammering premier July 23 wheat closed at about it through the balance of closed at $1.l8t, about it remained through where balance of the the month, the month, $1.18^, decline of of 52 cents as compared 30 a decline cents a bushel. as compared with with $1.70^ $1.70! on April April 30-a bushel. the gamblers all the gamblers took took advantage advantage of the technical technical conditions Naturally, the of all in the conditions in the Naturally, of market, especially the ancient stunt of "touching off" stop-loss orders placed market, especially the ancient stunt "touching off" stop-loss orders placed behind their their operations operations by by the the optimistic were hoping hoping for advance. for an advance. optimistic chaps chaps who were And they full use, use, too, too, of of bearish bearish propaganda. Finally, there there was aa thorthorthey made full propaganda. Finally, of the the "longs," ough out" of of the the last last of bought at at above $1.30. $1.30. "shaking out" ough "shaking "longs," who had bought if there II am wondering wondering if there is is anyone left who will will have the to pull pull the hardihood to anyone left that time-worn shibboleth shibboleth about the the wheat market responding responding solely that to the the solely to "law of of supply supply and demand." That explanation explanation had whiskers whiskers on it it before before the the present generation generation of gamblers born, and when aa market rigger rigger can artifi· artifigamblers was born, present cially increase the supply of wheat 10,000,000 bushels overnight, the increase the is the 10,000,000 bushels overnight, what is supply of cially use of prating about about aa law of supply supply and demand?15 use of prating law of demand? 15

Six before the the date date of that speculation of Senator Senator Capper's Six days Capper's charge charge that days before speculation prices on the Chicago Board of Trade, the of Trade, Chicago prices Chicago dispatch, told of the establish· told of the establishChicago dispatch, in July of settlement prices for for shorts July corn on settlement prices shorts who were trapped ment of trapped in the Chicago Chicago Board of of Trade. Evidently Evidently heavy heavy short was taking taking short selling the selling was in corn at the very time that short selling in wheat on the place at in time that in the same short corn the very selling place in corn was active. Short was unable unable however, however, Short selling of Trade was active. Board of selling in in the trend of of prices. prices. Thus, very same market, market, even to stem the rising rising trend the very stem the even to Thus, in carried in different grains, carried at the same time, resulted in short selling in different on at the short selling time, resulted in grains, diametrically opposite price price movements. What is the explanation for this? is the this? explanation for diametrically opposite Let us trace trace the the development development of of the the world world wheat crop in 1928. About in 1928. Let us crop the middle middle of of May, May, the the winter winter wheat crop likely to to be as likely the reported as crop was reported x ... "",11,'" ,1 bushels, bushels, or per cent cent below the the -'-':.!,llIlfI,IIII'I·bushel of or 12 12 per Viii,niM),niM-bushel crop ,^.i crop of 1927. outlook was also for aa spring spring wheat crop smaller than that of also for smaller than that of 1927. The outlook crop the preceding year. year. A month later, later, the the official placed official government estimate placed the preceding government estimate at 512,000,000 the winter wheat crop crop at 26,000,000 of 26,000,000 increase of winter wheat the 512,000,000 bushels, bushels, an increase estimate. Private at this estimates at the preceding preceding estimate, Private estimates this time time placed placed bushels over over the bushels was the the cause cause of the low wheat of the was the Journal Journal of of Commerce, in aa the Commerce, in

<

1 1

ii,

1 1

IB Jounial 15 Joumal of of

Commerce. August 18, 1928. Commerce, August 18, 1928.

80 8o

Commodity Exchanges and Futures Trading and Futures Trading Commodity Exchanges

in the wheat crop at 252,000,000 bushels, and growing the spring conditions in 252,000,000 bushels, growing conditions crop at spring wheat were known to to be be favorable. favorable. By By the middle of the federal the middle of July, the federal Canada were July,

was raised government's the winter winter wheat crop to 544,000,000 estimate of of the raised to 544,000,000 government's estimate crop was 32,000,000 bushels bushels over June estimate, bushels, an increase of 32,000,000 over the increase of the June estimate, and bushels, at 256,000,000 the wheat crop crop was was estimated bushels-aa 4,000,0004,000,000estimated at the spring 256,000,000 bushels spring wheat bushel increase. increase. By By the the middle middle of of August, August, the United States total United States crop, the total bushel crop, which in in May May was was expected to be smaller than that of 1927, was estithat to than of be smaller was estiwhich 1927, expected as compared with the 1927 total mated to to be be 891,000,000 bushels, the 1927 total of of 891,000,000 bushels, as compared at 873,000,000 bushels. Unofficial Unofficial estimates estimates placed placed the the Canadian crop 873,000,000 bushels. crop at total revised 500,000,000 bushels. total of the United States crop was again revised of the States bushels. The 500,000,000 again crop upward in September to 901,000,000 bushels, and in October to 904,000,000 in to in to bushels, 904,000,000 901,000,000 upward September bushels. The Canadian crop in September crop in was placed at 550,000,000 was at bushels. 550,000,000 placed September in October as compared with 440,000,000 440,000,000 in Accordingly, in bushels, as in 1927. 1927. Accordingly, bushels, compared with America of the expectation was was for crop in a crop in North America the expectation for a of 1,454,000,000 1,454,000,000 bushels, bushels, as compared compared with with 992,000,000 bushels the preceding year, and for as for an bushels the preceding year, 992,000,000 exportable of 680,000,000 bushels, as compared with with 538,000,000 as compared 680,000,000 bushels, 538,000,000 exportable surplus surplus of a the year before. before. In addition to to these these increases, there was a carry-over of In addition there the year increases, carry-over of 100,000,000 bushels from from 1927, that the the it was known that 1927, and by 100,000,000 bushels by October it in twenty-one European countries approximate 1,374,000,000 crop in countries would 1,374,000,000 twenty-one European approximate crop bushels, as l,:~ ;',,111111,111111 bushels in Australia and the in 1927-with as against 1927 with Australia the I"I,IMMI,IMMI bushels bushels, against 1,:! heard from. Argentine yet to be heard from. to be Argentine yet foregoing rsum resume of of the the statistical statistical position in 1928 The foregoing of wheat in indi1928 indiposition of there was was only only one direction direction in wheat prices prices could cates cates that that there in which wheat could and that moved-and that downward. The exportable surplus possibly have was have moved possibly exportable surplus of the the United United States was greater; import requirements requirements of States and Canada was the import greater; the of were smaller. of Europe smaller. were Europe To take take one more aspect of the the question: August 18, the before the 18, before aspect of question: On August of the first estimate of the Canadian crop was issued before EuroEurofirst official official estimate issued and before crop was pean estimates were published, wheat was selling at $1.16! estimates were December wheat at published, pean selling $1.16J per bushel. bushel. The price price later later touched touched $1.l3i, but on October October 17, 17, two $1.13f, but per full extent America's and Europe's with the the full extent of of North America's months later, later, with Europe's the was The bumper crops crops realized, realized, the price price $1.15l speculators sold $1.15|. bumper speculators who sold in the the summer had forecast early in short early wheat short forecast conditions conditions correctly. correctly. Any short temporarily increases increases the sale temporarily short sale the supply of the the commodity. Any supply of commodity. For every every short however, there there must be be aa purchase-for every For short sale, for sale, however, seller, purchase every seller, is not not strong enough to absorb the of selling, aa buyer. buyer. If If demand is to absorb the of volume strong enough selling, if buying power is to absorb the selling, the prices recede. recede. But, sufficient to absorb the But, if buying power is sufficient prices selling, the a not be a decline, but an advance':""and an ensuing price will movement will not be advance and decline, ensuing price advance to the subsequent subsequent covering covering or by the the shorts advance to which the or purchases shorts purchases by will actively any case, case, every short sale must, before expirawill actively contribute. contribute. In any short sale before must, every expiration of the contract delivery period, be be offset by aa corresponding purtion of the contract offset by delivery period, corresponding pur-

Speculation Speculation

81 81

chase on the the exchange exchange or or physical physical markets, markets, thereby chase thereby increasing increasing at that time. time. at that

demand

in which heavy heavy short has sales have been made has A declining short sales declining market in in advance. a potential its fall cushioned in advance. Every Every short buyer short seller is a fall cushioned seller is had its potential buyer at any any time. time. He must buy buy sometime. sometime. As the the price declines, the buying the at buying price declines,

of short they cover their short short trades-tends trades tends to to offset cover their offset the the panicky of short sellers-as sellers as they panicky at at higher prices. selling of bulls bought of who bulls bought higher prices. selling analyses of short selling, written many many years of short The following before following analyses selling, written years before wheat crop crop suffered prices, present the reasoned the 1928 suffered from falling the reasoned the 1928 wheat falling prices, present judgment of nationally recognized recognized economists whose opinions economists whose deserve of two two nationally opinions deserve judgment attention: attention: Nine-tenths of people are are by by nature nature "bulls," the higher higher prices prices go Nine-tenths of ,t:he the people "bulls/' and the go and If it were not for elated elated ,they become. If it the group of more optimistic become. for the of they group optimistic

the the

it would be short resist an excessive excessive inflation, inflation, it be much easier to raise easier to raise short sellers sellers who resist inflation became apparent roof; and then, then, when the the inflation to all, all, prices through the roof; through -the apparent to prices until the the be abrupt the basemen-t basement was the descent descent would be likely unchecked until abrupt and likely operations of of the the "bear," inflation reached. The operations excessive inflation reached. "bear," however, however, make excessive tend to a violent and similarly tend to prevent a violent smash, because the extremely expensive the smash, extremely expensive similarly prevent realize his his profits, profits, must become a buyer buyer when he covers bear, to to realize covers...•. Short Short bear, unduly <1q>nvv>iii<; (ki)l'('~,illg prices, prices, as many would have us us believe, believe, selling, instead of of unduly as many selling, instead which the often the the most most powerful powerful support the market pos'sesses. It is ordiis often is It is an ordisupport possesses. in that nary affair to read in the press that the market is or put up at the the the is sus'tained to read sustained affair or at the press nary put up expense of the "shorts," who, having contracted to deliver at a certain price, contracted deliver of the to at a certain "shorts," who, having expense price, can frequently frequently be be driven driven to to "cover." thus aa beneficial beneficial factor "cover." Short Short selling is thus can factor selling is in steadying prices and obviating obviating extreme extreme fluctuations. its fluctuations. Largely in steadying prices Largely through through its of serious serious and unfavorable not take take the the action, the unfavorable events the discounting events does does not action, discounting of of aa sudden shock shock or or convulsion, convulsion, but, but, instead, is spread a period period form of out over over a instead, is spread out holder the actual of the actual holder of produce ample time to observe the situatime to of time, observe the situatime, giving produce ample giving 16 his loss before ruin ruin results. results. 16 tion and limit loss before limit his tion familiar argument argument is that short short selling is that is a a selling The familiar of products that do selling is selling of products that so furnishes not exist, exist, in to those those that that do, furnishes aa corresponding increase in addition addition to not increase do, and so corresponding of necessarily depresses depresses prices; prices; and figures of supply, figures representing supply, which necessarily representing enormous as statistical brought forward as statistical proof. proof. These sales, however, are are also also sales are brought sales are sales, however, is of and the question of their is no importance. They reprepurchases, of their amount of the question purchases, importance. They represent a speculative as well well as as a speculative speculative supply, the real real question question sent a supply, and the speculative demand as short side whether the the speculative speculative forces forces on -the 'the short than those on is whether side are are stronger is those on stronger than the speculative the long side of market, and whether the or is of the the market, or the demand is long side speculative supply supply It is is the the fact that they sometimes are not, which warranted by by actual conditions. It fact that actual conditions. warranted sometimes are which not, they that speculative of demand gives rise to to the the idea idea that are "independent speculative prices prices are gives rise "independent of and supply ..•• supply. .

.

.

.

.

.

of Produce 18 S. S. Functions of Produce Exchanges," Exchanges," in American Produce Produce in American S. Huebner, iS. Huebner, "The Functions Academy of Exchange Markets Markets (Philadelphia: of Political Political and and Social Social Science, Science, Exchange (Philadelphia: American Academy

1911) pp. 19, 20. 19,20, 1911),, pp.

82

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

Perhaps the the most most potent potent influence influence in is the in preventing the fluctuations is wide fluctuations Perhaps preventing wide is he he who keeps keeps prices prices down by his short sales, maligned short short seller. seller. It much maligned It is short his sales, by keeps them strong by his his covering purchases. This is is especially true and then then keeps covering purchases. strong by especially true in the the case of inflation inflation followed by panic. panic. If were not short selling in it were followed by If it not for for strong case of short strong selling prices might might rise before when the the market becomes inflated, rise to to almost almost any extent before inflated, prices any extent the crash. Now ,the rise tends tends to to be be checked by ,the of shrewd shrewd operthe final final crash. the rise 'the efforts checked by efforts of operof the ators take advantage the inflation. the other hand, when prices prices begin begin ators to to take inflation. On the other hand, advantage of to tumble, tumble, ·they kept from going going as by the the to are kept as {hey as low as otherwise would by they are they otherwise the shorts have to to cover their cont·racts. prices purchases which shorts the to make to their have cover contracts. Thus purchases prices at both both ends ends of of aa panic panic are than they wtihout short at less extreme than be wtihout are less short they would be 17 l1 selling. selling. So well is the cushioning effect of a short recognized on the the interest recognized well is the cushioning effect of short interest in price stock exchanges that, that, when a rapid rapid run-up run-up in price has has driven the shorts stock exchanges driven the shorts in a it is a technically out of of a stock, technically dangerous position. A is considered considered in stock, it dangerous position. if speculation enters at market without without short selling, if at all, is to be be enters bound short selling, is to all, speculation a of wide and violent real estate a market of violent price price swings. swings. The Florida Florida real estate bubble in in the the 1920's lends point point to to this this principle. principle. Reckless pushed Reckless speculation 1920's lends speculation pushed prices of Florida land up to levels economic justification. Florida land to levels had of which no up prices justification. When the inevitable end of of the the boom came, prices collapsed. Nothing the inevitable came, prices collapsed. Nothing of Florida land. to affect affect the the value value (not the price) price) of had happened land. The (not the happened to market had simply disappeared. If it make short it had been possible to If to short possible simply disappeared. sales of real real property, property, undoubtedly undoubtedly they they would have been made in in abundsales of ance as prices prices mounted. Some premature premature short short sellers sellers would have been ance as until in. trapped; others short until the decline decline set have remained short the set in. would others trapped; Their subsequent covering purchases, when the collapsing the market was collapsing subsequent covering purchases, would have have afforded afforded the the best, best, or perhaps the the only, realty or perhaps for realty only, market for at the time have tended tended to to stabilize prices earlier at stabilize prices earlier and at time and would have at the higher levels. higher levels. Regulation of of Speculation. Speculation. Speculation brunt of the brunt often bears bears the of Speculation often Regulation attacks that are really really directed directed against against manipulation, manipulation, which is is illegal that are attacks illegal for many under both both state federal laws, laws, as years under it has been for as it state and federal under many years is the rules the various various commodity By lawful lawful speculation of the rules of the exchanges. By commodity exchanges. speculation is traders buying or or selling selling of of commodities by traders who expect to to the buying meant the by expect in prices, profit by a subsequent rise or decline in prices, but are not acting in are not acting in profit by a subsequent rise or decline to gain action to control concert with one another or or attempting attempting by by joint joint action concert with gain control is of the or depress prices. By illegal manipulation is meant conconor the supply of depress prices. By illegal manipulation supply or more the certed buying buying or or concentrated by two or persons concentrated selling certed selling by persons with the object of forcing prices materially higher or depressing them ill(~rdinately of inordinately depressing forcing prices materially higher object for higher through such sales. sales. Manipulation Manipulation for higher prices prices may of such the volume of may through the result in illegal or less important "squeezes." less important corners or result in "squeezes." illegal corners several operators A corner, corner, always always illegal, illegal, is is aa condition condition where one or several operators i* 11

H. C. C. Emery, Emery, op. H. op.

cit., pp. pp. 119-121.

cit.,

Speculation Speculation control or have contracted for so so control or have contracted for

83

that outstanding much of of the the supply outstanding supply that contracts to deliver fulfilled except prices which the the operat prices contracts to deliver cannot cannot be fulfilled except at operators of of the the corner corner dictate. dictate. A squeeze is a relatively small corner, occura occuris small ators corner, relatively squeeze ring in in deliveries for some one month or in or some one grade. deliveries for Someor, in grade. Some-or, ring fact, most-squeezes are physical and the the exchange the physical are inevitable inevitable on both the fact, mostsqueezes exchange not the the result result of of illegal manipulation. For in~tance, in markets and are in markets are not instance, illegal manipulation. the steamers bringing bringing sugar, hides, coffee, cocoa, or or the winter winter months steamers sugar, hides, coffee, cocoa, at sea, rubber from foreign foreign ports ports may may not, not, because because of in of storms arrive in storms at sea, arrive the month for for which they they are are scheduled and in the cargoes they in which the the cargoes they failure of carry have already already been sold for delivery. thousand sold for of several several thousand delivery. The failure carry have in the anyone commodity to to arrive arrive in the expected tons of of any one commodity result tons expected month may may result in in aa sharp rise or squeeze in price of that month's delivery, as the merin that meror of as the rise delivery, squeeze price sharp chants, whose cargoes have not arrived, are forced to enter the spot enter are forced the have not to chants, arrived, cargoes spot and exchange markets markets to to buy, buy, often often at replace the at substantial substantial losses, to replace the delayed losses, to delayed exchange sold for delivery under contracts that must cargoes, have have which been for that sold contracts delivery cargoes, will be completed completed before before the the end of the month. Otherwise, be of the the sellers sellers will Otherwise, the be be in in default default and suffer suffer even more serious serious losses losses and penalties. penalties. The a in buying such conditions creates a squeeze in prices conditions or specific under such creates buying squeeze prices or specific market for the entire is of spot merchandise, for the entire is fully aware of of grades fully aware grades of spot merchandise, the usually usually acute need for replacement of acute need for immediate replacement of such delayed the delayed cargoes. cargoes. It has many years years since a corner corner has has occurred It since a occurred on any has been many any commodity commodity of The speculative corners of the past years were not always exchange. the corners always past years speculative exchange. at all nor were of the reputed corners at all effecfinancially successful, nor of the effecwere corners some financially successful, reputed brought ruin ruin upon upon the tive. the operators tive. Most of of them brought engineered operators who engineered the operators to criminal prosecution. The by-laws to them and subjected the criminal by-laws prosecution. subjected operators rules of all commodity commodity exchanges exchanges today today are to are framed designedly and rules of all designedly to of such activities and to make them ineffectua}.18 prevent the occurrence activities to ineffectual. 18 prevent the occurrence of manipulative or illegal squeeze squeeze is the corner, A manipulative is less or illegal less spectacular corner, spectacular than the a it is is still temporarily on a small scale. Most squeezes small and scale. and it still possible temporarily possible squeezes as aa result result of today innocently as of governmental as restrictions such as occur innocently governmental restrictions-such today occur the sudden establishment of or or decrease quota on a comin an import decrease in the establishment of comimport quota modity such as sugar. may be be seriously unfairly embarSellers may such as seriously and most unfairly modity sugar. Sellers it almost impossible to find it rassed by such restrictions restrictions and find deliver on rassed by impossible to deliver their sales By-laws have have been adopted by the exchanges, the their sales contracts. contracts. By-laws adopted by exchanges, however, for the purpose of preventing any squeeze from being of if for the ever, effective, if preventing any squeeze being effective, purpose or fair the price price is is forced above the the fair fair market or forced above fair commercial price the for price for the commodity. commodity. the The following following by-laws by-laws of the Commodity Inc., are of the are illusillusCommodity Exchange, Exchange, Inc., is designed to of this phase of of exchange exchange regulation regulation which is outlaw trative trative of this phase designed to outlaw and make ineffectual ineffectual any any corner corner or squeeze. or squeeze. is See 18 XIII for for further discussion of this point. point. of this further discussion See Chapter Chapter XIII

84

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

Sec. 404. Whenever through any exceptional exceptional contingency, not provided provided Sec. 404. through any contingency, not for in the By-Laws Rules, deliveries are not possible, and an extraordinary not and deliveries are for in the By-Laws Rules, extraordinary possible, situation a rigid rigid enforcement of generally would be contracts generally of contracts situation arises, arises, wherein a grossly at variance variance with with just just and equitable principles of trade or the the public public of trade equitable principles grossly at interest, then upon upon application of any any member, after investigation, the member, and after interest, then investigation, the application of in Board may may accord relief in such as in their judgment the emergency their in manner as the such accord relief emergency judgment may demand, wi-th due regard, regard, however, however, to to upholding rights of the rights of both buyer demand, with buyer upholding the may and seller the fulfillment of their their just just obligations interests to the the best best interests fulfillment of seller and the obligations and .to of the Exchange. Exchange. of the Sec. 409. Whenever it shall appear appear that has been created or aa Sec. 409. that an interest interest has created or it shall ~ituation exists exists in in respect respect to to any any delivery situation endangers, delivery month or months which endangers, or may endanger, normal functioning functioning of the market, the exchange or of of the or may the normal of the market, exchange or endanger, ,the or that that conditions conditions have have arisen jeopardize the the maintenance maintenance of of aa free, open, or arisen which jeopardize free, open, and orderly orderly market, market, or which which jeopardizes jeopardizes the the fulfillment fulfillment of of outstanding conoutstanding contracts, or or which which threaten threaten to to conflict conflict with with the best interests the exchange or the best interests of of the tracts, exchange or of the public, of the public, whether whether such such interest or such conditions may involve involve aa violation violation interest or conditions may of the By-Laws or or Rules Rules of the exchange exchange or not, the the Board of by aa of the By-Laws or not, of the of Governors, Governors, by vote of two-thirds two-thirds of those those present present and voting, voting, but but in in no event by by less less than than twelve twelve affirmative affirmative votes, votes, may may itself, itself, or through through any any regular regular or special special committee appointed by the the Board, the situation interest; and for the purpursituation or interest; for the Board, investigate investigate the appointed by poses of such investigation the Board, Board, or of such or such such regular or special committee, investigation the regular or special committee, poses shall have all of the powers and authority authority vested By-Laws in in the the Comshall have all of the powers vested by the By-Laws by the mittee If the shall conclude that mittee on Business Business Conduct. If the Board shall that such an interest, interest, situation, or condition or that that the the best of the the exchange or of best interests condition exists, interests of of the the situation, or exists, or exchange or public are are or or may may be be threatened, threatened, it vote of present, it may by a those present, of those public may by a majority majority vote after opportunity for the interested to be be heard, heard, require after affording for the interested members to affording an opportunity require the involved therein 'therein to take such steps may the member or members involved to take as the the Board may steps as necessary to to avert, regulate, or correct correct the the conditions in question, question, and deem necessary conditions in avert, regulate, for purpose may may require require such such member, member, or liquidate in that purpose or members, to liquidate in whole, for that members, to whole, or in in part, part, -their -their position position or or positions positions within within such upon such terms or such time time and upon such terms as may by the the Board, Board, or to to take take such may be be deemed fixed by as such other other steps as may may be fixed steps as necessary or or desirable desirable in in the the discretion discretion of the Board. In the Board. In of the event a a member the event necessary fails to comply comply promptly promptly with with such such requirements requirements as prescribe, fails to as the the Board may may prescribe, his failure shall be be considered considered as best interests interests of of the as an a'ct detrimental to to the the best his failure shall act detrimental the Exchange its members and he he shall be subject shall be to censure, censure, fine, fine, suspension, Exchange and its subject to suspension, (lr 210 of the By-Laws. By-Laws. or expulsion of the Section 210 expulsion under Section The above above powers powers and authority, to the Board, are to enlarge the Board, are intended intended to given to authority, given enlarge the not intended in to curtail curtail or are not in any of the the Board and are the authority or way to authority of any way restrict same. same. restrict the authority of such authority of such by-laws, by-laws, the the country Under the the exchanges of the exchanges of country

are are

at which contracts empowered to fix fix the the prices prices at contracts shall shall be settled in settled in empowered to order cope with with all all squeezes, whether they are innocent or· manipuorder to to cope whether are or innocent they squeezes, manipulative. Likewise, in time of war, when certain in time of war, certain exchanges lative. Likewise, are forced forced by exchanges are by conditions all by governmental proclamation to suspend all operations, conditions or or by to governmental proclamation suspend operations, all outstanding the directors are empowered empowered to to fix fix the prices at the prices at which all the directors are outstanding contracts be liquidated. liquidated. contracts must be

Speculation Speculation

85

of by-laws By the adoption adoption of by-laws limiting limiting the the extent price fluctuations extent of of price fluctuations By the in in aa single trading day, by rules of clearing associations (operating in rules of associations single trading day, by clearing (operating in conjunction with the respective exchanges), limiting the volume of with the the volume of conjunction respective exchanges) limiting trading clearing member can clear with the clearing associaclear with the clearing associatrading which each clearing by rigid rigid compliance with the regulations of the federal Comtion, and by with the of the federal tion, compliance regulations modity Exchange Authority limiting the number of open contracts of open contracts modity Exchange Authority limiting the individual speculator may have in any commodity individual in which any have any speculator may any commodity exchange exchange 19 the exchanges have established all the practical market,19 all have established the the effective market, exchanges practical and effective safeguards necessary to to keep keep their their speculative machinery free free from safeguards necessary speculative machinery abuses. It is is more than than possible possible-it is probable probable-that it is that other other reforms reforms will abuses. It will arise. To the or new techniques be made as as new occasions occasions or techniques arise. the extent that extent that be the exchanges are alert to exercise exercise aggressive to effect effect conconalert to the exchanges are aggressive leadership leadership and to as great necessary, their their position position as structive reforms from within, within, when necessary, structive reforms great market places places and insurance agencies (essential to the the public public interests interests and insurance agencies (essential to necessary to to more orderly production, distribution, conversion, and distribution, conversion, orderly production, necessary financing of staple commodities) will be constantly strengthened, of will be constantly strengthened, and financing staple commodities) emotional or or demagogic demagogic attacks attacks upon upon speculation will become ineffectual. ineffectual. emotional speculation will with the passage of the federal Commodity Exchange Since of federal with the the Since 1936, Act, 1936, Commodity Exchange Act, passage of speculation in an effort the volume of the federal government, in effort to to control control the federal government, the speculation fix the to fix the trading trading limits limits by individual individual operators, has been authorized authorized to operators, has by of or market positions of members non-members of such exchanges and or exchanges positions of a federal as are to the Act. limits are determined by a federal agency limits Act. These are as to the are subject by agency subject in and apply apply only to exchanges dealing in domestic agricultural products. to agricultural products. only exchanges dealing ,

19 See 10 Chapter XIII. XIII. See Chapter

CHAPTER ~ CHAPTER

IV

)

Grading, Standardization, and Inspection Grading, Standardization, Inspection

Commodity perform other valuable economic services in services in other valuable Commodity exchanges exchanges perform addition to their function function of providing aa means of to their credit of providing of price price and credit insurance. insurance. One of of these these important important services services is render the is that that they render the comthey modity liquid. By liquidity is (1) that the commodity may meant that the is modity liquid. By liquidity commodity may (1) be sold at always sold or bought at price readily, instantaneously, some always bought price readily, instantaneously, and in any of sharp in any amount without the the necessity necessity of price reactions, reactions, protracted protracted sharp price bargaining, or searching for a buyer or a seller; (2) that sale of for a that or sale of the the seller; searching buyer (2) bargaining, be to commodity may effected by sellers to buyers through a standardized effected sellers standardized buyers through commodity may by contract which requires requires no attention to its technical terms terms and condicondicontract attention to its technical tions on the the part part of of either either party party to to the the transaction, transaction, except price and as to to price tions except as time of of delivery; delivery; and (3) (3) that that title title to to the may be transferred transferred the commodity time may commodity by delivery negotiable warehouse receipt, passes from hand to a negotiable to of a delivery of by receipt, which passes hand, is everywhere accepted as representative of the stored commodity is of the stored as hand, commodity representative everywhere accepted it controls, accompanied by by an unimpeachable unimpeachable certificate it is accompanied the of the certificate of controls, and is quality of the merchandise. merchandise. the of quality futures contract, contract, in with the negotiable in conjunction the negotiable The standardized standardized futures conjunction with warehouse receipt receipt and the the certificate certificate of or grade, the of quality makes the grade, quality full measure of commodity liquid. to impart impart the the full liquidity to to of liquidity commodity liquid. In order to a commodity, it is necessary that a negotiable warehouse receipt shall it is that shall a necessary negotiable commodity, receipt be recognized recognized as as the the equivalent the commodity of the itself. Before such a a be commodity itself. equivalent of system of delivery by of receipts can be developed, it it means of be of warehouse receipts delivery by system developed, is essential essential that that definite or standard standard grades of each commodity is definite or estabgrades of commodity be established so that every every buyer buyer or or seller seller may may know with certainty lished so that certainty what he may if he accepts delivery, or or what he must tender, tender, if if he makes receive, if may receive, accepts delivery, delivery on the contract. After standard grades are established, however, are the After contract. established, however, grades delivery so that it is still necessary to to provide provide for for aa system that specific it is still necessary system of inspection inspection so specific certificated as of the the commodity may properly sampled and certificated as proper lots be lots of commodity may properly sampled proper lots are are inspected for delivery delivery under the the exchange exchange contract. contract. These lots for inspected and then certificates are assorted into standard grades, grade certificates are issued under and issued assorted into standard grades, grade exchange supervision. exchange supervision. 86 86

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of grading integral part part of of the the system system of As an integral the grading and inspection, inspection, the all lots lots intended exchanges license warehouses warehouses in in which all intended or or offered offered for for exchanges license stored. delivery be stored. The receipt, issued by approved must be warehouse issued delivery receipt, by approved and bonded warehouses, warehouses, certifies certifies to to the the existence existence of of the the commodity in commodity in the warehouse; warehouse; the the grade weight certificates certify to to its the certificates certify its quality grade and weight quality and weight. weight. Inspection and Grading. Advantages of benefits of of standardizastandardizaof Inspection Advantages Grading. The benefits tion or qualities qualities won early those trades in which which tion of of grades in those trades in grades or early recognition recognition in first conducted. The following summary of trading was first the futures trading futures following summary of the for the reasons of reasons for the adoption of the system and the benefits of its operation the the its benefits of adoption system operation in the appeared in Produce the Origin, the New York York Produce Growth, and Usefulness of the Origin, Growth, Usefulness of appeared

that exchange exchange about ten ten years issued by Exchange, issued by that after establishment establishment Exchange, years after and of a grain inspection grading system: of a grain inspection grading system: The year year 1874 also rendered rendered memorable by by the the changes the methods 1874 was also in the changes in in of handling of handling and dealing in grain, have proved so beneficial to buyers which have so beneficial to buyers dealing grain, proved and sellers the commerce of the port. port. The grain trade was rapidly growing, sellers and the of the trade was grain rapidly growing, and many many of the the shipments western points. points. Naturally, Naturally, more or far western or shipments came from far less less delay delay and confusion confusion occurred occurred in in conveying conveying the the grain so far, and the business the business grain so far, of the of the Exchange Exchange was much disarranged disarranged by the rule rule ,that the various railroads that the various railroads by the to deliver to consignees the identical lots of grain shipped by the western had to to the lots of deliver identical consignees grain shipped by the western made, and producers. Many suggestions as as to to the the most effectual effectual remedy Many suggestions remedy were made, producers. special weighed the the subject subject for period, until finally the the for a a long until finally committees weighed long period, special committees adopted.••. present system of grading grain was adopted. system of present grading grain Grades of of all all kinds kinds of grain were were then then established, standard samples of such such of grain Grades established, standard samples of kept in the Exchange, Exchange, and the the Committee on Grain also appointed grades being kept also appointed in the grades being inspector in in turn turn was empowered to appoint an inspector in chief, to chief, who in empowered to appoint deputies deputies to promptly and reliably inspect each car of grain upon its at the Hudson of its arrival arrival each car at the grain upon reliably inspect promptly River of the the railroads. railroads.•.• The inspectors the weighing terminus of River terminus weighing inspectors supervised supervised the the number of the grain kept books in they recorded accurately the recorded in which and books of the accurately they grain kept and therein of each car, the kind, kind, grade, grade, and quantity of grain therein inspected weighed, of of each car, the weighed, grain inspected quantity the consignee of such inspection, and the the name of the of the such inspection, the date date of consignee.. . . . These certificates were to be properly properly dated and numbered consecutively, to be certificates were These consecutively, of the and were were to to state state in the kind, kind, grade, grade, and quantity the grain grain reprereprein detail detail the and quantity of railroad company to the Upon surrender of certificates certificates to the railroad issuing sented by them. surrender of them. Upon sented by company issuing the company with an order directing the the delivery delivery of the grain, the same, same, with order directing the grain, the company was deliver to proper receipts for and promptly deliver the quantity them for to give grade quantity and grade promptly give proper receipts of the the grain grain specified therein at any customary place of delivery the port port of at therein of delivery in the any customary place specified also adopted, York. Strict rules governing the duties duties of of ,the the inspectors New York. Strict rules inspectors were also adopted, governing the has handling graded grain has proved a and, as thus formulated, the system of of the as thus formulated, and, handling graded grain proved system its adoption. grand success, reflecting credit credit on all all concerned concerned in its success, reflecting adoption. grand the struggle to refers H. Parker thus graphically refers to ,the resulted Mr. Forrest thus H. Parker Mr. Forrest struggle which resulted graphically was contest in the above great and beneficent change: "The contest sharp and bit,ter, beneficent in the above great bitter, sharp change: the members opponents of the grading of grain among the most able of the were the opponents of the grading of grain among were determined that our the friends of the the movement, movement, however, that our Ex(.hange; friends of however, Exchange; the .

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the inaugurated. It It was my my good to be fortune to be on the the system the Board good fortune system should be inaugurated. that it at that time, I testify that it believed that the results us and can I was believed that the results that would draw us at time, testify and dealers nearer to the producers dealers of the West, and be beneficial to them the the to would be nearer beneficial to West, producers lots was no longer as -well as ourselves. ourselves. Grain in in car car lots to be be burdened with the well as with the as longer to sold heavy charges incident to its being sold and handled by itself, but was to be to its to be being by itself, heavy charges incident inspected by the New York Exchange and a certificate issued by the Produce a certificate issued by the Exchange inspected by the railroad company, company, stating stating that that the the receiver receiver was entitled entitled to to _ _ bushels railroad bushels of of equal equal quality, thus materially materially lessening lessening the the cost cost of port of of of handling car grain in the the port handling car grain in quality, thus result of this compact compact with with the railroad companies proved the railroad of this New York. York. The result has proved companies has its promoters and it safe to to say that the the wisdom of it is is safe of car grain of its the the handling car grain say that handling of promoters by the method in in vogue vogue prior prior to to the the establishment the grading grading of grain establishment of of the of grain by the system a physical physical impossibility." impossibility." system would now be almost a

In the physical markets markets the the various various trade trade associations, before establishIn establishthe physical associations, before already developed contracts and ment of of exchanges, developed both standard contracts exchanges, had already their members. The exchanges, standard grades as as essential services to to their essential services standard grades exchanges, their own standard contracts coming later, were were required required to to develop develop their contracts and coming later, of the grades, they benefited benefited greatly greatly from the prior work of the trade trade the prior grades, but they associations. associations. strict adherence to of well-defined well-defined grades Establishment of to the the Establishment grades and strict official of inestimable benefit to producer, distributor, the producer, is of inestimable benefit to the official standards standards is distributor, converter, in addition addition to to standard machinery standard grades, consumer. 11 If, converter, and consumer. If, in grades, machinery is inspection classification to certain that each and is provided for for to classification certain that make each inspection provided lot of the commodity commodity conforms to to aa standard is no longer standard grade, lot of the there is grade, there longer any practical application of the principle of caveat emptor (let the buyer of the of the emptor (let buyer any practical application principle beware) . standard grades, a purchase be compelled would a carestandard Without compelled caregrades, purchase beware) fully to to inspect inspect every every lot lot of of aa commodity buys; but, but, once standbefore he buys; standcommodity before fully of ard grades are are recognized recognized in in the the trade, trade, although purchases of non-standard non-standard ard grades although purchases of standard grades lots continue continue to to be be made by by sample, purchases of all purchases are lots grades are sample, all made by by description description and deliveries by certification. great merit merit of of certification. The great deliveries by standardized grades is is that that aa large large volume of is of sales sales "on description" standardized grades description" is now possible possible and that that the the great great bulk bulk of consequently, can of trading, now trading, consequently, be done dpne in in contracts contracts for for forward or or future by future delivery, sales by be delivery, whereas sales in "sample" necessarily imply spot trading in goods ready for immediate for goods ready "sample" necessarily imply spot trading delivery-aa factor factor which decidedly decidedly limits limits both the the tempo tempo and the the volume delivery of trading. of trading. Standard Grades and Methods of Establishment of In Establishment Classification. of Standard of Classification. every commodity trade in which the exchanges operate, they have played in the exchanges operate, they every commodity trade played aa pioneer pioneer part part in establishing grading grading and inspection systems. At present, in establishing inspection systems. present, commodities may may be divided divided into into two broad classes: those in in which classes: (1) (1) those standards quality or or of of inspection, provided by are provided a federal federal or both, of quality standards of both, are by a inspection, or in which standards of of quality methods or state (2) those those in and or state statute; statute; and (2) quality .

i 1.

See I. See Chapter Chapter 1.

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of sampling are established by the by the the of established by the exchange exchange (or inspection are (or by sampling and inspection in the trade association association of the physical physical market) market) . Included in the first of the first classificaclassificatrade tion are cotton, wheat, wheat, and other grains under federal laws. In In the tion other grains federal laws. the second are cotton, .

rubber, cocoa, hides, tin, are coffee, sugar, are coffee, cottonseed oil, butter, eggs, cocoa, hides, tin, butter, oil, sugar, rubber, eggs, cottonseed and so so forth. forth. Standards in the the Cotton Trade. in the the cotton cotton trade trade have Standards in Trade. Grades in the subject of legislation by Congress and are now established of are established become the legislation by Congress subject 1916. The grades pursuant to to the Act, passed passed in 1916. the Cotton Futures Act, grades officially officially pursuant had recognized this prevailed previously as standard grades under this Act as grades recognized prevailed previously in the trade, trade, having having been developed developed and used used by by the the cotton in the cotton exchanges exchanges for many the many years. years. The Act, beyond prohibiting prohibiting the and trade trade associations associations for Act, beyond delivery on a futures contract of any cotton of a grade poorer than a futures of of a contract cotton than low any delivery grade poorer middling, material changes changes in in the trade standards. the previous standards. middling, made no material previous trade It did, however, (1) prescribe aa method of price differentials It of determining differentials did, however, determining price (1) prescribe establish a various grades, grades, (2) establish a system of sampling, weighing, between various of system sampling, weighing, (2) of by officials of the States Department of Agriculture, and grading of the officials United States Agriculture, grading by Department the and (3) for provide for the issuance of official certificates of quality by issuance of official certificates of provide (3) quality by all the of federal inspectors, inspectors, who must certify the weight and grade of all deliveries. federal deliveries. certify weight grade a futures of cotton for delivery cotton intended int~nded for Owners of futures contract contract are are delivery on a it first in first in to store a required by exchange regulations to store it a bonded warewareby exchange regulations required the exchange. exchange. The cotton maintains a staff, house, licensed licensed by by the cotton exchange house, staff, exchange maintains known as the Inspection Bureau, charged with the duty as the Inspection Bureau, charged of sampling the duty of sampling and weighing cotton cotton to to be be tendered tendered on all all exchange contracts. The owner weighing exchange contracts. gives the chief inspector a written order to sample and weigh. The order chief written order to order the weigh. gives sample inspector states where the the cotton cotton is is located located and the lot. in each lot. the number of of bales bales in states where an are A sampler and inspector arc then detailed to draw samples and superthen detailed to sampler samples superinspector the weighing weighing under definite procedures. Two sets vise the of samples definite procedures. sets of are vise samples are taken from each each bale bale in in the the lot, lot, marked, marked, and given lot taken given an exchange exchange lot of samples samples is is retained retained by by the Bureau, number. One set set of the Inspection which Bureau, Inspection also records the weights weights reported reported by by the weighers and compares the weighers records the also compares them with the inspector inspector who supervised the weighing. weighing. The other with those those of of the other supervised the set to the U.S. Department of Agriculture for classification as to for of classification as to to U.S. set goes the Agriculture Department goes grade. grade. Branch offices of the the Department of Agriculture are maintained in in offices of Agriculture arc Department of in New Orleans, Orleans, where cotton markets are cotton exchange are New York and in exchange located, and in in each each branch office office there there is is aa board of of cotton cotton examiners. examiners. located, owner's cotton has been weighed weighed and samples cotton has When each owner's drawn, he samples drawn, addresses a request request to to the the board of of examiners to to classify his lot. This his lot. addresses a classify a the request prescribed by by the Department Department of Agriculture. of Agriculture. is made on a form prescribed request is location of of the the cotton, bales, weight weight (compressed or The location cotton, number of bales, (compressed or in the stated uncompressed), and tag are stated in the request. The board, numbers board, request. tag uncompressed) on the the basis basis of of the the samples submitted, classes the cotton classes the cotton according to samples submitted, according to ,

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Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

its proper proper grade. may be be one that that is is tenderable tenderable on the the exchange grade may grade. The grade exchange If the one that that is not so so tenderable. tenderable. If the cotton is of contract or is not of a a non·tenderor one cotton is contract non-tenderpink certificate is issued. issued. If the grade is tenderable, tenderable, aa able grade, grade, aa pink certificate is If the able grade is green certificate, setting out the location, the lot number, the marks, marks, out the the lot location, number, the green certificate, setting of staple grade, and length length of of each each bale, the board of of is issued. issued. From the bale, is grade, staple of examiners an appeal may be taken to the Cotton Board of the Departtaken to the be examiners of the appeal may Departif the ment of Agriculture, if the owner believes believes his his cotton cotton has of Agriculture, has been improperly improperly classified. classified. The owner now has has his his official official certificate certificate of of grade the federal federal grade from the board and his his negotiable negotiable warehouse warehouse receipt receipt from aa licensed licensed and bonded board warehouse. noted elsewhere, delivery of the receipt receipt to the buyer buyer of the warehouse. As noted to the elsewhere, delivery effects transfer of a transfer title. He may may now present the receipt to the inspection the effects a of title. to the present receipt inspection bureau of the exchange exchange to to have have the the weight certified. bureau of the weight certified. for an indefinite indefinite period. The certificate certificate of of grade grade is good for period. The weights weights is good are not. in determined by by the the official official weighing, weighing, however, are not. Cotton in storage determined however, storage to loss weight through through shrinkage, is subject loss of is of weight condition which must subject to shrinkage, a condition if delivery be taken into account, account, if is made more than aa month after the after the be taken into delivery is in have lot The owner in this case either may have the lot reweighed weighing. this case either the weighing. may reweighed or under exchange rules may deliver, making an allowance, however, or rules deliver, however, allowance, making may exchange for each month that one-half pound pound per per bale bale for that has has elapsed to the the buyer buyer of to of one-half elapsed the last last weighing. weighing. Inspected may be transsince certificated cotton cotton may since the be transInspected and certificated licensed warehouse warehouse to to another ferred another under the the supervision ferred from one licensed supervision of the Inspection Bureau of the exchange. exchange. of of the the Inspection in the The characteristics of inspection inspection and grading the cotton cotton trade. characteristics of trade, grading in then, are: (1) sampling weighing by are: (1) then, by an inspection sampling and weighing inspection bureau under direct control the exchange; exchange; (2) (2) grading by the the of the certification by direct control of grading and certification of Department of Agriculture. United States States Department Agriculture. Inspection and Grading in the Grain Trade. in the Trade. The federal federal Grain Grading Inspection in the Standards Act was was passed passed in in 1916 year in which the Cotton Futures Futures 1916 (the Standards Act (the year Act became operative). Prior to the adoption of the Grain Standards of Prior to the the adoption operative). standards of of quality. exchange its own standards Act, each had its each grain Act, quality. The Act grain exchange empowers the Secretary of the U .S. Department of Agriculture to U.S. of to of the the Agriculture Department Secretary empowers standard grades for the entire grain trade and, furprescribe official furprescribe official standard grades for the entire grain trade and, thermore, to to exercise exercise jurisdiction jurisdiction over of the inspection over the thermore, inspection and grading grading of grain. Grades, accordingly, are established authority of the Act, under of the are established Act, authority grain. Grades, accordingly, but only only with with the the full co-operation of other agencies of the the exchange full co-operation but exchange and other agencies in every deal in in trade. Not all all grain grain exchanges, exchanges, however, established established in the the trade. however, deal every of the commodity. . grade of the commodity. grade Passage of the the Act Act found the the machinery machinery of efficient inspection of an efficient inspection and Passage of a staff of classification system already in existence, with a staff of inspectors and in classification existence, inspectors system already weighers already operating either state authority under state either authority or directly directly weighers already operating as a a part of under the exchange. This machinery machinery was incorporated part of the exchange. under incorporated as its

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the federal federal inspection system by by means of licensing device. of a a federal federal licensing device. the inspection system actual sampling grading, accordingly, is still by state still done by state The actual accordingly, is sampling and grading, or by the exchange staff federal licenses. In the case employees staff under the or the licenses. federal case exchange by employees of appeals, however, all all questions questions of of grades the federal of are decided decided by federal grades are by the appeals, however, Department Agriculture rather rather than than by by the the the authority of Agriculture authority making making the Department of initial inspection. initial inspection. reaches the the terminal terminal markets markets by by rail rail or water. On arrival, Grain reaches or water. arrival, samples the grain of each lot lot are are drawn and the is weighed licensed weighed by by licensed samples of grain is employees of the the warehouse, warehouse, the the exchange, exchange, or the state. the basis basis or the state. On the employees of in of the the samples, the grain is classified in accordance with the standards, the is classified of accordance the standards, samples, grain established according to the the federal federal Act, Act, and certificates established certificates are are issued. issued. The according to inspection certificate, showing the grade, the weight certificate are are showing the grade, and the weight certificate inspection certificate, delivered to to the the warehouseman, warehouseman, whose receipts receipts record record the the grade grade and delivered weight certificate of indefinite established. The certificate of grade is good for so established. weight so good for an indefinite grade is in of time with Grain in storage, period of time with periodic exchange inspection. periodic exchange inspection. period storage, in In however, is subject to deterioration in quality. In case grain deteriorates deteriorates case grain however, is subject to deterioration quality. so that it it no longer to the the grade so that in the the certificate, certificate, longer corresponds grade specified corresponds to specified in a notice is posted posted on the the exchange. exchange. The rules rules of the exchange a notice is of the it exchange make it necessary for for such grain grain to ~o be be immediately immediately removed from the the official official necessary is no longer deliverable it is on an exchange contract. warehouse, and it deliverable contract. warehouse, longer exchange The general procedure of of inspection inspection and classification grain and classification of of grain general procedure in cotton has been been separately treated, inasmuch as they are are as in each case case they cotton has separately treated, subject, under federal legislation, to the rules of the Department under federal to the rules the of of legislation, Department of subject, in order to assure growers that their products are classified Agriculture in their order to assure that are classified growers Agriculture products fairly. This federal supervision does not not apply to commodities imported imported This federal fairly. supervision does apply to from abroad, abroad, such cocoa, coffee, rubber, silk, as cocoa, such as etc. coffee, rubber, silk, etc. in classifying description of the methods followed followed in grading each A description of the each classifying and grading to commodity, not subject to government regulation, involve not would involve much government regulation, commodity, subject if the unnecessary repetition, repetition, if the commodities commodities were taken taken up one. by one. unnecessary up one by separately here, basic principles by Instead of treating treating them separately the basic which Instead of here, the principles by in establishing exchanges are guided establishing inspection grading systems systems guided in inspection and grading exchanges are will be be considered. considered. will Standards in grading, and cercerin the the Rubber Trade. Trade. The inspection, Standards inspection, grading, rubber were first first established the by-laws by-laws of tification established by of the of crude crude rubber the tification of by the Rubber Exchange of York, Inc., on its organization in 1925. In of in New its 1925. Inc., York, organization Exchange 1933 was merged merged with with the the Commodity Commodity Exchange, Exchange, Inc. Inc. Its Its operations, it was 1933 it operations, suspended during the the Second World War, War, were revived revived in in 1947. 1947. suspended during Prior to the organization of the the Rubber Exchange, Exchange, an exhaustive invesexhaustive invesPrior to the organization of to discover the experience and opinion of the tigation was carried to discover the carried on of was the experience opinion tigation deliverable grades rubber trade trade as as to to the the determination of most of deliverable the most rubber grades and the satisfactory methods of classifying rubber. the result of responses rubber. result As the of of methods to classifying responses to satisfactory in questionnaires conferences with leaders in the trade and industry, and leaders the conferences with trade industry, questionnaires

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various specific grades were tenderable under the the exchange convarious exchange conspecific grades were made tenderable non-standard grades, in the tract. The standard the standard and non-standard tract. already developed grades, already developed in trade, were were found found to to be be highly highly satisfactory. satisfactory. The only problem of the the of trade, only problem exchange, was to to determine determine what grades be tenderable tenderable therefore, was grades should be exchange, therefore, under the contract and to to establish of inspection, establish methods of the exchange under inspection, exchange contract in that weighing. This experience closely parallels that in other grading, and experience closely parallels weighing. grading, commodity trades exchanges have been organized. where trades have been exchanges commodity organized. a system Sampling. The first problem in the establishment of in of inspecfirst the establishment of a system of inspecproblem Sampling. in tion is that of sampling. Every commodity, dealt in on an dealt tion and grading is that of grading sampling. Every commodity, organized market, is graded, but on an exchange contract sampling is is contract but organized market, graded, exchange sampling is necessary before before acceptance acceptance or or certification in certification for for delivery. delivery. Sampling Sampling in necessary each commodity commodity presents presents its its own difficulties. the grain grain trades trades aa difficulties. In the is employed because of in quality sampling apparatus is of fine fine differences differences in employed because sampling apparatus quality between different different grades. grades. Cotton is by cutting into both sides is sampled sides between sampled by cutting into is necessary in in of a bale bale and drawing drawing aa pound pound or or more; more; this this is order to order of a to necessary cotton which detect any admixture of inferior cotton might not be discovinferior be of not discovdetect any might side. Sugar erable in aa sample only from one side. erable in Sugar may may harden and sample drawn only that so of coffee may may deteriorate be otherwise so that a large large part part of coffee or be deteriorate or otherwise damaged, damaged, is subject to to the bag must be be taken taken as as aa sample. sample. Rubber is mold and to the bag to subject freezing, any lot lot may may contain contain aa mixture mixture of thus making making of ribbings, freezing, and any ribbings, thus it to obtain samples that that are truly representative. This brief it difficult difficult to This brief obtain samples are truly representative. in statement will will give some idea of the difficulties inherent in the process inherent the idea of the difficulties give process before certificertifiof proper proper sampling specific lots various comm~dities of of specific commodities before of various lots of sampling of exchange contract. contract. cation for for delivery delivery on an exchange cation in various various trades trades may by one of The actual actual sampling be done by of four four may be sampling in methods: (1) (I) by by representatives representatives of of buyer buyer and seller, together in in seller, acting acting together licensed drawing samples; (2) by licensed employees of licensed warehouses; or licensed of or warehouses; drawing samples; (2) by employees license or or license (3) by inspectors license from acting under governmental governmental license (3) by inspectors acting the exchange; exchange; or (4) by by the the inspection inspection bureau of the exchange. of the the or (4) exchange. first method has has defects defects which which are at once are at once apparent. Since the The first the apparent. Since a object of to secure secure such uniformity uniformity that receipt that a warehouse receipt is to of grading grading is object a for aa lot of the of a given grade will be recognized of will the commodity for lot of given grade recognized and commodity in of a accepted by all in the trade as representing goods of a known and definite the as all trade definite representing goods accepted by standard, by private private parties parties strikes very root root of the at the strikes at the very of the standard, sampling sampling by lending its repudesired condition of of uniformity. uniformity. A central central authority, its desired condition authority, lending reputo the the process, process, is is lacking. second method, tation and sanction sanction to tation sammethod, samlacking. The second pling by by employees employees of of aa licensed licensed warehouse, warehouse, is the same objecis open to open to the pling objecIt is tions and likely likely to to be be attended by disputes as to grading. It is also objecas attended by to also tions grading. disputes objectionable because because the the warehouseman in in some trades a financial trades had a financial interest tionable interest in the the grading grading process. process. Since in some grain trades he is is permitted in Since in to grain trades permitted to deliver warehouse receipt receipt not not one specific specific lot, lot of a given lot of deliver on a a warehouse a lot, but any any given grade and quantity, quantity, his his interest interest lies lies on the the side side of of grading grade grading low (hence (hence

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If the in poor samples). the sampling the third third in securing is done under the securing poor samples) If sampling is method, by by licensees licensees of the exchange, their compensation is derived of the derived method, exchange, their compensation is fees and no such question occurs. from fees occurs. question Consequently, in in the the first first two methods, methods, lack lack of of centralized centralized control control Consequently, possible that that uniformity uniformity of will be be lacking. it possible of sampling makes it lacking. An objecsampling will objecthird tion the fee entailed in the third is fee system in tion attendant attendant on the entailed the method is a a system on the part of licensed samplers to rush the work (at possible tendency rush of to licensed the the part samplers possible tendency (at in order the of careful to handle more jobs jobs and careful examination) order to the expense expense of examination) in earn more fees. fees. earn The most satisfactory results are obtained through the fourth method, are obtained fourth method, satisfactory results through the sampling by an inspection bureau, established by the established by the exchange exchange and inspection bureau, sampling by in directly responsible to its governing board. Uniformity in grading its board. to Uniformity directly responsible governing grading and integrity of the certificates are best assured by this plan. of best this the certificates assured are by plan. integrity In In respect to wool tops tops and grease wool, the the United States States Testing grease wool, Testing respect to the as its Company, Inc., is by the exchange as its agent for these for is designated by these Inc., exchange agent designated Company, its own certificates, based exchange issues issues its based on tests made services. tests services. The exchange certificates, by that that company. company. by Grading. After the the establishment establishment of of methods for for uniform sampling, Grading. After sampling, next arises. the samples the problem of next arises. Grading from the be the problem of grading Grading samples may grading may be undertaken (1) (1) by by graders the exchange; (2) license from the undertaken acting under license graders acting exchange; (2) by a committee of the exchange authorized to perform this function; the authorized this a committee of to function; exchange perform by (3) by aa staff graders employed employed by by the the exchange its direcstaff of of graders direcexchange and under its (3) by or (4) by graders graders employed employed under governmental tion; tion; or governmental authority. authority. (4) by The objections to the first of these, grading by licensees, are the same to first of are the the these, licensees, objections grading by as those above for sampling by licensees. Nevertheless, mentioned for licensees. as those in a Nevertheless, in sampling by trade representatives of seller are of both buyer licensed representatives are authortrade where licensed authorbuyer and seller ized to to inspect jointly and agree upon samples, the license method has the license ized has agree upon samples, inspect jointly proved feasible. feasible. proved the New York Coffee license system is in in operation The license Coffee and Sugar system is operation on the Sugar and weighing are all by Exchange, where sampling, grading, are all carried carried on by weighing sampling, grading, Exchange, A the persons licensed by the exchange. special committee investigates the exchange. special investigates the persons licensed by and qualifications of all on its favorable report licenses are all applicants its favorable of are applicants report licenses qualifications issued by the the Board Board of of Managers. Managers. Samples of coffee are drawn by licensed of coffee are licensed issued by Samples by the exchange. exchange. The samples so drawn are samplers are inspected of the the samples so inspected by by the samplers of If receiver or their qualified representatives. If approved, they deliverer and receiver or their deliverer qualified representatives. approved, they of the the exchange. are stripped of all all identification identification marks except those of are except those exchange. stripped of then submitted for for grading panel of three of the a panel of three are then to a of the The samples grading to samples are lot graders 'licensed by the exchange, are selected by lot and are not the who are selected are not licensed exchange, by by graders in any way-either indirectly-interested or indirectly as deliverer, either directly interested as in deliverer, receiver, receiver, directly or any way of a of the decision of a majority of the or representative of the owner. The decision majority of the three three or representative of final is final in behalf of both, is and binding upon the deliverer graders, acting the in behalf deliverer both, binding upon graders, acting In that the sample and receiver, unless an appeal appeal is is made. In that event, event, the receiver, unless sample on which .

94

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

the is made is is submitted to to five five qualified licensed graders the appeal qualified and licensed graders appeal is five are that (or three in the event that five are not available or qualified to act). event available in the to three qualified act) (or must include These selected by lot, not include those rendered the who selected those rendered the These graders, lot, by graders, earlier decision; decision; aa majority majority decision decision by is absolutely final and earlier by them is absolutely final binding. binding. similar system of exchange In the cocoa and other other trades, trades, aa similar grading In the cocoa system of exchange grading in use. use. is in and certification certification is The second third methods, methods, grading by an exchange second and third committee grading by exchange committee or by by members of of the the exchange exchange under license, present problems. problems. also present or license, also Since exchange members are usually traders, whose business are usually traders, business affairs affairs do Since exchange the performance not permit them to to give give much time time to to the of exacting not permit performance of exacting work of standards standards may suffer under such systems. of this sort, uniformity of may suffer of this sort, uniformity systems. The primary primary object object of of any is uniformity-an of grading any system system of grading is uniformity an object object the control is best best achieved achieved by by (1) control by the exchange; (2) a single which is a by (1) exchange; (2) single to establish and maintain the integrity policy, firmly administered, to establish the administered, integrity and policy, firmly all certificates; reputation certificates; and (3) responsibility for of all for grading, as well well (3) responsibility reputation of grading, as in one administrative as for sampling weighing, centered centered in as for administrative body. body. sampling and weighing, Warehousing. warehouse, approved approved by the exchange by the Warehousing. The warehouse, exchange and bonded insurance stores by an approved insurance company, stores and preserves the commodity. company, preserves the commodity. by approved collateral security Its negotiable negotiable receipts receipts are are collateral Its security against against which banks make loans to the commodity. commodity. Since the warehouse warehouse receipt receipt Since the of the to the loans the owners of of goods possible for for the the owner of to readily, it contributes makes it to borrow it possible it contributes goods readily, marketing costs. costs. More business therefore be be directly to reducing marketing business can therefore to reducing directly the owner's owner's capital. done on the done capital. In summarizing the services services performed performed by by warehouses warehouses in in the In the cotton cotton summarizing the in the trade, Alonzo B. B. Cox, agricultural economist the Division of economist in Division of Cox, former agricultural trade, Alonzo Cotton Marketing of the federal of Agricultural Economics, says: federal Bureau of of the Cotton Economics, Agricultural says: Marketing .

determine the the value receipts are: value of of warehouse receipts The considerations considerations which determine are: (1) the the structure the warehouse; warehouse; (2) the facts location of of the facts set set forth structure and location forth on (2) the the receipts; receipts; (3) (3) the the kind kind and amount of received from disinterdisinterof supervision the supervision received of the free assets the net net free assets of the company; the size size and nature ested parties; (4) nature ested parties; company; (5) (4) the (5) the of insurance of the bond furnished; (6) the the kind and amount of insurance carried the carried on the of the furnished; (6) in the the warehouse; warehouse; and (7) the integrity of the officials cotton in of the officials cotton (7) the integrity and standing standing responsible for for the the operation the warehouse. warehouse. for the operation for responsible There is is such such aa wide wide difference difference between the the values individual bales values of of individual bales of of There for bale of cotton is cotton that aa receipt receipt calling merely for a bale of cotton is of indefinite value. of indefinite value. cotton that calling merely the cotton, most desirable receipt shows the the grade conits condesirable receipt The most cotton, its grade and staple staple of the dition, the weight of the bale, the tag of the bale, by whom the cotton of the number the the the cotton the of bale, bale, dition, by weight tag whether the the cotton to the has been classed, classed, whether as to a statement statement as is insured, the cotton is has been insured, and a negotiability of the receipt. of the negotiability receipt. the way are marked paper on which which the the receipts receipts are are written written and the way they they are The paper and issued issued should should be be designed designed to to make the of receipts of the counterfeiting counterfeiting receipts extremely extremely The United States Department of Agriculture has worked out aa plan plan difficult. difficult. States Department of Agriculture has (1)

Gradil1g, Standardization, and Inspection and Inspection Grading, Standardization,

95 95

which tends tends to to throw throw around around the the federal receipt restrictions restrictions similar federal warehouse receipt similar .to in the the issuance issuance of bank notes. to those those observed observed in of notes. Just as has given given confidence confidence in banks, so proper superas inspection in national so proper national banks, Just inspection has superin warehouse inspection strengthen strengthen confidence warehouse receipts. Inspection vision vision and inspection confidence in receipts. Inspection by a disinterested government official official has has demonstrated many banks banks disinterested government its value. demonstrated its value, and many by are insisting are insisting upon upon aa federal federal receipt. receipt. value of of the the net net free the company of ,the A knowledge free assets assets of of the the value knowledge of company operating operating the warehouse if the receipt is 'to be used used at distant the warehouse is is important, especially if is the at distant to be important, especially receipt points. periodic statement of the assets and liabilities adds much to A statement assets adds of to the the the liabilities points. periodic of a standing of a warehouse company. warehouse standing company. the warehouse, warehouse, based Insurance to to cover the cotton cover the in the based on the the class cotton in class and weight Insurance weight the receipt receipt and on the the daily daily market price, is usually usually required required when shown on the price, is for loans. policy on the may be be receipts are are offered loans. The policy the cotton cotton may offered as as security security for receipts a loan loan is carried by the the warehouseman or the owner, is desired, desired, or the carried either either by owner, but when a the small small country In the the banker's conditions conditions must be be met. met. In the banker's it is is country warehouse it frequently carried by the and paid for as a part of the wareas a of carried the warehouseman for the warefrequently by paid part their cotton merchants merchants and the the large carry their house charge. charge. The cotton house large co-operatives co-operatives carry their cotton, cotton, because because they they can obtain obtain better rates and aa own insurance insurance on their better rates policy broader broader in in scope. scope. . • . policy for delivery In markets markets where where cotton is tendered tendered for futures contracts. cotton is contracts, delivery against against futures a of warehouse a proper proper system warehollse supervision supervision and inspection inspection adds greatly to the the greatly to system of value of the contract contract and facilitates facilitates aa freer freer movement. The improved improved system of the value system of wa.rehousing, coupled coupled with with aa better better cotton of cotton classing service and means of of warehousing, classing service identification of bales, is doing much to to eliminate waste and shorten the of bales, identification eliminate waste shorten the is doing marketing route. route. 22 marketing .

.

.

Services in Cotton Marketing, Bulletin Bulletin No. U. S. Cotton Marketing, No. 1445 S. Department 1445 (Washington: (Washington: U. Department

2 2 Services in

of Agriculture) of Agriculture)

pp. 23. 24. 23, 24. pp.

CHAPTER

~ CHAPTER

Publicity of Prices, Crop of Prices, Publicity Crop and

V

)

Market Reports, Reports,

and Other Other Statistics Statistics

Commodity exchanges exchanges have have been aptly aptly termed clearing inforcenters of of inforCommodity clearing centers for the mation, not only only for for their their respective respective trades trades and industries, the mation, not industries, but for general public as well. It is important, especially to their members, that as It their that well. is to members, general public important, especially the exchanges collect collect and correlate pertinent to their the exchanges statistical data pertinent to their correlate statistical related trades. trades. In making moverelated making public public these these data bearing bearing on supplies, supplies, withdrawals of the commodity, ments, and withdrawals of the as well well current current prices for future future ments, commodity, as prices for all producers, deliveries, they they perform perform services of great great value value to to all producers, merchants, services of deliveries, merchants, and manufacturers. of rapid rapid communication link link dismanufacturers. Modern methods of distant markets tant markets closely closely together, together, especially especially when there there is is daily and hourly hourly daily publication of prevailing prices, prices, as as is the case in all markets. of prevailing case in all exchange is the exchange markets. publication There are are no commodities traded traded in the prices prices of in on exchanges of which exchanges the are not influenced by developments developments in widely separated parts of the globe. in widely are not influenced by of the globe. separated parts in Approximately one-half of the world's wheat crop is produced in Europe of world's is the crop produced Europe Approximately one-half and Asia Asia (exclusive of India) India) and is is consumed by the producing producing councounby the (exclusive of tries. Approximately one-half is produced produced in the United States, in the one-half is tries. Approximately States, Canada, Canada, India, Argentina, and Australia, Australia, which normally normally have surpluses over their their India, Argentina, surpluses over own consumption consumption and, and, consequently, consequently, are countries. A short are exporting countries. short exporting crop in in any anyone producing country not necessarily high one producing necessarily mean a high country does not crop world price, price, for for an increased increased output in other countries may offset the in other countries offset the may output in Chicago shortage. price of of wheat futures not only represents the futures in the only represents Chicago not shortage. The price in the outlook production and consumption consumption in the United States for production States and Canada, outlook for Canada, but is is also the result result of the interplay many forces based on every of many forces based also the of the every known interplay of factor world. A bumper bumper the world. factor affecting throughout the affecting supply supply and demand throughout crop in the Argentine or a prevalence of black rust in the northwestern black rust in a of the in or the northwestern prevalence Argentine crop United States will be be reflected reflected in in world exchange prices long long before the States will before the exchange prices crop to market. market. Damage Damage to to the the American AmerIcan cotton proin one procotton crop crop in crop comes to reflected in ducing area is therefore reflected throughout the in the price paid world the area the is therefore throughout ducing price paid for every pound of cotton which comes on the markets. the world markets. of cotton for every pound of cotton cotton and grains The United United States exporter of States is is an exporter grains and normally normally of its its cotton crop each year and sells abroad from 40 40 to to 60 per per cent cent of sells abroad crop year and an 96 96

Prices, Crop Market Reports Reports Crop and Market

Prices,

97 97

11 per average of about It per cent of its its wheat crop In the the 1930's, cent of since 1926. 1926. In 1930's, average of crop since under the price-pegging operations government, United the price-pegging of the the federal federal government, United operations of States exports States exports of of cotton of cotton and wheat fell fell drastically the level level of drastically from the in and previous years in some years have disappeared completely, had would have previous years years disappeared completely, not not the wheat exports by as the federal federal government subsidized wheat as much as as 30 30 government subsidized exports by cents or cents or more per per bushel bushel and exports exports of by as 4 cents cents per per of cotton cotton by as much as as 4 pound-the extent extent to to which federal price supports supports held prices federal price held domestic domestic prices poundthe world During and after the Second World War wheat wheat above price levels. levels. During after the price and cotton farmers in in the the United States began producing large States again again began producing large of their crops for world-wide foreign markets and European portions of their for world-wide markets portions crops foreign European relief, with exports rising to to about 45 per cent the crop in 1946. of wheat rising of the 45 per 1946. cent of relief, exports of crop in On the the other other hand, hand, the the United States produces no coffee, tea, cocoa, States produces coffee, tea, cocoa, silk, silk, natural or rubber. it or natural rubber. does it produce for its still-growing tin, pepper, Nor for does its tin, pepper, produce still-growing sufficient sugar population sufficient sugar or or wool, wool, or of or an ever ever increasing increasing number of population other many other materials, essential to the well-being and living standards raw essential to the standards materials, many well-being living of our people. of people. Yet Yet we consume more of these commodities, of these of most of even commodities, even of which we produce all the those of of the produce none, none, than all the rest rest of the world combined. those Nevertheless, with with only only about about 66 per per cent of the cent of the world's land area world's land area and Nevertheless, 40 population, produce annually about 40 per cent of the entire world of cent the entire we population, produce annually per of goods production of services and consume 70 to 80 per many 70 to cent of of many goods and services production per cent of the the world's world's basic basic staple commodities. of commodities. staple great productivity productivity-the marvel of the world world-and the marvel Our great of the and the the satisfaction satisfaction of capacity are the result of our of our great are in in no small small degree result the of our great consumptive consumptive capacity degree organized commodity exchange markets, especially in those major export in those markets, organized commodity exchange especially major export staples to the the welfare welfare of of our cotton in so essential essential to cotton and wheat farmers farmers and in staples so those necessary, imported imported articles or produce articles which we do not produce or those necessary, produce produce only in insufficient insufficient quantities. It is is the the delicate intricate functioning delicate and intricate functioning only in quantities. It of exchange markets markets which make possible possible the the international of international flow flow of of these these exchange huge quantities quantities of materials from country to country regularity, of raw materials country to country with regularity, huge of and sound credit safeguards. The various services of the exstability, the services excredit various safeguards. stability, major part in the efficiency and regularity of our vast change play a of vast in the efficiency regularity change play a major part in international trade in staple commodities, commodities, which in in 1947 in staple 1947 was valued in international trade many billions of dollars. dollars. of billions many in future of Since exchanges are are markets markets for deliveries of for dealing future deliveries Since the the exchanges dealing in most international international staple commodities, their and other exchange their members most commodities, exchange staple operators have accurate, accurate, complete, market, up-to-the-minute market, complete, and up-to-the-minute operators must have other trade information in their price, crop, in order to enable them and their order to price, crop, and other trade information If commodities grown customers to grown in events months ahead. If to discount discount events customers widely separated territories or countries were marketed locally, locally, prices prices in in or countries widely separated territories each area area would would reflect reflect local local conditions might have no relationrelationconditions only each only and might and ship to world-wide supply demand. world-wide to supply ship The exchanges exchanges in times are are world markets; they in normal times markets; accordingly, accordingly, they

9988

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

gather, gather,

from all all over the world, world, information information relating relating to to (1) past and over the (1) the past the present production of the commodity, (2) percentage of the crop the crop commodity, (2) percentage present production of to afloat or in transit has moved to to export export points, points, (3) transit to which has supplies afloat (3) supplies primary and central central markets, markets, (4) in pripriarrivals and warehouse stocks in (4) arrivals primary mary and central markets, (5) exports from or imports into each country, or central markets, (5) exports country, imports mary total (6) supplies in the of domestic dealers and converters, the total converters, the (6) supplies in the hands of domestic dealers as evidenced by visible domestic domestic and foreign foreign supply, supply, (7) by statisstatisvisible demand, as (7) demand, contics current and past, past, collected and domestic conof sales, collected from foreign tics of sales, current foreign verters, wholesalers, retailers, and (8) certificated supplies in and certificated verters, wholesalers, retailers, supplies in (8) warehouses available for delivery on futures contracts. for futures contracts. available delivery only are are such such statistical regarding each commodity Not only statistical data regarding commodity assembled by the exchanges every available source, every exchange but available the from source, every every exchange mainexchanges by all foreign tains the closest touch with prices prices in abroad and on the closest in all markets tains foreign all futures other in the the United States. Prices prevailing futures States. Prices other exchanges exchanges in prevailing on all markets are are transmitted transmitted by by telegraph, telegraph, teletype, radio, and cable. for cable. Not for radio, teletype, an instant a commodity commodity exchange a market standing by its existence existence is is a instant of of its standing by exchange itself. part of of aa closely closely related related and interconnected world-wide It is is a part itself. It market. Information about the the commodities in in which they they provide facilimarket. provide facilities for for trade trade and the the record record of prices which prevail on their floors are also of prices their are also ties floors prevail made available to the the public public by by the the exchanges usually in daily, monthly, available to exchanges usually daily, monthly, and yearly yearly reports, reports, whereas on the the physical not are not physical markets such data are made public. public. Importance Reports and Statistics. Statistics. The value of the exchange's of the of Reports exchange's Importance of as aa compiler compiler and publisher publisher of data and price records is of commodity is work as commodity price records summarized by by Professor fourfold: S. Huebner as as being Professor S. S. S. fourfold: being (1) It makes makes possible possible the the discounting discounting of the future; is, it of the that is, it enables enables dealers dealers future; ,that (1) It ftheir best best judgment judgment at the form in the to exercise at once and speculators exercise ftheir once in form of of actual actual speculators to to reflect reflect this this current the quotations transactions, and thus thus 10 current information in the information in transactions, quotations it would otherwise be impressed impressed upon public. Thus, long before before it otherwise be the general Thus, long general public. upon the is reflected, or bumper bumper crop crop upon upon prices discounted, the effect of of aa short short or that is, the effect reflected, that is, discounted, prices is It . . (2) It steadies prices. The daily discounting current weeks in in advance. advance . .... steadies of current daily discounting of (2) prices. in rare instances where manipulation has events makes unnecessary, unnecessary, >except in rare events makes instances where except manipulation has interfered with with the working of of the market, a sudden decline the organized the smooth working a sudden interfered decline organized market, or rise rise in in price price upon upon the the wide wide publication publication of which have have been been slowly of events events which or slowly It the (3) It helps to regulate the rate at which the year's developing. . . . to rate at ... which the is regulate helps year's crop (3) developing. crop is . . It It is is ·a well-recognized fact that 'the quotations for consumed -a well-recognized fact that consumed.. . ... the exchange for exchange quotations the new crop not entirely contracts which which call call for for delivery in .the contracts delivery in crop months depend depend not entirely but prospects of a new crop. but are vitally influenced by the smallness or are of a on the the prospects influenced the smallness or vitally crop, by with of largeness. as compared with previous years, of the old crop yet runsold, as the old as largeness, previous years, compared crop yet oinsold, as "visible supply" reflected by by the the "visible or by -statistics relating to holdings which have or reflected ^statistics to which have by relating supply" holdings not yet yet left left the the producer's producer's hands. hands. (4) It serves to "level" prices between not serves to "level" prices between different different (4) It 1 1 is had here here to to the the practice practice of between markets. markets. Reference is markets. Reference of "arbitraging" between markets. "arbitraging"

1i "The Functions Functions of of Produce Produce Exchanges" American Produce Produce Exchange Exchange Markets Markets in American Exchanges" in of Political (Philadelphia: American Academy Academy of Political and and Social Social Science, 17-21. Science, 1911) (Philadelphia: American 1911) • pp. pp. 17-21. ,

Prices, Prices,

Crop and Market Reports Reports Crop

99

In some commodities such such statistics, by the the exchanges, are distributed by statistics, distributed exchanges, are the best and most widely widely used used of all sources is true true of all of information. information. This is sources of the best in the the coffee coffee trade, trade, for for example. example. The New York Coffee in Coffee and Sugar Sugar in Exchange publishes information regarding growing conditions in BraziL information conditions Brazil, Exchange publishes regarding growing the movement of by steamers steamers from Brazil Brazil to stocks the of coffee to foreign coffee by foreign ports, ports, stocks on hand in in different different primary primary and central markets, receipts and deliveries central markets, deliveries receipts Brazilian and European daily, weekly, monthly, prices prices prevailing prevailing in Brazilian European weekly, and monthly, daily, markets, with reference reference to to the the United States States market. data with similar data markets, and similar The records records of the Coffee Coffee and Sugar Exchange relating the movement of the to the Sugar Exchange relating to and supply of the crop are of the utmost value to coffee dealers, roasters, coffee to dealers, roasters, supply of the crop are of the retailers in this country speculators in this abroad. country and abroad. speculators and retailers The Importance Importance of of Widespread Publication of Prices. The machinery machinery Publication of Prices. Widespread all transactidns made at the for reporting prices at all transactions are on the exchange for which are exchange reporting prices floor has been described elsewhere. Through the ticker services, prices floor has described elsewhere. Through the ticker services, prices in every prevailing for for delivery trading month become a matter of of public public every trading delivery in prevailing after trade In knowledge almost immediately after each trade has been executed. In the the almost has immediately knowledge evening morning daily papers throughout the country, of and summaries the of morning daily papers throughout country, evening prices paid paid for for each future future delivery published on the page, financial page, are published the financial delivery are prices high, low, low, and closing clo~ing quotations quotations are Prices paid are 'Usually Prices where high, usually given. paid given. but for not only only available to the the public, also become future deliveries available to also for future deliveries are are not public, a matter of of public public record record in in the the daily daily press. press. No individual in a individual interested interested in of prices aa given given commodity commodity need be ignorant prices paid paid on the the exchange for ignorant of exchange for contracts for immediate delivery or for delivery months hence. or for contracts for hence. delivery delivery In commodities where exchange markets exist, of futures futures conconexist, prices exchange markets prices of and tracts serve manufacturers as a basis for estimating prices manufacturers a serve merchants tracts as basis for estimating prices they will required to to pay pay producers producers or they may may ask their or prices will be required ask from their they prices they in October for customers. miller who requires requires wheat in be for flour flour to customers. The miller to be delivered bases his his price price for prevailing price price in December bases delivered in for flour flour on the the prevailing "Prices paid of December wheat futures. paid to to the the wheat or producer futures. "Prices of or cotton cotton producer are based on prevailing prevailing cash cash prices prices in organized markets. The price price are based organized markets. or may producer receives receives may mayor not be satisfactory to him, but, be the producer to which the but, him, may satisfactory if is inadequate, inadequate, it it is is so so because because the the world world market is a factor is glutted, if it it is factor glutted, entirely beyond control either himself himself or the exchange. price control of of either or the entirely beyond exchange. The price at the which he he receives receives is the best best obtainable is the obtainable at the time he chooses chooses to to market his crop. his crop. The prdducer producer or or farmer likewise uses these these price price quotations likewise uses as the the quotations as basis for for sales of spot to deliveries of or forward deliveries of the the actual sales of actual commodity basis spot or commodity to dealers in addition to to his his use use of market and converters, of the dealers "and the exchange converters, in exchange for purposes. Without the the publicity publicity of transactions, of exchange for hedging hedging purposes. exchange transactions, the producer, dealer, and converter only very limited and have would the producer, dealer, only very limited of transactions often inaccurate inaccurate reports reports of of prices prices and volume of often transactions on the the physical markets. markets. physical this with the Contrast this the situation that exists is an inadequate Contrast situation that there is exists when there inadequate

100 ioo

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

record or or no publication publication of prices or prices for for future of prices or where reliable record reliable prices future delivery are altogether wanting, as is usually the case on markets as is the are case markets which usually altogether wanting, delivery operate without without exchanges. exchanges. It It would be claiming too much to hold that that to hold claiming too operate the futures exchange exchange is necessary in that the in order is necessary the futures order that the producer obtain a a producer obtain If there fair price. If there is is sufficient, free, and continuous competition for his fair price. for his sufficient, free, competition product, he will will obtain obtain a fair price, whether or fair price, or not an exchange product, exchange market exists. Yet the the exchange, by assuring assuring aa broad, broad, competitive, exists. Yet competitive, and continuous exchange, by all transactions, with widespread widespread publicity publicity of of all transactions, is the most effective market with is the effective instrument available available to to producers producers or or converters instrument in search converters in search of of fair, fair, competitive, and objective prices. petitive, objective prices. This service service of of daily publication of prices and volume of all transacof prices of all transacdaily publication tions it exchanges takes takes on major major significance it is recalled that tions on exchanges when is recalled that significance such records records and publications publications are are not not possible possible on the the cash physical cash or or physical few exceptions, markets of of the the same commodities. commodities. In these these markets, markets, with few exceptions, there is no central meeting place place where producers, producers, dealers, brokers, specucentral meeting there is dealers, brokers, speculators, and converting converting manufacturers can meet to trade either directly to trade either directly lators, is done by or through through their their agents. agents. Such trading trading is by telephone, telegraph, or or or telephone, telegraph, cable, either directly between principals principals or through brokers brokers or either directly or through or agents. cable, agents. Direct trades between, say, say, aa farmer and aa dealer factory Direct trades between, a dealer dealer and a a factory dealer or a confidential. In any are usually kept kept confidential. any case, public record record is is kept kept of of are usually case, no public prices or quantities. Brokers and agents act for their principals and not or act for their not principals agents prices quantities. for they are not to their principals' principals' for their their own account, are bound not to disclose disclose their account, and they business. business. Furthermore, there is is no agency agency in the physical markets which at in the at Furthermore, there physical markets present is organized to collect and publish data regarding transactions transactions is organized to collect regarding publish present on such markets. markets. Undoubtedly, Undoubtedly, if if an attempt made to to establish establish were attempt of the trade refuse to co-operate_ such to most members trade would refuse the such an agency, of agency, co-operate. Producers, merchants, and converters, or small, small, would Producers, merchants, converters, whether large large or prefer that transactions remain secret, the understandable reason reason for the that their their transactions secret, for prefer that they would not not want their their competitors competitors to to know their their business. that they business. Although it might might be possible possible to to develop a system of disclosure disclosure of of system of Although it develop a prices and quantities without disclosure of names, most operators would disclosure of without names, prices quantities operators still to give give their their consent consent and co-operation, for trade trade members hesitate to still hesitate co-operation, for all too fairly accurately the volume all too frequently accurately determine from the frequently could fairly of transactions or or other other clues clues who was buying or selling at any given at of the the transactions buying selling any given is true true especially especially because because the of turnover in time. volume the daily of in time. This is turnover daily the physical physical markets, markets, as as aa rule, rule, is is much smaller than on exchange smaller than the markets, exchange markets, at and, published, such publication at would if prices and quantities were and, if published, publication quantities prices times affect affect this this "thin" very considerably, raising or lowering "thin" market very or times considerably, raising lowering at to certain prices sharply sellers withdraw times and causing sellers to at certain times and buyers buyers causing prices sharply erratic stable less at other other times, times, thereby making for erratic and less stable markets. more markets. for at thereby making Some time time ago the project project of of organizing organizing a new exchange in exchange market in ago the

Prices, Crop and Market Market Reports Reports Crop and

101

Prices,

agricultural commodity In order to sound an agricultural consideration. In order to commodity was under consideration. out opinion in the the trade trade and industry, industry, aa questionnaire was sent out sent out out to to opinion in questionnaire was in producers, merchants, and manufacturers in the field. The prepondermanufacturers field. the merchants, producers, preponderance of of sentiment on the the part part of of operators the commodity in the was adverse adverse operators in commodity was to the the establishment establishment of of futures trading. One dealer returned his futures trading. to dealer returned his questionquestionnaire with with "no" inscribed the face the document, naire inscribed across across the face of of the in order order document, and in a member of to discover the the reasons reasons for his opposition the group responfor his to discover of the opposition a group responfor the sible questionnaire visited visited the the center the questionnaire center of sible for of adverse adverse sentiment sentiment and interviewed the negative impressed interviewed the merchant whose emphatic had itself emphatic negative impressed itself him. no in upon in the of the caller that the There was doubt the mind caller of the that the mermerupon chant's reply reply had been dictated by aa genuine that same dictated by chant's self-interest, but that genuine self-interest, self-interest of tKe die outstanding publication value of of publication self-interest was more eloquent eloquent of outstanding value of prices of prices by by commodity abstract summary could exchanges than any commodity exchanges any abstract summary could possibly be. The said: said: merchant be. possibly

I have have many many buyers buyers 'traveling throughout the the producing areas to I to purchase traveling throughout producing areas purchase They pay pay cash. cash. When they they go to aa grower offer directly the growers. go to growers. They grower and offer directly from the definite price price per per pound pound in in spot spot cash, the grower is tempted tempted to him aa definite to sell sell cash, the grower is often does without investigating investigating prevailing prevailing prices. prices. He often if there there were were without so. But, does so. But, if all over the country an exchange exchange in in existence, its .prices _prices would be telegraphed telegraphed all over the existence, its country of appear in in every newspaper of any size and circulation. circulation. The seller and would appear size seller every newspaper any the just how closely closely the the price price he was offered the prevailing offered approached would know just approached prevailing buyers work to to purchase purchase the the commodity the prevailing prevailing market price. price. Our buyers market commodity under the the market. If the they make excellent excellent purchases purchases below the market. If the exchange market, market, and they exchange were established, probably have have to to pay pay current prices for for all current market prices all were established, II would probably

I buy. buy.

I

the advance in This situation situation is isolated instance. instance. Great though in is no isolated This though the - business business morality morality has has been, been, we have have not reached reached the the millennium where fair and just the buyer buyer will will always pay aa fair just price, price, no matter how superior the always pay superior his 'knowledge, his resources, resources, or his bargaining bargaining power. power. A knowledge of or his his knowledge of knowledge, his to the current prices, coupled coupled with with financial financial resources resources to to pay cash to the relarelacurrent prices, pay

A

tively tively

needy producer, producer, gives the buyer buyer an incalculable incalculable advantage over advantage over gives the needy the grower grower and seller seller of the commodity. commodity. of the the The need need for widespread dissemination dissemination of prices is by of prices stated clearly is stated for widespread clearly by

Professor Professor

follows: as follows: Weld as

It is of of extreme extreme importance importance that that price price quotations with determined with It is quotations be deteImined to on accuracy impartiality. Country shippers have to rely largely the have the and rely largely impartiality. Country shippers accuracy the value of in order to gauge the value of their commodities published quotations in their order and to gauge published quotations to have some system to to ship. ship. It is therefore therefore necessary necessary to of deterIt is deterto know when to system of which trade as mining and issuing quotations represents a trade as a whole rather rather whole and issuing quotations represents mining than individual firms firms or of firms firms having having a common interest. interest. Wholesale or cliques than individual cliques of like to market to have the underquoted receivers, for example, might naturally like the receivers, for example, might naturally underquoted are so far as quotations sent to the country are concerned, and jobbers prefer the concerned, so far as quotations sent to country might prefer jobbers might

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

102

so that to see the market market overquoted that they they may prices as possible exact as as high as possible to see the may exact high prices overquoted so retail stores. In other words, there there are interests within every are conflicting interests within other words, stores. In retail conflicting every

from from

market, and and market,

is highly highly important that aa well-established well-established and generally generally accepted accepted it it is important that no one one

as well well as as impartial impartial system system of of obtaining devised so so that that as obtaining quotations quotations be devised be misled misled concerning concerning actual market conditions. will actual market conditions. 22 will be is the B. Cox: the same effect the comment of of Alonzo B. effect is To the

to give primary function function of of price price quotation service is is to the buyer a chance The primary chance give the quotation service buyer a in the the cheapest to obtain obtain his his cotton market and the the seller or seller a a chance sell or cotton in chance to to sell to cheapest market bargain in in the the highest highest market. market. It It is the best malis the best protection available against against malbargain protection available practices by by shrewd buyers or or sellers sellers who may may happen to have have more informainformashrewd buyers happen to practices 3 the person tion about prices in in different markets than than the with whom they different markets trade. s tion about prices person with they trade. of all only does the exchange's exchange's record record of benefit all prices does the Not only prices substantially substantially benefit it trade and also constitutes a in the trade industry; it also constitutes a valuable those engaged in the valuable those engaged industry; permanent record for businessmen, economists, legislators, and others record for others businessmen, economists, legislators, permanent in fluctuations to delve into the the history history of fluctuations in years delve into of price occasion to who have occasion price years the are of the best gone by. "The reports of the grain exchanges are the best sources of sources of grain exchanges reports gone by. detailed information with regard regard to to price price movements of in detail detail of grain detailed information grain in for the the year year under review review and summarized statements statements and averages for for averages for 4 previous years."4 previous years/'

Sources Information. The inexperienced takes aa Sources of of Information. inexperienced speculator, speculator, who takes future on a tip flyer in the basis basis of of random news in some commodity commodity future tip or on the flyer at the items has read, read, would be astonished astonished at the range of information items he has range of deemed desirable desirable for a commodity exchange to procure benefit for a for the the benefit commodity exchange to procure for of its its members who attempt attempt to to analyze analyze future future market trends trends scientifically. of scientifically. Information is by the exchanges from government reports the is gathered Information exchanges government reports gathered by at home and abroad, periodically issued current crop crop conditions conditions at issued on current abroad, from periodically private commercial agencies which serve exchanges, serve numerous private agencies exchanges, and from special correspondents of the exchanges in markets throughout the the of markets the exchanges throughout special correspondents world, as as well well as their own members and from various various producers', producers', as from their world, dealers', manufacturers' associations in the same fields. in associations operating the fields. dealers', and manufacturers' operating vital statistical These associations collect (and (and redistribute) redistribute) vital statistical data associations collect data from their members in regard to to past past and current prices, purin regard their inventories, purprices, inventories, after chases, all such such data data are are published only after the fact-weeks the fact weeks sales, but all chases, and sales, published only after the the transactions transactions take take place. place. after Reports Issued. Issued. Most exchanges exchanges publish publish a daily report for the benefit benefit for the daily report Reports more of their their members. A number of of exchanges publish comprehensive of exchanges publish comprehensive L. D. D. H. H. Weld, Weld, The Marketing Marketing of Products (New York: The Macmillan Macmillan of Farm Products (New York:

2 2 L.

Company, pp. 286, 286, 287. 287. 1924) , pp. Company, 1924) ,

83 Services Services in in

Cotion Marketing, Bulletin Bulletin No. 1445 U. S. of 1445 (Washington: Cotton Marketing, S. Dept. of (Washington: U, Dept.

Agriculture) ,, pp. pp. 84, 35. 34, 35. Agriculture) 44 L. Weld, op. cit., cit., p. p. 280, 280. D, H. H, Weld, L. D.

op.

Prices" Crop Reports Crop and Market Reports

Prices,.

103

all issue monthly reports. Nearly Nearly all yearly publications, publications, ranging ranging in in imporissue yearly monthly reports. importance tance from brief, brief, but but useful useful compilations compilations to to substantial volumes containsubstantial volumes containing exhaustive exhaustive statistics trends. statistics of of commodities movements and price ing price trends. the New York Daily Report of the Cotton Exchange. The cotton cotton exexDaily Report of Exchange. weather condichanges receive reports reports from the the federal federal government condichanges receive government on weather tions prevailing throughout throughout the the country, country, the condition of the current tions prevailing the condition of the current crop crop at stated intervals at stated throughout the the growing season, weekly ginnings, intervals throughout growing season, weekly ginnings, shipshipments, and the the like. Reports from the the Weather Bureau come into into the the like. Reports ments, exchanges daily, describing temperature and rainfall in each important rainfall in each exchanges daily, describing temperature important cotton-growing district. district. These weather weather reports, they are as they are received, are received, are cotton-growing reports, as posted on the the bulletin bulletin board of the exchanges. by the of the Official forecasts forecasts by the posted exchanges. Official of are Department of Agriculture for the current crop are issued monthly. for the issued current Agriculture Department crop monthly. in July, Formerly for each each cotton cotton crop July, but agitathese estimates estimates for Formerly these began in agitacrop began of July led tion, provoked by by disputes disputes over over the the accuracy has led tion, provoked forecasts, has accuracy of July forecasts, until to deferring deferring the the first until August. From August throughout to first crop estimate estimate August. August throughout crop the remainder remainder of of the the year, year, the the Census Bureau publishes the publishes semi-monthly semi-monthly are issued reports are statements ginnings. These reports statements of of ginnings. issued monthly monthly throughout throughout in March at the end of the winter, last one in at the the old year. of the the last old crop the winter, the crop year. Current information is made available by the the New York Cotton available by information is of cotton Exchange to its its members by by its its daily daily market report. report. Receipts Receipts of cotton Exchange to for at twenty ports ports are are given given day day by by day for the previous week, with a coma at twenty the week, day previous parison of receipts for the corresponding day of the previous and the of the for of week corresponding day previous parison receipts as total of the the previous previous year, year, as as well well as receipts for the previous week. A total receipts for the of previous week. the movement of similar daily and cumulative cumulative record record of exports portrays portrays the of of exports similar daily cotton from seaboard gulf terminals. Telegrams from southern terminals. and seaboard southern cotton gulf Telegrams markets, sent by the the exchange'S the destination destination of of sent by markets, give the exchange's correspondents, correspondents, give the exports, sales in the market, with prices, and the "tone" prevailing. The with in sales the market, prices, prevailing. exports, in the fluctuations in consolidated report report is is aa summary summary of the supply of fluctuations of cotton cotton consolidated supply of visible throughout the country during the week. The visible supply, receipts, the week. the country during supply, receipts, throughout in all all ports of exports are summarized, and stocks stocks in New York and in ports of are summarized, and exports the United States the correspondStates are are given, the United correspondgiven, including including comparisons comparisons with the ing week of the previous year cumulative totals since the beginning since the and cumulative totals the of beginning previous year ing of the movement of of the the crop. of the crop. cable. Cables From other other markets markets prices prices are are received received by by cable. by wire and by report futures 15, 2:00, 2:00, and 4:00 P.M., with from Liverpool55 report at 12: futures contracts contracts at from Liverpool 12:15, P.M., with at 12: of the the high high and low low for delivery month. The tone of the market at 15 12: 15 each delivery for each the include of the and at the closing reported prices prices include those those of the is given. Other reported at the and given. closing is for the spot market in closing prices for futures on the cotton cotton and in York New market closing prices spot exchange in in New York and other trading centers, other trading centers, opening opening and closing closing exchange 5 Prior Prior to to suspension of the the Liverpool Cotton Exchange British Government Exchange by by the British Liverpool Cotton suspension of this exchange during Second World World War. War. To date date the the reopening reopening of this has not been the Second exchange has during the permitted. permitted.

104 104

Commodity Exchanges Exchanges and Futures Futures Trading Trading Commodity

prices in in prices

Havre and Bremen, Bremen,66 and closing closing prices prices in in Alexandria Alexandria and Bombay. Ocean freight freight rates rates to to the the twenty twenty leading leading cotton cotton markets markets are are Bombay. recorded, together together with demand and cable cable rates rates for for sterling, sterling, francs, francs, recorded, lire, and so so on. on. marks, and lire, marks,

The exchange's exchange's price price record record is is given given for for each each delivery delivery month, month, includincluding prices prices at at the the three three daily daily calls calls-high, low, closing of the day-and and of the low, ing high, closing day and the the previous previous day's day's closing dosing prices. prices. A complete complete record record of of all all prices prices on exchange contracts contracts in in each each delivery delivery month is is published. published. The supply supply of of exchange each grade grade of of cotton, cotton, certificated certificated for for delivery delivery on futures futures contracts, contracts, is is also also given. given. Pursuant to to requirements requirements of of the the federal federal Cotton Cotton Futures Futures Act for for deterdeterof price price differences differences on grades grades above above or or below middling, middling, the the mination of the average differences prevailing currently ten spot markets of the differences ten markets of on average prevailing currently spot

country for for country

all all grades grades of of cotton, cotton, deliverable deliverable and non-deliverable, non-deliverable, are are a differpublished, together with a notation of the day on these differwith notation which these of the published, together day ences will will apply apply to to current current deliveries deliveries on exchange contracts. ences exchange contracts. a E. The following of following quotation quotation from a statement statement of E. G. Bright, Bright, vice-presivice-president of of the the New Orleans Orleans Cotton Cotton Exchange, Exchange, before before the the Joint Joint Committee dent the Economic Report Report (December (December 1947) indicates the the importance importance on the 1947) indicates of the of the price-registration price-registration function function of of commodity exchanges: commodity exchanges:

for a period, as in At times times in in the the past past the the futures markets have been closed period, as in closed for futures markets at six six cents cents and less less 1914 at the beginning of the first first world world war. war. Cotton sold sold at of the the beginning 1914 at sold at at more in the the following during the the marketing marketing period period in the fall fall and in in the following spring spring sold during futures
Daily Market Report the New York Coffee Coffee and Sugar of the Sugar Exchange. Exchange. Report of Daily Market the The record of futures on the New York Coffee and Sugar of futures of prices record of Sugar prices the Exchange differ materially not differ does not materially from the record of those on the Exchange does is computed Cotton visible coffee coffee supply, world's visible Cotton Exchange. supply, which is computed Exchange. The world's is the from carefully gathered by representatives of the exchange, from figures exchange, is figures carefully gathered by representatives in the given of coffee coffee in detail. Stocks the principal Stocks of in considerable considerable detail. European principal European given in the centers together with the amount are reported, in South America are centers and in reported, together afloat bearing markets. These figures, to various various markets. Brazil to afloat from from Brazil figures, bearing on the world detail the others which detail the movements into, are followed followed by world supply, into, by others supply, are and the coffeethe United States the two large States and the coffeestocks on hand in, the stocks in, the large 66 Prior of these these markets Prior to to suspension suspension of

the Second World War. during during the

Prices~ Prices,

Crop Market Reports Reports Crop and Market

10 5 105

distributing Orleans. A statistical statistical summary centers, New York and New Orleans. distributing centers, summary of in the the United States, the world's visible supply, of arrivals, arrivals, deliveries deliveries in world's visible States, and the supply, month by by month, month, is is given given in in separate separate tabulations. tabulations. Prices Prices prevailing prevailing on other markets, the Santos other as the Santos and Rio exchanges, are also also summarized. summarized. markets, such as exchanges, are In addition addition to to the the usual usual summary summary of the section of the the day's the section of of day's trading, trading, this exchange exchange which is is devoted devoted to to sugar details stocks of sugar in this details stocks of in New sugar sugar other warehouses, warehouses, as receipts, exports, York, Havana, as well well as as receipts, York, Havana, and other exports, and summaries of of the the new and old old crop crop movements, movements, with quotations quotations from other exchange exchange markets markets in in Europe. Europe. Weather occupies place in the a place other in the occupies a sugar market, but is omitted in the coffee market report. is in but the coffee market sugar market, report. In this this connection, the following bearing as as In of interest, is of connection, the interest, bearing following quotation quotation is it does it does not not only the price-registration function, but also on the advanon the but also the advanfunction, only price-registration of price in contrast price determination on free free markets in price controls tages contrast to to price controls tages of by government: government: by During Ithe war, when sugar any the war, control, no one had any government control, sugar was under government During idea as as to to the the true true value value of of sugar. sugar. When decontrol was being being debated during idea during officials of of the the early early part part of of this this year, year, we heard responsible responsible officials the Department of the Department of of 30^ Agriculture prophesy prophesy that that aa price price of 30~ to to 40^ 40~ per pound might might result, if result, if per pound Agriculture sugar suddenly decontrolled. decon,trolled. Today, later, we see see Today, some seven months later, sugar were suddenly

of slightly slightly over 5~ per per pound pound quoted quoted on our Exchange Exchange for prices of for raw sugar over 5^ sugar prices into for 1948 translate itself into a price of about 8~ wholesale itself This would translate wholesale 1948 delivery. for 8^ price delivery. for refined sugar instead instead of of 40^f, 40~, 20^, 20~, or some other price at by by guess. guess. arrived at for refined sugar price arrived point is, is, in in aa controlled buyers and sellers sellers have no way of expresscontrolled market buyers The point way of expressing their individual judgment. In a free market, each producer has a good idea a a In free individual their market, good idea producer ing judgment. cost him, of he will will produce, produce, what it it will will cost him, and at price he he is at what price is of how much he knows his because it his willing to sell it. buyer his requirements, because he makes it his sell it. The to requirements, buyer willing business to to estimate estimate the the probable probable demand from his his customers. customers. Governments business at the -that to estimate the for a commodity must guess the financial a the demand for financial to estimate that at:tempt commodity guess at attempt ability of the probable buyers. In a free market, each of these buyers in in a free these of knows the of market, buyers probable buyers. ability advance his his financial financial resources resources and can can estimate range a very narrow estimate within within a advance range very just he can buy at various various price price levels. buyers and levels. Therefore, Therefore, when buyers just how much he can buy at sellers are permitted permitted to to come together together in in aa free place, they they very quickly free market place, sellers are very quickly or the price price of a commodity commodity for today, next month, or establish for the of a the delivery establish the month, delivery today, next year. year. 77 next Trade. The grain Crop Statistics in the Grain Trade. in the grain exchanges exchanges compile compile Crop Statistics

to those those which have been described described and issue reports reports similar nature to in nature similar in and issue the is gathered exchanges. The information is by the exchanges, for other exchanges. for other gathered by exchanges, operoperating through their committees information and statistics, and valuvaluon their statistics, ating through Broomhall's Agency, Agency, an internationally internationally able are obtained obtained from BroomhaH's data are able data organization whose whose lines lines of of information spread over the world. the world. known organization spread of the the New York Coffee Coffee and Sugar 7 Remarks Remarks of of John John C. president of C. Gardner, Gardner, president Sugar the National the Exchange, Inc., at a symposium, August 14, 1947, under the auspices of the National of a at 14, 1947, Inc., August auspices symposium, Exchange, Association of Allied Trades, Inc. of Commodity Trades, Inc, Association Exchanges and Allied Commodity Exchanges

106 io6

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

This a large, large, specialized reporting bureau, publishes is a This agency bureau, which publishes agency is specialized reporting to subinformation to subthe world-famous Corn Trade News and supplies the world-famous supplies the of world are All scribers throughout the the world. world. All grain are scribers throughout exchanges of the grain exchanges subscribers. subscribers. to similar to Reports. All All exchanges exchanges publish Annual Reports. reports similar publish annual reports operating of other business organizations. other business statements of exchanges, organizations. Some exchanges, operating statements of data in addition, addition, publish publish statistical annuals which contain wealth of contain a wealth in statistical annuals these constitute constitute on prices, prices, supplies, crop movements for for years years past; past; these supplies, and crop valuable historical historical records. records. The Chicago of Trade issues yearly of issues Board valuable yearly Chicago the a of volume, of 200 or more pages, containing a review of the year aa bound volume, or of 200 year pages, containing information covering covering all in on the the all commodities dealt dealt in and statistical statistical information exchange. exchange. Prompt and Widespread Publication of Prices. A vital vital field, the field, where the of Prices. Prompt Widespread Publication commodity exchange is the sole source of information, is the record of all record all the of is the of is sole source information, commodity exchange of the volume of all transactions consummated on its floor. prices and its floor. of the all transactions of prices to all all of the available to This record the prices prices prevailing prevailing daily is generally This record of daily is generally made available other domestic domestic and foreign foreign exchanges exchanges and markets other of the the same commodity markets of commodity to the the public, public, by radio and ticker ticker services, by direct direct wire wire and cable; cable; to services, which by by radio offices of of commission commission houses throughout carry quotations to to offices dealers throughout houses and dealers carry quotations and in the country, the by publication publication in the papers. This publicity of the daily country, by daily papers. publicity of exchange transactions serves a most valuable economic purpose. transactions serves a most valuable exchange purpose. a basis for arbitrage By basis for arbitrage B8 operations, the all the the markets markets of of the By affording affording a operations, all world on the commodity are together. Although world the same commodity are linked linked closely Although closely together. in market in one may occasionally get out of parity those in prices in out of with those may occasionally get prices parity with other markets, markets, in in the the long long run wheat wheat prices Kansas City, other in Chicago, Chicago, Kansas prices in City, and the foreign markets will be at a substantial parity; Minneapolis, the markets will be at a substantial foreign Minneapolis, parity; at New York, York, New Orleans, world markets will cotton prices prices at cotton other world markets will Orleans, and other in alignment; be be in the same condition will hold hold true true for prices of of condition will for prices alignment; and the all all other other commodities commodities on various various domestic domestic and foreign exchanges. Thus, foreign exchanges. Thus, for commodities of of world-wide world-wide production production and consumption there is for is consumption there 9 not or national not aa mere local local or national market; market; there brought is a a world world market,9 there is market, brought about by by close of price price quotations quotations and alertness part about close interchange alertness on the the part interchange of of to seek a profit by bringing prices back to parity whena of arbitrageurs to seek back to whenarbitrageurs profit by bringing prices parity of parity parity with with others. ever one one market is ever is out of others. Control of Different arrangements for disseminating of Quotations. Quotations. Different arrangements for disseminating quoquotations various exchanges. exchanges. They are generally tations prevail prevail on various are generally promulgated They promulgated by ticker ticker services by cable, cable, telegraph, telegraph, radio, teleregisters, and the services and by the radio, teleregisters, by in daily press; in the customers' of the exchange commission house the room of the customers' house daily press; exchange See Chapter 88 See Chapter XL XI. of course, 9 This, course, This, of

is not true true where where governments governments under war controls controls or or priceis not pricefix the the prices prices of fix of international international staple!!. staples.

pegging schemes arbitrarily arbitrarily pegging

Prices, Crop and Market Market Reports Reports Crop and

Prices,

107

members quotations quotations are are posted posted promptly promptly on an electrically electrically operated operated board. board. For years the law has has been well well established established that years the that exchanges have comcomexchanges have their plete control of their quotations-that is, exchanges may establish of own control that establish is, quotations plete exchanges may rules to be observed in in transmitting transmitting their their quotations quotations as rules to as news, news, and they they to non-members, may also refuse refuse to to supply supply quotations quotations to a step if such such a non-members, if may also step desirable. 10 Allowing ticker companies to take take appears desirable.1° Allowing telegraph telegraph and ticker appears companies to sell quotation and sell to their their subscribers has been held by the the services to subscribers has held by quotation services courts not not to to publication publication such courts to amount to as would debar such as debar exchanges exchanges the furnishing from exercising exercising discrimination discrimination and forbid forbid the of such such furnishing of services to certain certain types types of of organizations. organizations. This control services to control of of quotations quotations of inestimable value value in in contributing contributing to to suppression bucket has been of of bucket suppression of off quotations to be be "buckshops. By shutting "buckshutting off any recipient shops. By quotations from any recipient known to a dealt of operator. eting orders," exchanges dealt a deathblow to this type to this of orders/' eting exchanges type operator. The courts have have upheld upheld this this right, right, and commodity exchanges particicourts have particicommodity exchanges have in the pated actively actively in the extirpation of these pose these gambling houses, which pose extirpation of pated gambling houses, as commercial enterprises. as legitimate commercial legitimate enterprises. of the clauses of customer's contract contract with with the Western Union TeleThe clauses the Western Telethe customer's for continuous graph Company for con~inuous quotations of the York Cotton of the New graph Company quotations Exchange, reproduced below, below, are are illustrative illustrative of the extensive of the controls extensive controls Exchange, reproduced maintained by exchanges: by exchanges: 1. That our place of business at No. 1. business is is and shall shall be at No............................. Street, Street, place or said of State of Town of ............................ State of ............................ and that that said City City or and firm the name of business is conducted under the firm business is style style of .................................. .. and that that notice notice of of any any change change of of the the name, name, nature, of said firm or or place or said firm nature, or place of business shall shall at at once be given given to to the the said Company; said Western Union Telegraph business once be Telegraph Company; not keeping keeping or causing to to be kept, will not keep or cause cause or causing and that that we are are not kept, and will keep or in assist to be kept, kept, or or be be in wise interested in, or in any way assist or promote, wise interested in any to be in, any way any promote, any any or wherein or bucket-shop business, or any office, store, or other place wherein bucket-shop or office, store, business, any place bucket-shop bucket-shop or permitted permiHed the the business business of making, or to make, conis conducted or or offering of making, is conducted make, conoffering to in or transactions, either orally or in writing, respecting tracts, trades, either or trades, transactions, tracts, agreements, orally writing, respecting agreements, of cotton, the purchase purchase and sale) the purchase purchase or sale (or or sale the bonds, cotton, or any stocks, bonds, any stocks, (or the sale) of or other other securities securities or commodities wherein wherein both parties, or the party maintainmaintainor commodities or party parties, ing office or place or or conducting conducting such business, or the the undersigned, consuch business, or place such office undersigned, coning such or intend that such contracts, agreements, trades, or transactions template transactions intend that such contracts, agreements, trades, template or to or may may be, be, closed, or settled settled according, with reference, reference, to shall, closed, adjusted, shall, or according, or with adjusted, or the quotations of of any Exchange, Board of of Trade, upon which the quotations Trade, or market place, place, upon any Exchange, cotton, or stocks, stocks, bonds, bonds, or or other other securities securities or in; or or are dealt dealt in; or commodities are cotton, or otherwise than than by by an an actual actual bona fide fide ,transaction purchase or sale; or wherein transaction or or purchase otherwise sale; or office or place such both parties parties or or the party maintaining maintaining such place or conducting such office both the party conducting suoh that such contracts, the undersigned undersigned contemplate contemplate or intend that agreebusiness or or the business contracts, agree-

10 For see Chapter 10 For the the law law regarding regarding control quotations see of quotations control of Chapter XVI.

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Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

ments, trades, or transactions transactions shall, may, he or may, be dosed closed or or 'terminated the terminated when the merits, trades, shall, or of quotations of some such Exchange, of Trade, or market place respecting or Board of Trade, Exchange, quotations place respecting the cotton, stocks, bonds, bonds, or or other other securities the securities or or commodities in such commodities specified such cotton, or stocks, specified in contracts, agreements, trades, or transactions shall reach a certain figure; and or transactions shall a reach certain and we contracts, agreements, trades, figure; that we will not agree that will not use, or allow anyone else to use, such quotations or any of or allow else to such or use, use, agree anyone quotations any of or in any such bucket-shop, office, or place. such purpose them for for any such or in or any any purpose bucket-shop, office, place. said quotations 2. are to to be be received received by us only private and for our private 2. That said by us only for quotations are in our individual use use in our said business at at the above designated; individual said business the office or place office or above designated; and place that will not not communicate or or otherwise otherwise furnish or permit to be that we will or furnish permit to be communicated or otherwise furnished, said quotations to any news distributing said otherwise furnished, or distributing company company or quotations to any telegraph or any any person person or nor to to any place than than or corporation, other place telegraph company, company, or any other corporation, nor that above designated, that designated, nor nor allow allow any any person person or whatsoever to take or corporation to take corporation whatsoever undersigned shall If the shall directly or indirectly said quotations said office. office. If the undersigned directly or indirectly said quotations from said of them, or permit permit to to be be furnished, furnished, said to any furnish, or said quotations, or any furnish, them, to any any of quotations, or the Western or corporation, corporation, the the undersigned undersigned hereby hereby agrees that the Western person, firm, firm, or person, agrees that Union Telegraph may sue sue the the person, to whom or corporation firm, or corporation to Telegraph Company Company may person, firm, said quotations said quotations or or any of them are are thus receipt or furnished to the receipt or thus furnished to prevent any of prevent the use use thereof thereof by by said said person, person, firm, firm, or without making making the the undersigned or corporation undersigned corporation without a of a a defendant defendant thereto, thereto, provided provided -the undersigned does not, or in case a partpartthe undersigned does not, or in case of all of the do not, reside within the jurisdiction of the nership all the thereof members reside the thereof within the not, nership jurisdiction in which Court which said said suit is brought. brought. suit is Court in office or place 3. the office place above above designated designated shall shall not by any any 3. That the not be connected connected by private telegraph or telephone wire, or other wire connection, or other means or or or other wire connection, wire, private telegraph telephone of communication communication with with the or place place of business of persons, of any or persons, of of business the office office or any person person or or engaged in the business of making contracts, agreements, trades, in business of the or corporation, contracts, trades, engaged agreements, making corporation, sale of or transactions respecting respecting the the purchase purchase and sale bonds, or of cotton, or or transactions cotton, or stocks, stocks, bonds, other commodities, or with any place where such business is conor with such is business conother securities securities or or commodities, any place of ducted, unless unless the the New York Cotton Exchange been notified shall have been notified of ducted, Exchange shall such shall not not have have disapproved disapproved the the same. such connection connection and shall the undersigned 4. That the the furnishing of said said quotations be disdisto the shall be 4. undersigned shall furnishing of quotations to the New Co. or the Cotton continued whenever whenever the the Western Western Union Telegraph or York continued Telegraph Exchange shall shall require require ,the discontinuance thereof. thereof. the discontinuance Exchange financial pages Newspaper Reports. Reports. The financial pages of daily papers carry detailed daily papers carry detailed Newspaper reports of price changes on the principal commodity exchange markets. the markets. of principal commodity exchange price changes reports Official prices for for all all active active trading trading months are made public public by the QuoOfficial prices by the Quotations establishes official also establishes official quotations for inactive inactive tations Committees, Committees, which also quotations for months, when no prices prices are are established established by by trading, usually gives the months, trading, and usually gives the "tone" the market. of the "tone" of Market Letters. Letters. Another source source of information consists consists of market Market and letters, issued by dealers, brokers, commission houses. These letters letters issued dealers, brokers, letters, by to to their them or bulletins are distributed to their customers to acquaint with or bulletins are distributed acquaint price trends prevailing in in the market. They of They contain current news of price trends prevailing the developments bearing on the supply of commodity or the demand on the commodity supply developments bearing for other data and trade trade information deemed of importance it and other as for it importance as

Prices~ Prices,

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affecting prices. prices. The exchange, however, possesses to censor the power censor exchange, however, affecting possesses the power to all such bulletins all bulletins sent out by by its its members. members. The publication publication of rumors, of rumors, sent out or other supported reports, or misleading matter intended other misleading supported reports, to prices, as well as as advertising advertising matter matter which might invite influence prices, as well to influence might invite a "incompetents to undertake a hazardous enterprise," is discountenanced hazardous to undertake is enterprise/' "incompetents and disciplinary disciplinary action may be be taken taken by by the the exchange action may exchange against against offending offending members. members. Regulation of of Consumption. l?rice or high of an article article high price Regulation Consumption. The low price price of major degree degree influences the demand for for it, the one tending to a major to a to stimuinfluences the stimuit, the tending to the other other to to retard retard demand. This is true whether whether the the price price is late and the is late is true that of or caviar caviar-of cotton or or futures. But the or futures. that of cotton or shoes-of the of wheat or shoesof spots spots of hourly and daily publication of the prices of futures, reflecting the conof conthe futures, hourly daily publication reflecting the prices sensus of trained trained judgment judgment as as to to the the course prices months into into the of prices the sensus of course of in a future, provides provides the the dealer, producer, or manufacturer operating a or manufacturer future, dealer, producer, operating in in in futures trading is conducted with a peculiarly sencommodity with a which futures is sentrading commodity peculiarly miller does does not not have have to to wait wait until until October to sitive governor. governor. The miller to sitive for wheat which he will ascertain what he he will will have have to to pay pay for will then need. need. ascertain his requirements by exchange operations-and so with He can anticipate his and so with anticipate requirements by exchange operations or tire the farmer, farmer, spinner, tanner, or tire manufacturer. manufacturer. the spinner, tanner, The regulation regulation of prices, consequently, of consumption is a much by prices, consumption by consequently, is more orderly orderly process process and one one attended attended with with much less uncertainty and less uncertainty If cotton anxiety than would otherwise prevail. If prices work so that otherwise prevail. so low that cotton prices anxiety than it consumption of finished cotton goods will be stimulated, it appears that that finished of cotton will be stimulated, goods consumption appears for example, the the manufacturer can take take advantage prices to for example, of the the low prices to advantage of assure his his requirements requirements by by purchases purchases on the the exchange for months ahead. for ahead. assure exchange are indispensable, it is It will not do to to say that futures futures quotations is It will not say that quotations are indispensable, but it not the services rendered by the exchanges that conservices rendered not overstating to say conby the exchanges to say that overstating the tinuous of futures are a valuable contribution to our of futures valuable are most contribution our tinuous quotations to quotations modern industrialized industrialized society. society.

insufficiently insufficiently

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CHAPTER CHAPTER VI VI)J

Adaptable to to Futures Futures Trading Trading Commodities Adaptable

Why are are some commodities commodities the the subject subject of of futures futures trading trading on organized organized Why for exchanges, whereas no such markets have established for trading been established such trading exchanges, it that in other other commodities commodities of of equal equal importance? importance? Why is that wheat, wheat, cotton, is it in cotton, coffee, corn, corn, oats, oats, rubber, rubber, silk, silk, cocoa, cocoa, tin, tin, and other commodities are are coffee, when singled out for futures trading exchange markets, steel, brass, on for out futures steel, brass, markets, exchange trading singled petroleum, lumber, lumber, and many many other basic basic materials materials are not the the tea, coal, coal, petroleum, tea, in the relative subject of exchange exchange trading? trading? The reason reason cannot be found in the relative subject of in question. importance or value of the commodity in money value value the or of commodity question. The money importance of our annual imports that of of the annual production production of of steel imports far exceeds steel far exceeds that of the annual of cocoa beans, and tea tea is is in in more extensive use throughout throughout the the world extensive use of cocoa beans, futures than coffee. coffee. In the reasons reasons why why some commodities have futures than In examining examining the first center center attention attention on the markets not, we must first the nature markets and others others do not, of itself. itself. of the the commodity commodity Units Homogeneous. It It is is a condition condition precedent for all all Units Must Be Homogeneous. precedent for futures that units of the commodity be interchangeable. The that units of the futures trading commodity interchangeable. trading speculator the hedger hedger does or the does not buy sell on an exchange contract any exchange contract buy or sell speculator or any lot of specific or specific of a commodity, or identified or identified grade commodity, but he buys grade or specific lot buys or specific or sells to established grades and descriptions. One ton of Grade A of to established sells according grades descriptions. according It rubber is It is homogeneous. as another of the same grade. is of the is the the same as grade. homogeneous. Hence aa commodity, the units units of of which are are not readily is commodity, the readily homogeneous homogeneous is an impossible for futures futures trading. impossible one for trading. at Looking at those commodities in which futures futures trading those is conducted, conducted, Looking trading is that they all it all answer this requirement. Some homogenit will will be found that this they requirement. homogengoods. Wheat is an example eous are also also fungible eous commodities are is a of a fungible goods. example of A elevator may grain fungible store thousands of bushels thousands of bushels commodity. fungible commodity. grain elevator may store 1 Hard spring wheat, of belonging to several owners, 'and it of Number 1 to several and it is is wheat, owners, spring belonging to entirely immaterial to the buyer what lot or whose wheat of the same lot or of the buyer entirely receives. The stocks stocks of various grade various owners can be mixed and stored stored grade he receives. in and purchases or sales can be made, with no thought of in bulk, sales the bulk, made, purchases thought of the of such wheat. On the specific the other other hand, hand, cotton, cotton, silk, silk, and identity of specific identity 110

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rubber are are examples of commodities that are not fungible, are not commodities that fungible, although examples of although they are homogeneous. Although specific lots of cotton and rubber are lots of are cotton rubber are they homogeneous. Although specific not in storage, are not mixed in they are capable of being graded so that one lot of that so lot storage, they being graded capable of a given of given officially officially certified grade is to a buyer certified grade is just as as just as acceptable buyer as acceptable to any other lot of that grade. lot other of that any grade. The Commodity Susceptible of Standardization of of Grades. Grades. of Standardization Commodity Must Be Susceptible If a If the the units units of of a commodity are homogeneous, homogeneous, it it follows as a a corollary follows as commodity are corollary that must that the the commodity be susceptible of division into standard grades. be of division into standard commodity grades. susceptible all units There is is no commodity commodity all units of of which are alike. Differences alike. are exactly Differences exactly in grade in grade arise multiplicity of of causes. causes. One lot arise from a multiplicity lot of of cotton cotton will will differ differ in in length length of of staple, in cleanness, and in color. in from another in in color. Rubber in cleanness, staple, course of production in the a clean course of production may may come out out in the form of of a clean sheet sheet of of it may accumulate dust, amber-colored translucency translucency or or it bark, and other other dust, bark, may foreign substances. bales of vary in evenness, cleanof raw silk substances. Two bales silk may in cleanevenness, foreign may vary ness, and neatness neatness of of the the threads, threads, and there there may may be variations in in size, be variations ness, size, tenacity, and elasticity. Conditions of this sort, affecting every of Conditions this comsort, affecting every comelasticity. tenacity, it impossible for unit of modity according according to to its nature, make it its nature, of modity impossible for every every unit the to be regarded commercially as the equivalent of every to be the commodity as the of commodity regarded commercially every equivalent other. other. If, however, standards can be be established established so that by inspection and standards can so that If, however, by inspection classification the commodity may be divided into a definite of classification the be divided a into definite number of commodity may well-defined, grades, readily identified by the trade throughout uniform identified trade the well-defined, by grades, readily throughout the world, the the units units of each grade the world, such grades of each grade become homogeneous, homogeneous, and such grades are suitable trading. for futures futures trading. are suitable for Supply Large. The necessity of a broad market necessity of Supply and Demand Must Be Large. for futures trading has been emphasized emphasized elsewhere. if every elsewhere. Even if other for futures every other trading has element necessary necessary for for futures trading were were present, present, alligator pears would element futures trading alligator pears not be be aa commodity a satisfactory satisfactory futures market could be futures market for which a could be not commodity for that of with that is maintained. The supply, of staple maintained. commodities, is staple commodities, supply, compared compared with small, is the the demand. Consequently, Consequently, speculators with large so is small, and so large speculators financial resources might might readily readily obtain obtain control pear of an alligator control of financial resources alligator pear a natural natural and free futures market. market. It It would soon cease cease to to be a free market futures and would become merely merely aa battleground battleground for for contending contending speculative speculative factions. factions. for futures Some authorities hold that that the the commodity, to be eligible futures authorities hold eligible for commodity, to most trading be in world-wide demand. As a matter of fact, comin a of must be world-wide fact, trading wide worldmodities ~hich are the subject of the futures trading enjoy a world-wide the futures the of are which modities trading enjoy subject It is in widely different degrees. It demand, although is questionable, howin different demand, degrees. questionable, although widely if this characteristic is indispensable to exchange ever, to is if this characteristic ever, trading. The exchange trading. indispensable statminimum requirement requirement in in this this respect respect may may best best be be summarized by by statto assure assure that ing that the supply should be large that that the large enough enough to ing supply and demand should the will function as a continuous and orderly market as will function futures exchange the futures orderly exchange

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of supply for the interplay interplay of of normal factors factors of not for the supply and demand and not merely an arena arena for for contending speculators. as an contending speculators. merely as to Market. a supply The Supply Supply Must Flow Naturally Naturally to Market. Not only only must a supply of commodity be be large, large, but but its flow to be to world markets its flow markets must also a commodity also be of a substantially free and unhampered unhampered by by artificial restraint, whether whether by by artificial restraint, substantially free An governmental or private agencies. impossible condition would exist, or condition exist, impossible governmental private agencies. in a if organized futures futures trading trading were were attempted a market where the the if organized attempted In is under effective supply price of the commodity commodity is be of the or price control and could be effective control supply or at the increased or diminished diminished at the will will of government, group, cartel, of any increased or cartel, any government, group, or individual. individual. The market would then function, not as as corporation, function, not corporation, or price-making machine, machine, but but merely to the as an adjunct the an efficient efficient price-making merely as adjunct to arbitrary will of the controller of the supply or price of the commodity. of the or of of the controller the will commodity. arbitrary supply price has been used advisedly. "effective control" control" has The term "effective advisedly. The Rubber in 1925 Exchange of began operating of New York began at a a time time when the the 1925 at operating in Exchange in British plan for restricting production of rubber in British British for of British (Stevenson) restricting production (Stevenson) plan Colonies, with various various price price and export been in in control features, features, had been Colonies, with export control the plan control the the price effect for three years. The purpose purpose of of the plan was to to control price effect for three years. through periodically periodically increasing reducing production production and the or reducing the exportincreasing or through exportable supply able by government edict. Nevertheless, Nevertheless, the the Rubber Exchange Exchange government edict. supply by until forced functioned effectively effectively from the the time time of of its its organization forced to to functioned organization until during the Second The reason for the success of suspend the World War. reason for the success of suspend during the exchange exchange was was that that the the attempted attempted control was not not effective. the control was the effective. Had the price of rubber brought complete or practical control, every rubber been under of or control, brought every price complete practical whether manufacturer manufacturer or user of of rubber, user or consumer, rubber, whether consumer, would have been compelled to to accept accept dictated dictated prices. prices. As was expected, however, tempocompelled expected, however, temporarily high prices produced the inevitable economic effect of increasing effect inevitable of increasing the rarily high prices produced the by the the supply other sources; control by the British British govsources; consequently, supply from other consequently, control government was was only only partially partially effective effective and the ignominiously failed ignominiously the scheme failed in 1928, in but was was revived revived again in cartel in as an international international governmental 1928, but governmental cartel again as the the 1930's. 1930's. The same situation has existed existed in various valorization in coffee coffee under various situation has valorization schemes of of the the Brazilian Brazilian government which have operated more or less or less government operated beginning of the twentieth twentieth century-without, continuously the beginning of the since the continuously since century without, however, control. In In fact, fact, other other governmental effective control. control schemes however, effective governmental control in wheat, wheat, sugar, cotton, corn, teas, silk, and the like were disastrous in the like disastrous were sugar, cotton, corn, teas, silk, occasioned heavy heavy losses losses to the controlling governments and failures failures and occasioned to the controlling governments their taxpayers. taxpayers. Similar schemes have have been attempted from tim.e to to time, time, time their Similar schemes attempted in the years between the two world wars, usually without especially in the the years wars, usually without especially success except in the short term. The long term results have have generally generally in the short term. results success except long rubber. However, However, state as been the the same as as in in coffee state trading-such coffee and rubber. trading such as in England, prevails in wheat, and other England, in in in cotton, now prevails other commodities in cotton, wheat, cocoa in Africa and Brazil, Brazil, in hides, wheat, in British in hides, cocoa British West Africa other comwheat, and other

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in wheat modi ties in in the Argentine, and in wheat in modities the Argentine, in Canada-poses Canada poses much more difficult problems and, if continued permanently permanently and expanded cover difficult problems to cover and, if expanded to

of supply other major major areas areas of or demand, may seriously demand, may supply or seriously upset upset exchange exchange trading in such commodi ties. in commodities. trading The testimony of George C. Schutte, George C. the New York Cocoa of the Schutte, president testimony of president of Exchange, Inc., before the Joint Congressional Committee on the the Ecobefore the EcoInc., Exchange, Joint Congressional illustrates Report, December 4, 1947, illustrates the disruptive effect and the nomic Report, effect 4, 1947, disruptive sinister implications involved involved in in the the current widespread sinister implications of widespread development development of state trading, partly partly as as a result result of of war controls partly because because of of the the controls and partly state trading, in many acceptance of socialism in many countries. of state state socialism countries. This statement statement relates relates acceptance in cocoa beans: to the trading operations beans: the state to state trading operations in

The public public interest interest requires requires that that the the nation's nation's great great public public market places places be be any influences that can possibly interfere with the estabinfluences interfere that with the estabany possibly the forces lishment of prices prices by by the forces of of supply lishment of supply and demand. Our public public market a vital the places exist to perform a vital function for the producers, importers, to economic function for exist perform producers, importers, places and of consumers of our basic commodities. They perform vital processors, consumers basic this vital commodities. They perform this processors, in direct economic function function efficiently in direct proportion to their breadth and liquidity. breadth their to efficiently proportion liquidity. for hedging They are, are, above all, hedging purposes, purposes, and all the sound and all the all, markets for They efficient placing proper factors factors which contribute contribute to to the the efficient placing and removing removing of of a proper be nurtured always nurtured and protected. protected. They never be be discouraged, hedge must always hedge discouraged, They must never and the the liquidity Iiquidi·ty of of the the market place place must never be tampered tampered with. never be with. Cocoa, for for the the major major part, part, comes from West Africa Africa and Brazil Brazil and is is usually Cocoa, usually two- to to three-month three-month shipping-period shipping-period spreads; transportasold for transportasold on twoallowing for spreads; allowing tion not unusual unusual for to arrive three to arrive in in this for cocoa cocoa to this country to four it is is not four tion time, time, it country three the time time of of original purchase. This makes the extremely the exchange after the months after original purchase. exchange extremely of protection important in two two respects respects-one the standpoint the imimto the one from the standpoint of protection to important in it provides a a in that for porter, and the other in that it medium for assuring supplies on the other assuring provides supplies porter, it does not tax the the imagination these shores. the circumstances, not tax imagination to to estiestishores. Under the these circumstances, it the effect of two monopolistic monopolistic sellers per cent of of our sellers controlling effect of 78 per mate the controlling 78 cent Brazil requirements (British 50 per cent-Brazil 28 per cent) . 50 28 cent) per per (British requirements to the The world world cocoa cocoa market was brought brought to the United States States from London, London, Amsterdam, Liverpool, and Hamburg Hamburg by the establishment of the New York of the Amsterdam, Liverpool, by the Cocoa Exchange in Formerly a large large part part of African cocoa was shipped of African in 1925. cocoa was 1925. Formerly Cocoa Exchange shipped to these places places for for transshipment transshipment to to New York. to these World monopolies monopolies now threaten threaten the the primacy primacy of of the the New York market. market. The as from in order Exchange be kept as free as possible any interference in as free be interference order to must to any possible kept Exchange and fight the battle against monopolies, the Exchange must not throttled the not be throttled battle the Exchange against monopolies, fight by domestic domestic peace-time peace-time controls. England, Brazil, Brazil, and controls. Government controls in England, by free trading Santo Domingo could, could, in in time, time, destroy destroy free trading and dictate dictate the fate of of the fate Santo Domingo 40 which the American chocolate chocolate industry, consumes over per cent of the of the the American per industry, world's production production of of cocoa beans. cocoa beans. world's at all all times times of of free at free

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director of L. Strange, of research statement below, below, by by H. G. L. research for for The statement Strange, director the Grain Co., Ltd., Winnipeg, Winnipeg, Canada, before the the Joint Joint ConCanada, before Searle Grain the Searle Co., Ltd., is a gressional Committee on the the Economic Report Report (December a (December 1947) 1947) is gressional

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startling analysis of of the the way way in in which paternalistic paternalistic legislation insidiously startling analysis legislation insidiously develops gradually the relief relief measures measures demanded feeds on itself itself and develops feeds gradually from the by short-sighted co-operatives into full-fledged totalitarian controls into totalitarian controls and full-fledged by short-sighted co-operatives state trading, which destroy destroy free free markets markets and, if extended, will inevitinevitif state trading, and, extended, will ably lead to complete of the the entire entire socialization or or communization of lead to ably complete socialization economy. experience should be a grave warning to the The to the Canadian be economy. grave warning experience have already forced the United States far down far American farmers farmers who have forced the States already the road to to state trading, which has in state trading, the has destroyed free agriculture destroyed free agriculture in many nations. nations. many In our Canadian Canadian wheat whea,t pools pools co-operatives co-operatives suffered 23 million million a loss of 23 loss of In 1929 suffered a 1929 our they owed to to the banks and could They lost this money which they the banks could not not pay. lost this money pay. They had a their because they adopted a policy of marketing -their straight to the the of wheat to because straight marketing they policy adopted millers of the the world world without without using using the the facilities facilities of Winnipeg open "futures" millers of "futures" of the the Winnipeg open They did did not not hedge hedge their their wheat. wheat. Fearing Fearing political repermarket. They market. political and economic reperif the bankrupt, their their losses to the banks cussions, the pools pools went bankrupt, banks losses were guaranteed to the cussions, if guaranteed Provincial the Dominion Dominion governments of Canada. But the by the Provincial the and of governments by affairs to appointed administrator over their their affairs to dispose their of their gradually of dispose gradually appointed an administrator unsold the full unhedged unsold wheat, using the full facilities of the futures market to sell facilities market to of futures sell the wheat, using unhedged the wheat. the wheat. . . . the Canadian Wheat Board, From such such aa small small beginning beginning started started the Board, which as an agency to a functioned primarily primarily as to implement a guaranteed moderate Hoor functioned floor agency guaranteed implement price for wheat~the wheat, however, being sold through the futures market. sold for wheatthe the futures market. wheat, however, being price through This went along along quietly until September 27, 1943, the Government This 1943, when the September 27, quietly until decided that wheat wheat was was aa munition munition of of war. war. . . . The Government then closed then closed decided that the Winnipeg wheat futures futures market, market, with with the the full that it would full expectation the Winnipeg that it expectation the war was soon as as the was over. market has remained closed be reopened reopened as as soon over. The market be has remained to closed to this however, is still closed. 1943, therefore, the sole marketing and closed. From is still the sole this day, however, 1943, therefore, day, marketing agency for all Canadian wheat has has been the the Government itself, through its for all its itself, through agency has become aa complete state Board. Since Since 1943, Wheat Board. state 1943, Canadian wheat has complete monopoly. monopoly. 80 per cent of normally has has to to sell sell abroad 80 per cent of an average Canada normally of average crop crop of around 400 million million bushels bushels aa year. year. For the the crop year, 1943-44, the Government the crop year, 1943-44, at a considerably price of of wheat to to Canadian farmers farmers at lower figure set the price set '~he considerably lower figure than the price reflected reflected by by the the Chicago Chicago "futures" For that that year year our "futures" market. the price market. For than our less than they dollars less farmers received received 136 million dollars would have received 136 million farmers received had they they the same prices prices that that American farmers paid through through the farmers were paid the enjoyed the they enjoyed markets. the Chicago and other open "futures" markets. For the year, 1944-45, our farmers "futures" For other our farmers year, 1944-45, Chicago open million dollars less, and for year, 1945-46, they received received 147 for the the year, dollars less, received received 126 147 million 126 1945-46, they than farmers received. Since the "futures" million dollars less American farmers received. Since the "futures" market million dollars less market was closed the Government alone alone has has had to to sell year by all the in 1943, sell year closed in was the 1943, the by year year all Canadian wheat crop. crop. The Government became somewhat frightened, apparfrightened, apparin July, at the the possibility possibility of of unsold unsold surpluses. ently, at the Canadian 1946, the surpluses. So in July, 1946, ently, guvernment invitation from the British government in the British to engage government to government accepted accepted an invitation engage in that Canada would sell a bilateral bilateral wheat wheat agreement. agreement. The terms terms were that sell to a to Britain Britain 160 million bushels bushels for years at at $1.55 million bushels for two years 140 million 160 million bushels a bushel, and 140 a $1.55 a bushel, dollars dollars

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year for two years years at a minimum price price of for the the third year and at a for another of $1.25 another two third year $1.25 for year $1.00 for the fourth, the actual prices for the third fourth years to be be the the for for actual and the third fourth fourth, $1.00 years to prices for arranged later. actual price for the third year was recently agreed upon The actual the third later. arranged year price recently agreed upon at $2 at a bushel. bushel. Unless Unless wheat prices prices fall fall drastically drastically by by August August 11 next next-as not as does does not $2 a seem likely-then this two-dollar two-dollar price price will will further increase our losses. further increase farmers' losses. our farmers' likely then this Minister of of Agriculture Agriculture it was advised leaders of The Canadian Minister of it seems, advised by seems, was by leaders certain farm organizations ~hat the price of was likely, certain Canadian farm the price of wheat was after organizations that likely, after to fall fall below the the $1.55 price. As we all rose steadily 1946, all know, after 1946, to know, prices $1.55 price. steadily after prices rose of the the agreement. The Canadian government August 1, the start start of 1, 1946, 1946, -the August agreement. government and their advisers guessed wrong. their advisers guessed wrong. The Government announced some time time ago prairie farmers that our prairie farmers had ago that lost million dollars (equal to to 77 77 cents bushel) during the first year of lost 123 dollars (equal the cents a a bushel) first 123 million during year of the agreement, as compared with with the the much higher price at which Canadian the agreement, at as compared Canadian higher price actually been been sold by the to some sixty-five wheat had actually wheat sold by the Wheat Board to countries sixty-five countries of world other than Britain. Britain ..•. of the fact that Britain paid the world ... In spite the fact that Britain of of the other than paid spite $1.55 for the she bought, the paid the farmers only $1.35, holding for the the Board the farmers wheat she $1.55 bought, only $1.35, holding paid in case future losses back 20 20 cents bushel in of possible possible future a bushel case of losses.. . . . The Canadian cents a back this comparatively price of that Britain Britain was was government seized on this of $1.55 $L55 that government seized comparatively low price sell for paying to oblige our farmers to 'sell wheat, for Canadian consumption as flour farmers to our as to flour wheat, oblige paying consumption also at bread, to to 12 miIIion Canadian people people also to our Canadian and bread, at $1.55. loss to 12 million $1.55. The loss farmers for domestic farmers on wheat for domestic consumptionapproximately consumption-approximately 70 bushels million bushels 70 miIIion per year-came to additional 77 million dollars, making the total loss for an additional million to 77 the total came loss for dollars, making per year the first year year of the agreement 200 million dollars. I have calculated that if I million have calculated if of the 200 dollars. that the first agreement anything like present prices of wheat, as set by the Canadian Wheat of as like set the Board wheat, by anything present prices or as as registered registered by by the the Chicago Chicago open market, prevail prevail until until December 31, or 1947, 31, 1947, open market, the total loss to our prairie wheat growers will amount to 419 miIIion dollars, million dollars, the total loss to to growers will prairie or the average farmer. The losses today to each farmer. losses are are going or about about $1,600 $1,600 on the average to going on today at the rate of of around around $1.90 $1.90 aa bushel. bushel. . . . at the rate weeks ago, ago, Mr. J. J. Hume Lee, Lee, aa farmer, at Gretna, has a farm at A few weeks farmer, who has Gretna, line at farm immediately immediately across across the the border line Neche, Manitoba, and an adjoining at Neche, Manitoba, adjoining farm North Dakota, informed me that that last his adjoining last year farms at at North Dakota, informed year he sowed his adjoining farms Gretna and Neche with with Thatcher Thatcher wheat wheat and O.A.C. 21 barley. barley. He harvested harvested O.A.C. 21 Gretna both crops together, with with the his wheat at at the the the same implements. sold his both implements. He sold crops together, at the the Canadian elevator American elevator for $2.56 $2.56 aa bushel bushel and at elevator for elevator for for $1.20Y2. $1.20i/. at the his barley barley at at the elevator for for $2.10 the Canadian the American elevator and at He sold sold his $2.10 land elevator for for 85 85Y2 cents. Since then, the the quotations for wheat on November 19 19 elevator quotations for 1/2 cents. Since then, at these were $2.94 for at the American elevator and the wheat at the elevator the for these same elevators elevators were at $2.94 It is same price price as formerly-$1.20Y2--at the Canadian elevator. is to to be noted that, elevator. It as formerly that, $1.20 i/^at the at is buying buying wheat wheat from Canada under government agreement while Britain Britain is while government agreement at and all wheat $1.55, she is paying for wheat-and has been paying all these American these for she is $1.55, paying paying -the Chicago futures market. • • . years-th~ higher price price as as reflected reflected by by 'the the much higher Chicago futures years for taking One reason reason given given by by the the government taking over complete complete control control of of government for in to the whole wheat wheat industry was, as they put it, to prevent speculation in wheat as the whole they put it, prevent speculation industry was, at the the expense of the and to to prevent prevent speculators speculators from from making making profits the farmers. farmers. expense of profits at the for The fact fact is, however, that those who signed the agreement for Canada engaged those that is, however, signed agreement engaged sold "short" in the greatest speculation of all time. time. They actually sold "short" 600 of all in the They actually greatest wheat speculation .

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million bushels bushels of of unproduced unproduced wheat over years for prices a term of four years over a of four for prices million they could not not foresee. sold short, not with with their with foresee. They their own money short, not They sold money nor with they could future income of with the the future prairie farmers. the government's money, money, but with of our prairie the government's farmers. These good people forgot, forgot, or or did did not not realize, realize, that has no real that speculation real effect These effect good people speculation has on the price of wheat, either up or or down. They forgot also that, because wheat either up also of wheat, because the price that, They forgot it delivered in harvested and aa good part of market within is harvested of it delivered to to market within 90 90 in Canada is good part of the world and because the millers of the only buy their supplies in a steady days the millers their in a because only buy steady supplies days daily stream throughout throughout the the year, year, wheat cannot be be marketed marketed without without the the aid aid daily stream of speculators, for buys in the fall-so that the farmer can be whoever wheat in the fall so that the of speculators, for buys paid for for it it-and holds that that wheat for for months until until millers millers require require it it later, a is a and holds later, is paid it is the government government buys buys and holds holds the the wheat, wheat, therefore, therefore, as as it speculator. is speculator. When the doing in in Canada today, today, then then the the government, hence all taxpayers, become all the the taxpayers, government, hence doing speculators. . . . speculators. extent because It is to to aa great great extent because the the United States has enjoyed It is States has futures enjoyed an open open futures market, with with its reflected high high prices prices to to producers, producers, ,that the United United States its reflected that the States market, It is is because because of the government-set price, last year year increased increased wheat acreage. acreage. It of the last government-set price, that Canada last last year, year, in in spite of the of necessity aa low low price price to to producers, producers, that of necessity the of spite reduced its world's great hunger, actually reduced its acreage, for there was wheat world's for there no was great hunger, actually acreage, it. incentive to to Canadian farmers farmers to to increase increase it. Since the government government dosed Since the incentive closed the futures market in in Canada in 1943, have received futures market the farmers have received much 1943, our farmers less for their wheat and coarse grains than than they they should have done. This, II am coarse grains should have done. This, their wheat less for I convinced, is accident. It must, I am convinced, almost always happen is accident. It almost no must, convinced, convinced, always happen under I government monopoly. I confidently the prediction that, if the "futures" make the if the "futures" confidently prediction that, government monopoly. were in the United States to be closed, or even were they to be markets States to or in the United be to markets be unduly closed, they unduly r< hampered by unnecessary governmental n gill:!; iOIl, the same great losses much the great losses hampered by unnecessary governmental ^ul.'iiion, that have been incurred by our Canadian wheat producers would most cerincurred wheat been certhat have by producers upon your your American grain grain producers. producers...• tainly fall fall upon tainly It will will have have been been noticed noticed that that the the present present absolutely control state control It absolutely complete complete state over Canadian over the the Canadian wheat wheat industry farmers and over all actually Canadian farmers over industry all actually in aa very very small way in in the the year, year, 1930, but that it has started small and mild way that it started in has gone 1930, but gone with aa number of quiet, successive, until we have have arrived arrived along of quiet, successive, gradual gradual steps, steps, until along with at complete complete state state monopoly. monopoly. This illustrates, I suggest, insidiously today at illustrates, I suggest, how insidiously today by little, creeps up on the people once it is permitted government control, little little by the it once is control, little, creeps up people government permitted to start . . II venture venture to to recommend to to our good not friend the the United States start.. . ... States not to good friend of control wheat to take that that first of control over your industry, for, if it is taken, it first step over if it is it to take for, taken, your industry, step will inevitably lead to still further steps until United States farmers end up in lead further until to still States farmers in will steps inevitably up ,the position in in which our our Canadian farmers farmers find find themselves. the same bad position themselves. During the course course of of its sixty years years of than eighteen royal its sixty of activity, less than activity, no less eighteen royal During the futures market. commissions have thoroughly thoroughly investigated investigated the ,the Winnipeg commissions have futures market. Not Winnipeg one of that the the market market be not one even recomof them ever ever recommended that not one be closed; even recomclosed; mended any hampering of its operations. of its curtailment or hampering commissions operations. These cO!1lmissions any curtailment decided that the the futures futures market market was in the interest producers and that in the interest of of producers that the decided that the market performed performed important services to both producers and consumers .••. services to market consumers. important producers Today, in Canada, our farmers farmers have have unwittingly unwit'1ingly become merely merely humble servants in Canada, servants Today, is us in Canada look of us in their master. master. Thousands of look longlongof state is their the state. state. The state of the ingly to the the United United States, freedom fanners still still enjoy the States, where farmers enjoy the liberty ingly to liberty and freedom .

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for and fought for fought

of us us in in of

won by by their their ancestors Many ancestors against against kings kings and governments. governments. Many Canada today today believe believe fervently fervently that the United States is an oasis of that the States is oasis of

liberty in in aa gradually gradually extending extending world world desert desert of of human servitude. servitude. liberty their action not It was to have their every action policed to It dictated by bureaucrats, every policed and dictated by bureaucrats. with aa constant constant fear fear of of fine fine and imprisonment breaking minor 1( glll.1I iom, for breaking with imprisonment for K^ubiions, in order that Canadian farmers farmers made very very great great sacrifices to assist in winning sacrifices in that order to assist in winning in Canada are two great wars for for human freedom. freedom. We in hoping. '~herefore. that are hoping, therefore, that great wars some day day we may may again blessed with that that same individual liberty and freedom individual liberty again be blessed cherished by is still fortunately enjoyed enjoyed and cher!shed brother farmers the still fortunately which is in the farmers in by our brother United States. States.

of state state trading Another illustration illustration of of the the effects effects of trading in basic staple in basic comstaple comin Argentina. II is is found in Argentina. That country's World War II country's in the state monopoly the sale government likewise likewise created created aa state of wheat, sale of wheat, monopoly in government for export. state products for The state bought at fixed hides hides and skins, at fixed skins, and other products export. bought who were forced to prices from the producers, were forced to accept such arbitrary the from producers, accept arbitrary prices at much higher prices for for all sold these these commodities at prices all exports, exports, and sold higher prices prices in the the United States on foreign foreign markets. markets. Whereas the the farmer farmer in States during during this period period obtained obtained on world markets markets $3.00 higher for much of of this for $3.00 and higher half wheat, the Canadian farmer received only about one half as much, while received only as much, while wheat, the to countries were paying to the Argentine the same importing countries were the the paying importing Argentine government government for the of $5.00 or per bushel for wheat. The free markets or bushel of more wheat. free markets the equivalent $5.00 per equivalent for wheat maintained by the grain exchanges of the United States States assured for wheat assured by the grain exchanges of the a market price price based based on world world supply the farmer of of a the American farmer supply and demand, but the farmer forced to subsidize British and was forced to Canadian British but the subsidize demand, Canadian consumers and the Argentine farmer to subsidize the state the farmer to subsidize the state consumers Argentine of his government. monopolies his of government. monopolies Futures markets are are as as frequently in 'the located in the consuming Futures markets centers consuming centers frequently located centers. in as in the producing or distributing centers. Exchanges in basic internabasic internaas in the producing or distributing Exchanges United the States imports in large large tional staples, especially those those which the States tional staples, especially imports in important to the nation's economy. Although quantities, are vitally to the nation's are economy. Although no vitally important quantities, in the coffee, cocoa, natural rubber, rubber, or or pepper pepper are produced in are produced the United coffee, cocoa, natural States, nevertheless the the principal principal and largest futures markets for these futures markets for these States, nevertheless largest in New York City. The licensed warehouses commodities are are located located in licensed warehouses commodities City. in which many many of of these these commodities commodities are in the are located stored are located in are stored the in which it profitable United States. merchants find find it to import these to States. Because merchants United these profitable import commodities to store store them in in the the licensed warehouses and hedge licensed warehouses commodities and to hedge of these in the the futures markets, large stocks of these imported futures markets, commodities them in large stocks imported commodities have from time time to to time time been been accumulated accumulated in the United United States normal in the States for for normal have consumption purposes. Stockpiling will become more and more imporwill consumption purposes. Stockpiling imporof many essential materials tant, approach the the exhaustion exhaustion of many essential materials and are are as we approach tant, as import them from abroad. This point is forced is rapidly approaching to import forced to point rapidly approaching in iron ore, ore, copper, copper, and other other materials. materials. in iron

modities after after modities

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Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

Uncertainty of supply and Demand Must Be Uncertain. Uncertain. Uncertainty of supply is prerequisite for demand is a commodity to be the the subject of futures futures commodity to subject of prerequisite for a trading. If supply are both certain, prices are capable If and demand are are of certain, trading. supply prices capable of ready adjustment without the intervention of any organized intervention of without the market any organized ready adjustment if of machinery. Again, if either of these factors is and the either these factors is certain other certain the other machinery. Again, uncertain, although although the the problem problem of of price adjustment is difficult, is more uncertain, difficult, price adjustment no elaborate elaborate market machinery machinery is is required required to to bring there it about, is there about, nor is bring it sufficient uncertainty to to engage engage the the attention the large of riskriskattention of sufficient uncertainty of the body of large body bearing speculators essential to a successful futures market. When supply to a essential successful market. futures bearing speculators supply large, and both uncertain and subject and demand are are large, fluctuato wide fluctuasubject to tions tions from season season to to season season or year to to year, a condition condition exists or from year exists where year, a the relationship the relationship between the the forces forces of and demand on free markets free of supply supply is is constantly constantly changing. uncertain economic forces proof uncertain forces prochanging. This interplay interplay of duces the the constant constant fluctuations fluctuations in in price price which must exist successful in any duces successful exist in any futures market. futures No one would call call United States States Government Bonds or Atchison, Atchison, Fe General Topeka, and Santa 4s, or States Steel Preferred specuor United States Steel Preferred 4s, Topeka, speculative Yet the the prices prices of these gilt-edged securities fluctuate from of these lative footballs. footballs. Yet securities fluctuate gilt-edged to week and over years. The upward day to day and week to to day over the the years. or downday upward or ward price price changes may large proportions. Constantly uncertain assume changes may large proportions. Constantly and shifting to make for for shifting demand and changing changing market supply operate to supply operate an irregular a similar irregular but constant constant oscillation prices. It in prices. similar shifting oscillation in It is is a shifting demand, coupled coupled with with the the fact fact that that supplies and demand can never be never be demand, supplies in the estimated with exactness, that causes the prices of all all estimated with causes oscillations oscillations in of exactness, that prices commodities which are are adaptable adaptable to to exchange exchange trading. trading. The Commodity Perishable. The futures futures contract contract may may Commodity Must Not Be Perishable. call for for aa delivery of units of the commodity many into the the of the months into call of units delivery commodity many future. Consequently, the the commodity commodity must be be capable future. Consequently, of being stored capable of being stored at all times and for periods to of the considerable periods for considerable to meet requirements of all times at the requirements of scarcity. times of scarcity. A commodity subject to rapid deterioration in times market in to deterioration commodity subject rapid does not meet this this requirement. requirement. The trader trader who makes aa contract to contract to does not the deliver the after date of sale, having the commodity after months of deliver the commodity sale, having commodity commodity in store at the time he makes the the contract relying upon upon the the possibility possibility contract or or relying in store at the time that he can can buy buy at at aa price price from those those who do have, have, must have assurance that he assurance that the commodity commodity will will remain substantially unchanged in quality until in that the substantially unchanged quality until delivery date. commodity should lend itself to the warehouse's to The itself the warehouse's commodity delivery date. economic function function of providing time time utility. utility. The surplus of providing of economic surplus supply supply of the present present must be be capable of becoming the essential supply of the of the of essential the the becoming capable supply future. future. Commodities in Which Exchange Exchange Trading Is Conducted. Conducted. The cereal cereal Commodities in Trading Is grains-wheat, corn, oats, rye, barley-are all susceptible of exchange and all are of barley susceptible exchange grains wheat, corn, oats, rye, textile commodities traded trading; cotton the principal principal textile traded are the cotton and wool are trading;

Supply and Supply

Commodities Adaptable Adaptable to Futures Trading to Futures Trading

119 119

Silk was the in on futures futures markets. markets. Silk the subject the of futures futures trading trading on the subject of many years. years. Futures Futures trading was inauguinauguYokohama Bourse for for many in silk silk was trading in rated rated in New York in in 1928, continued until until the the Second World War. 1928, and continued in on the Sugar coffee are dealt in the New York Coffee Exchange, are dealt Coffee and Sugar Sugar and coffee Sugar Exchange, on New York Cocoa cocoa the Exchange, products on the cocoa the Chithe ChiExchange, and pork pork products cago Board of of Trade. Cottonseed oil the oil has an active active futures futures market on the cago Exchange and the the New Orleans Cotton Exchange. New York Produce Exchange Exchange. futures trading Butter and eggs eggs are are the the subject subject of of futures trading on the the Chicago Chicago Merin since cantile Exchange. Hides futures have been traded in cantile since 1925. 1925. 11 Hides Exchange. Rubber futures have had an exchange exchange in in New York City since 1929. The Commodity since 1929. City Commodity Exchange, Inc., provided provided aa market for trading in tin, zinc, zinc, and lead. in tin, for trading lead. Exchange, Inc., in silver Silver copper were also also included, included, but since trading in Silver and copper since 1934 trading silver a because has been suspended because of a prohibitive federal "transactions" tax. of federal tax. has "transactions" suspended prohibitive In contrast contrast with this this group of commodities (which is not all-inclusive), of (which is group all-inclusive) however, there are many many more commodities commodities which obviously there are however, obviously do not lend themselves themselves readily readily to to futures trading. futures trading. Commodities Not Adaptable Adaptable to to Futures Futures Trading. fruits Trading. Uncanned fruits vegetables do not not lend lend themselves themselves to go no to futures futures trading. and vegetables trading. We need go further than to note the the fact fact of their perishability. perishability. Shoes are of their are an example further to note example for which may of a manufactured commodity, the demand for the of a commodity, the may vary, vary, but the supply of which is co-ordination with with demand. is capable of close co-ordination capable of close supply of Any product the value of is influenced by changes is value of which is influenced the in style by changes in Any product style is obviously unfitted for futures trading. The demand be as capriunfitted for futures be would as obviously trading. capriin the artificial in a commodity cious in in this this case case as as the the supply supply is is artificial case of the case of a cious of commodity of nature a monopolistic monopolistic or nature or of one effective or of under or semi-monopolistic effective semi-monopolistic monopoly control. Sulphur outstanding example is an outstanding a commodity of a Sulphur is monopoly control. example of commodity of the unfitted for for futures trading because because of the restricted restricted sources supply. unfitted futures trading sources of of supply. deposits greatly depleted, and the abroad have been Known sulphur the greatly depleted, sulphur deposits in world's is in the States. Furthermore, it is the United States. chief supply is now world's chief it is Furthermore, supply controlled principally by by two producers. producers. Sulphur prices, consequently, controlled principally Sulphur prices, consequently, as other commodities, not fluctuate frequently or or as as widely widely as the as frequently fluctuate as do not for the commodities, for producers can exercise control over supply and fairly well regulate it in control well can exercise it in fairly supply regulate producers relation to anticipated anticipated demand. relation to of successful successful futures Since coffee and cocoa are are both the the subject futures trading, Since coffee subject of trading, in on futures why is tea not also traded in futures markets? The difficulty is traded also here is difficulty here why is tea not with grading. The establishment this comestablishment of commercial grades for this with grading. grades for not but modity is a matter involving only expert opinion, individual is a matter individual only expert opinion, involving modity into tea taste well. The human factor factor enters enters into tea classification to such classification to such as well. taste as an extent as to to make it it aa difficult difficult subject subject for trading. for futures futures trading. an extent as of a a commodity, of the Consideration of the the nature nature of breadth or or the breadth Consideration of commodity, and of or the for will narrowness of of its its supply supply or the demand for it, why futures futures narrowness it, will explain explain why ,

i 1

the Second World War. Except for the the years years of of suspension suspension during during the Except for

uo 120 trading trading

Commodity Futures Trading Commodity Exchanges Trading Exchanges and Futures

is not carried carried on and is not likely be attempted in many many to be is not is not likely to attempted in products. Some will will obviously be debarred because because of of perishability; obviously be perishability; products. like others are to have aa comparatively comparatively narrow market. Some, are known to others Some, like potash, will fall in the category as sulphur-unadaptable because in as fall the same category sulphur unadaptable potash, will thin of restricted sources of of supply, as well well as because of as because of a comparatively of restricted sources comparatively thin supply, as market. market. Manufactured articles are capable of more ready to market articles are ready adjustment capable of adjustment to than is the case case with with raw materials, materials, partly because of the relarelais the of the demand than partly because in tively small of producers in each manufacturing industry. number small of tively manufacturing industry. Of producers more importance is the fact that, in proportion the art the manuis the fact in as the art of of the that, importance proportion as the facturer to the the form, or, ·and make-up of facturer contributes and make-up of the contributes to color, form, shape, style, col shape, style, finished article, individual units of will vary widely. The element finished article, individual units of each will vary widely. is lost, their purchases of homogeneity homogeneity is lost, and buyers, buyers, necessarily necessarily making purchases of making their contract after inspection, only after not be be aided by only by aa market whose contract inspection, would not in design, could not not possibly possibly reflect reflect the the manifold differences style, differences in design, style, and in quality in such articles as shoes or hats. found or hats. articles as women's shoes quality It is It is sometimes stated stated categorically, categorically, but wrongly, wrongly, that that no manufactured line can be drawn product is to futures trading. Nevertheless a line is adapted to a Nevertheless futures product trading. adapted articles which pass pass through through an elementary and uniform process process between articles elementary of manufacture to to prepare prepare them for for the the wholesale wholesale market and those those which of pass through less uniform stages of manufacture. and less of advanced more pass through stages The test test of adaptability is is not not whether whether the manufactured, but articles are the articles are manufactured, of adaptability whether the the process process of of manufacture is the products products homis uniform and the ogeneous capable of standardization through grading. and of standardization ogeneous through grading. capable Commodities Which Might Might Be Adaptable Adaptable to Futures Trading. to Futures Trading. The foregoing review review of reasons which make some commodities unsuitable of reasons foregoing for leaves one question question unanswered. What of iron, tobacco, tobacco, for futures futures trading leaves of iron, trading petroleum, jute, coal, similar commodities are durable, posand similar commodities which are durable, pospetroleum, jute, coal, sess uniformity, are are in world-wide demand, yet are not dealt in on in world-wide sess uniformity, are not dealt in demand, and yet futures markets at at all, all, or, if such trading trading is its is so futures markets its volume is so is organized, or, if organized, is the strictly limited that the attempt to create a futures market is totally that create limited to futures strictly totally attempt unsuccessful? Are any any of these commodities commodities adaptable trading, unsuccessful? of these futures trading, to futures adaptable to if so, and, the reason reason for the absence of markets? for the is the of exchange so, what is and, if exchange markets? A commodity commodity may may possess possess all the inherent inherent characteristics all the that make it it characteristics that adaptable for trading and yet yet be be without such a market because because for futures futures trading adaptable of conditions in in the the industry or because the trade has not yet come to of to or trade because the yet industry a full full realization realization of of the the usefulness usefulness of of futures trading. It requires more It requires futures trading. than the of the the commodity the inherent characteristics characteristics of a futures futures to make a commodity to market. These must be present, present, but but they they must also be coupled also be coupled with a futures condition in in the the trade trade and the the related related industry which aa futures makes industry market a logical in the natural step the development distributive of distributive logical and natural step in development of methods. To illustrate, may take take aa few of methods. the commodities ment.ioned mentioned of the illustrate, we may

Commodities Adaptable Adaptable to Futures Trading to Futures Trading

121

and inquire further into into their their possibilities possibilities as as subjects of futures futures markets. markets. inquire further subjects of Metal Exchange The Metals. Metals. The London ,Metal Exchange was was for many years a for many years a futures trading factor in in futures trading in in the metals. In London's long long leading factor the metals. In fact, fact, London's leading control over tin tin prices prices has has been ascribed in no small measure to control over ascribed as as due in clue small measure to the presence presence of of an organized futures market in in that Trading the that center. center. Trading organized futures there was conducted conducted in the the four four principal principal non-ferrous metals-copper, there non-ferrous metals tin, copper, tin, of and zinc. Instead of having separate pits or rings and trading in lead, Instead zinc. lead, having separate pits or rings trading in the the four four metals metals simultaneously, they are taken up by one are taken one for for short short simultaneously, they up one by periods during each day. day. periods during are not These four four metals, metals, then, then, are not only to futures futures markets markets only adaptable adaptable to for years years have been the the subject of active trading. The organization but for of active subject trading. organization of National Metal Exchange in New York in was an effort of the the National in 1928 effort 1928 was Exchange in to active interest in metal to revive interest in metal futures markets in in this this revive and maintain active futures markets of the the usefulness of the market increased, it was expected that country. the usefulness As market it was that increased, country. expected for other other non-ferrous markets markets for non-ferrous metals metals would develop. in lead lead and develop. Trading Trading in zinc futures was started the Commodity Exchange, Inc. in 1934, but zinc futures was started on the Inc. in 1934, but Commodity Exchange, the the Second World War disrupted the sources of these sources of these commodities and disrupted the closed their markets. They have not yet been reopened. their markets. not closed have yet They reopened. in iron Iron. In Great Great Britain, dealing in warrants preceded iron warrants Iron. Britain, dealing preceded modern in full futures trading. trading. Scottish to keep keep their blast, Scottish ironmasters, furnaces in full blast, their furnaces futures ironmasters, to iron for for stock stock during periods of dullness in the often manufactured iron often manufactured of in dullness the during periods industry. This This process process naturally naturally involved involved substantial substantial:'1 ::'C :~, was !:. ',which which was industry. the iron in store. As the practice accomplished by borrowing against iron in the the store. accomplished by borrowing against practice their own developed, central storehouses issued their storehouses came into into being, being, which issued developed, central warehouse receipts. receipts. These warrants warrants served warrants or or warehouse as highly warrants served as highly acceptacceptbanking collateral. Dealing in in them had much of the aspect able banking able collateral. Dealing of of the aspect of modern futures futures trading. trading. The market, market, however, was not generally servicenot servicehowever, generally able to the distributing distributing and converting able to the the warrants warrants were trades, although converting trades, although the valuable for financing financing purposes. purposes. There was little to the the valuable for little or or no recourse recourse to hedging purposes. purposes. for hedging market for The growth growth in in recent recent years years of of integration integration in the iron industry in the iron and steel steel industry in the the United States-mergers own mines, iron furnaces, rolling which in iron mines, furnaces, Statesmergers rolling mills, and converting mills, devoted to specialized forms of steel devoted to forms of manusteel mills, converting mills, specialized facture, such rails and plates plates-has market for hedging a futures has made a as rails futures market for hedging such as facture, in and in iron in iron in steel products. Pig iron, however, purposes unnecessary steel iron, however, products. Pig purposes unnecessary in price, is subject to wide wide fluctuations price, and the risks incident these the risks fluctuations in incident to to these is subject to iron in in manufacmajor hazards hazards to to the the users users of pig iron manufacprice changes of pig changes remain major price may in time be developed. ture. futures market may in time ture. A futures developed. are many Other Commodities. Naturally there there are many commodities which do Commodities. Naturally in due time develop not now have have futures markets, but may may in them. In the the futures markets, not develop them. market the of of every commodity the problems of grading assume evolution of evolution problems grading every commodity the industry greater greater importance, changing conditions in the industry must conditions in importance, changing greater and greater fii

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Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

122

a considerable of be carefully considered, and there there is is always considerable degree degree of always a carefully considered, to be be overcome. overcome. Some of these commodities in in inertia or of these inertia or antagonism antagonism to futures markets markets would be be of of benefit benefit to to the the trades trades and related which futures related industries include petroleum, jute jute (and (and its manufactured product, burinclude petroleum, industries its manufactured product, bur-

lap), rice, wood pulp, pulp, tobacco, tobacco, scrap scrap iron, hemp. iron, sisal, sisal, and hemp. lap) rice, The constant improvements in the field in the field of of refrigeration, constant and substantial substantial improvements refrigeration, both for and transportation purposes, are greatly expanding the both for storage are greatly expanding the storage transportation purposes, in otherwise would be unsuitable possibilities of exchange trading in be unsuitable of what otherwise exchange trading possibilities commodities because because of their perishability. perishability. Futures is already commodities of their Futures trading already trading is in butter, eggs, lard, and hides, all of which require refrigorganized in all of hides, butter, eggs, lard, organized require refrigeration to adaptable to to futures the to make them adaptable eration futures trading. Furthermore, the trading. Furthermore, in the uniformity of quality, of production, and other conditions in the conditions of volume of other uniformity quality, production, of canned goods field of goods open open up up increasing for development field increasing opportnnities development opportunities for It is of exchange exchange trading trading in fruits, vegetables, vegetables, fish, possible in fruits, meats. It is possible of fish, and meats. that futures futures markets markets will will evolve as instruments of price protection in that as instruments of evolve price protection in many of of these fields where they they have have not not hitherto hitherto been been known. these fields many As an illustration illustration of of the the possibilities possibilities of of refrigeration, the following refrigeration, the following resume operation by by the the Commodity Commodity Exchange, was underof an operation underrsum of Exchange, which was is highly instructive, of hides, of refrigeration refrigeration of instructive, as taken to test test the the value value of as taken to hides, is highly well as as interesting. well interesting. in 1929, it was the hide hide futures futures market market was was established was generally established in When the 1929, it generally that accepted in the hide trade and the tanning industry that green salted the hide trade the green salted tanning industry accepted in six months not be be stored refrigerated warehouses beyond beyond six hides in refrigerated could not stored in hides could without the risk of the Tanners Council for the chemist for of deterioration. deterioration. The chemist the risk without if hides thought differently. that, if hides of America, however, however, thought of America, differently. He contended that, at least least two years were properly properly refrigerated, refrigerated, they they could be be stored years stored for for at were without deterioration. without deterioration. a quantity accordingly, purchased hides of hides The Commodity Commodity Exchange, Exchange, accordingly, purchased a quantity of and stored refrigerated warehouses. One year later in approved warehouses. stored them in year later approved refrigerated out of of the the warehouse and distributed 2,000 of these hides hides were were taken taken out distributed for for of these 2,000 tanning among four of the leading tanners in the country. The resultant four in of the resultant the tanners country. tanning among leading be aa perfect perfect product product-as tanned from leather proved proved to to be as good as leather leather tanned leather good as in warehouse for current production. After After the the hides hides had been been in years, for two years, current production. another lot was taken out and distributed for tanning among the lot of of 2,000 was taken out distributed for another 2,000 tanning among the in quality same tanners. resulting tanned tanned leather was equal to leather leather tanners. The resulting leather was quality to equal in tanned hides which had been been warehoused warehoused for three months. three tanned from hides for only only As aa consequence, it is the hide hide trade a~d in in the is now generally accepted in trade and the generally accepted in the consequence, it that tanning industry that hides can be refrigerated for at least years withleast two withhides can be for at years tanning industry refrigerated out deterioration. deterioration. The Commodity Exchange, of practicing what out of course, course, practicing Commodity Exchange, its leather, which was was the the product of these its members preach, hedged. The leather, these preach, hedged. product of hedged hides, was sold at various times over three years and the hedges the hedges sold at various times over three years hedged hides, ,

Commodities Adaptable Adaptable to Futures Trading to Futures Trading

123

were closed proportionately at the same time. entire operation, at the closed out proportionately time. The entire operation, of hedge because easily financed without because of hedge protection, protection, was easily financed and conducted conducted without any loss or expense to the Exchange. or to the loss any expense Exchange. value of of the the world's world's wool wool crop Wool. The value that of of cotton. cotton. crop approximates approximates that The chief for years chief difficulty difficulty which for years was was considered the major major obstacle as the considered as obstacle in wool to futures trading in wool was was the the problem to futures trading of standard standard grading. problem of grading. The principal wool-growing wool-growing areas areas are are Australia, Australia, New Zealand, United the United Zealand, the principal States, Great Britain, South Africa, and South America. Differences natunatuGreat Differences America. States, Africa, Britain, exist in in wools wools which are the product product of However, rally exist of different are the different climes. climes. However, rally 85 cent of 85 per cent of the domestic wools fall into eight approximately the domestic wools fall into per approximately eight gradesgradesfour four "fleece" wools, raised raised east east of the Mississippi Mississippi River; River; and four "fleece" wools, of the four "terri"terriin raised in the trans-Mississippi states. Considerable study was tory" wools, raised the states. Considerable wools, tory" study was trans-Mississippi of wool given to the the problem problem of wool classification classification and standard standard grading. given to grading. The work accomplished by the United States Department of Agriculture inthe United States of accomplished by Department Agriculture ina less in that this less formidable formidable obstacle to futures in wool dicated this was a obstacle to futures trading dicated that trading than appeared to be. be. it had formerly to than it formerly appeared for years textile trade trade where producers, producers, was for years the the one important Wool was important textile dealers, and converters converters in in the the United States remained without without the the States remained dealers, were benefits of of futures trading, although active futures markets operating futures markets futures trading, active benefits operating although in Belgium. Fluctuations of domestic in the domestic and foreign Fluctuations in in France France and Belgium. the price foreign price of been sharp extensive, and such conditions operators wools had been and under such conditions wools extensive, operators sharp their acumen alone. alone. They in trade were were forced to depend depend on their in the forced to the trade They had perforce to to carry carry on on their their business business in in large part as Yet wool as speculators. large part speculators. Yet perforce to The wide was in in most respects respects admirably adapted to futures trading. futures admirably adapted trading. fluctuations in its its price price brought brought about about by by changing fluctuations in changing demand and supplysupplyvarying because of droughts, disease, and a competing demand for sheep a because of for disease, droughts, varying competing sheep as food-unite with the the elements use, homogeneity, homogeneity, and elements of of world-wide unite with world-wide use, as food in wool durability it eligible. eligible. Finally, Finally, trading wool tops tops futures futures was to make it trading in durability to York as a part of the Cotton Exchange in 1931, and in 1941 organized in in a the as of New Cotton 1941 1931, Exchange organized part trading was inaugurated wool. in grease trading was inaugurated in grease wool. Petroleum. Few industries industries have have passed passed through through such periods such frequent Petroleum. frequent periods 2 famine as as the the petroleum petroleum industry.2 of feast feast and famine of industry. The prosperity prosperity in in the the petroleum petroleum industry in the First World the First industry generated generated in War was terminated in 1921, from then until the Second World War in and then until the was terminated 1921, the problem was was largely the market problem largely a struggle against oversupply, struggle against oversupply, with new and at frequent intervals pouring flush production on the areas opening at flush intervals the areas frequent pouring production opening of large development of in Calimarket at at distress distress prices. prices. The development Calilarge production production in fornia, coupled with cheap transportation through the Canal, the Panama with fornia, coupled Canal, cheap transportation through 2 2 In In the the early development of the petroleum petroleum industry in the part of of the the eastern eastern part of the the industry in early development for crude oil United States, market for operated for for some oil was organized a futures futures market United States, a organized and operated with active trading at City, Pa. Pa. years at Oil Oil City, active trading years with

124 124

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

in 1925. served unsettle the the markets markets in After a brief brief recovery, oil to unsettle the oil served to 1925. After recovery, the markets again the flush production from the the as the flush production markets demoralized, as again became demoralized, Semi no le field poured forth forth in in 1926-27. field poured Seminole 1926-27. Co-operation self-regulation within within the arose from necesnecesthe industry industry arose Co-operation and self-regulation in an effort effort to to prevent prevent waste waste of resources through through maintesity in natural resources mainteof natural sity nance of of aa balance balance between production production and demand. This effort effort was nance production by followed by by official official regulation regulation of of production followed individual states states and, and, by individual in 1933, by federal federal restrictions restrictions under under the National Industrial Industrial in the short-lived short-lived National 1933, by Recovery Act, which was followed followed by federal legislation in support of Recovery Act, by federal legislation in support of state regulation of production until until the the Second World War, War, when demand of production state regulation for purposes shifted the emphasis emphasis from oversupply for war purposes shifted the to maximum oversupply to production. In 1940-48, as in 19l4-1920, there developed in the United United in in as there the 1914-1920, 1940-48, developed production. substantial petroleum States petroleum shortage, appears likely to necessitate States a a substantial which to necessitate shortage, appears likely increasing imports over the coming coming years. years. over the increasing imports It would appear appear that that the the petroleum petroleum industry might benefit greatly It benefit greatly industry might overproduGtion exists, oil goes into storage. from hedging hedging facilities. facilities. When overproduction oil into exists, goes storage. When shortages exist, imports storage become necessary. necessary. Stored Stored oil, oil, shortages exist, imports and storage is an expensive process. however, represents locked-up capital, and storage is however, storage represents locked-up capital, expensive process. It is is necessary necessary to to note note the the manner in in which crude crude oil oil is marketed. The It is marketed. producer receives receives aa price price which reflects reflects generally generally the the condition of of supply supply producer in the demand. Price Price schedules schedules are are established various oil the various established in oil fields, and demand. fields, and in response these move upward upward or response to to competition or downward in in these competition and in accordance with changes changes in the volume of in the of consumption accordance with consumption and production. production. Similarly, price schedules for refined products are established by the the refined for are schedules established Similarly, price products by refiners. refiners. If conditions in the industry industry were were such that that prices prices quoted the same in the in the If conditions quoted in the territory differed to appreciable extent, the usefulness of a futures usefulness an of a differed to futures extent, territory appreciable market would be more apparent. As it is, the keen competition in the the it is, the apparent. competition in industry causes causes prices prices of refiners in to move in the the same territory different refiners of different territory to industry upward with considerable uniformity. The development and considerable downward with uniformity. development upward of the Big Inch and other other pipe pipe lines lines across the continent the across the continent during of the during the Big Inch Second World War should stimulate stimulate the of futures trading the possibilities of futures possibilities trading in petroleum. petroleum. Under present present conditions, conditions, petroleum petroleum may may be classed as aa in classed as adaptable to futures trading, with the marketing problem commodity the marketing problem and commodity adaptable to futures trading, state regulations the the principal in the conservation regulations difficulties in or federal federal conservation the state or principal difficulties of way of the efficient working of a successful futures market. futures efficient successful the of working way Coal. the anthracite bituminous branches branches of the cqal indusanthracite and bituminous of the Coal. Both the coal indusand try have also their ups over the years, with the downs had their downs over the also with have the years, ups try been felt uncomfortably prevalent. prevalent. Competition Competition from fuel has been oil has fuel oil felt uncomfortably recent years, years, and the the country's increasingly in in recent for country's productive productive capacity increasingly capacity for far in needs. bituminous coal in excess excess of of its its present needs. Largely as a conseis far coal is as a bituminous consepresent Largely free market, quence, between between 1933 coal has has not had a free market, but but has has 1933 and 1947 1947 coal quence,

Commodities Adaptable Adaptable to Futures Trading to Futures Trading

125

been controlled controlled by by the the federal federal government government under the the rigid rigid price-fixing price-fixing devices established by devices established by the the National Industrial Recovery Act, the subseIndustrial Recovery Act, the subsequent regulations of the National Control Act, and emergency of the National Coal conControl Act, regulations quent emergency controls trols

during the the Second World War. It the It became a a free for the free commodity during commodity for first time first time in in fourteen years years on July July 1, 1947, with the expiration of war the expiration of 1, 1947, controls. controls. In coal, in the difficulties exist the relatively relatively high exist in costs as as compared coal, difficulties high storage storage costs compared in grading. price and in Size, condition, and heat values are with price heat values are all all matters matters grading. Size, condition, to be taken taken into consideration. Coal mined at pit is likely to to to into consideration. at the the same pit is likely show considerable variance. variance. Assuming Assuming that that coal coal can be scientifically scientifically graded, as as is is most likely, it possesses possesses durability, a demand which fluctuates fluctuates graded, likely, it durability, a to with the the length length and mildness mildness of seasons and to to some extent to some extent with of seasons extent the business with the business cycle, cycle, and aa supply may be estimated, but is fairly which but is be estimated, may supply fairly uncertain. The principal principal problem problem in trading in in uncertain. in connection connection with futures trading with futures coal, as in in petroleum petroleum to to aa much less less degree, lies in the market, market, which is in the is coal, as degree, lies limited to substantially limited to arbitrary zones by freight rates that are relatively zones rates that are substantially arbitrary by freight relatively heavy in proportion proportion to to the the price price of of coal. there is coal. Consequently is no such heavy in Consequently there at present thing present as national or or world coal market. Furthermore, as a a national coal market. the Furthermore, the thing at and ability willingness of coal producers to contract for industrial delivof coal industrial to contract for delivability willingness producers far into eries into the the future future in in large large volume at prices make the eries far at negotiated the negotiated prices a need of a hedging market appear less apparent than it really is. of it really is. hedging appear less apparent Conclusions. First, the the qualities of uniformity, imperishability, Conclusions. First, of uniformity, imperishability, and qualities uncertainty of demand supply must of in a a commodity and be inherent inherent in uncertainty commodity supply or connected with its use, if it is to lend itself to exchange trading. if its it to itself to with is or connected use, Second, exchange trading. Second, the conditions it is is marketed are are important. the conditions under which it important. It is evident that adaptability adaptability of commodity and of also that of the It is evident also the commodity the market of the must coexist coexist before before futures futures trading trading can be developed successfully. developed successfully. A commodity which may may be be scientifically scientifically graded the price of which commodity graded and the price of is subject to relatively and frequent fluctuations is fluctuations is admirably to wide is admirably adapted relatively subject frequent adapted to futures Unless its is restricted or its market futures trading. Unless is restricted or under close close and to trading. effective control, in in the the course course of time trading trading in develop. of time in futures futures may effective control, may develop. Sharply and constantly fluctuating prices may give rise to such heavy rise to constantly fluctuating prices may give heavy Sharply speculative risks that an exchange will be a natural evolution to bring that will risks natural evolution to exchange bring speculative such risks under control. control. such risks

CHAPTER ~ CHAPTER

VII VII

~

Exchange Contract The Futures or or Exchange

at the reveal a a section section A glance glance at the financial financial page page of will reveal of any any newspaper newspaper will as as those devoted to to daily daily transactions transactions in the commodity markets, as well as those devoted in the well markets, commodity of of the the various various stock stock exchanges exchanges of the country. Prices are quoted, of the Prices are country. quoted, with

summaries of of the the day's day's fluctuations in wheat, rubber, sugar, fluctuations in cotton, wheat, corn, corn, rubber, sugar, cotton, coffee, hides, hides, cocoa, many other staple commodities. Opening, coffee, cocoa, and many high, Opening, high, staple and are all for low, closing prices are given for all these commodities, only for for these low, commodities, not only closing prices given immediate or or spot in the the current month, but also deliveries for deliveries current month, also for delivery in spot delivery in in various future months over the the ensuing ensuing year or more. or year Physical (Cash Spot) Markets and Futures Futures Markets. Markets. Unless one Physical (Cash or Spot) is an observant reader, reader, he will will be be decidedly confused, there will will is for there decidedly confused, for appear to be be not not one market, market, but two two or for each comor more markets for appear to in modity in each trading center. Part of this confusion is due to to the is the this confusion center. of Part modity trading various for these these markets. markets. In each commodity one reads trade names for reads various trade commodity of the actual, physical, physical, cash, cash, or spot market on the the one hand and of of of the actual, or spot paper, futures, contract, exchange markets on the other. Careful the and other. futures, contract, exchange paper, reading that there there are, in fact, fact, two markets for discloses that for some commodiare, in reading discloses one for others. ties and only ties for others. only For some commodities-those commodities those which have no commodity commodity exchange-as exchange as in petroleum, is the petroleum, coal, coal, burlap, burlap, tea, tea, many many metals, metals, and aa large large is the case case in in of miscellaneous miscellaneous staples staples-there one market in each trading there is is only number of only trading center. This single is aptly the physical physical market, center. called the because market, because single market is aptly called it is it in the the actual or physical physical article; article; it also called market, actual or is also called the it deals the spot deals in spot market, because it it deals deals in in contracts the immediate delivery on spot the for the because contracts for of the delivery spot of is called physical merchandise; merchandise; and it it is the cash because its called the cash market, its conconmarket, because physical payment of the full price in tracts usually call for payment full contract call for of the in cash tracts usually contract price cash on delivdelivbest term for for this this market, market, however, physical market, ery. The best is the the physical for however, is market, for ery. it deals in spot lots ready for immediate delivery, but also trades in it not only deals lots for also trades only delivery, spot ready in in contracts forward deliveries deliveries of of the moreover, though though contracts for for forward the commodity; commodity; moreover, it in contracts of sale it does does deal contracts of sale which call its condeal in call for for cash on delivery, its condelivery, 126 126

The Futures Futures or Exchange Contract or Exchange Contract tracts also frequently tracts also frequently

127

provide for for payment payment on credit for credit terms terms calling calling for provide

payment 30, 30, 60, 60, or or 90 90 days after delivery. delivery. payment days after In addition to the the physical physical market, market, there is for many commodities commodities aa addition to for many there is second market, market, variously variously called the exchange or contract or paper or or called the or contract or paper exchange futures market. market. Here again, again, there there is truly descriptive futures is one truly namethe descriptive name-the exchange (or, if one prefers, the futures market, as it is more market if as it one the is market, futures exchange (or, prefers, commonly, but less appropriately called) . To call it the contract market but less call it contract market the commonly, appropriately called) that the implies the physical physical market market does does not in not deal in contracts, while in deal in contracts, while implies that it does. it the fact it does. To call call it the paper paper market implies that in the exchange fact in that the exchange implies market alone alone are are contracts contracts made which are are settled contracts settled by by offsetting offsetting contracts and payment payment of of price price differences, differences, whereas whereas in portion in fact fact a a substantial substantial portion all physical market contracts of all of are so settled without actual delivery contracts are so actual of settled without delivery of physical the commodity. call the call the exchange the futures market (as is market To the futures the commodity. exchange (as is the that the the common practice) practice) is is to to imply imply that the physical does not physical market does in contracts deal in in fact deal for forward delivery, delivery, when in the great great majority contracts for fact the majority the contracts of of the the physical physical market call of the contracts of call for in future for delivery future months. months. delivery in it is is more appropriate, appropriate, more realistic, realistic, and less Consequently less conducive conducive Consequently it to to misunderstanding misunderstanding to to speak of the commodity markets as the of two as the the commodity speak the physical and the exchange markets. markets. physical exchange It should be It be made clear, however, that these two, the that these the physical clear, however, two, the physical and the exchange markets, though distinctly separate and independent and permarkets, exchange though distinctly separate independent perin effect forming different functions, are different functions, are in effect but one market with two sepaforming separate or divisionsfor divisions-for those those commodities which have the rate compartments the compartments or benefit of One, the exchange market, is a later development, of an exchange. a benefit the later is One, market, exchange. exchange development, as an auxiliary to the the physical physical market, market, organized to perform perform new services as services auxiliary to organized to vital economic functions the physical physical market is to functions which the and vital able to is not not able in It should borne in mind, however, that the physical market perform. It be that borne the mind, however, perform. physical deals in in contracts for both spot spot and forward deliveries, the contracts for deals deliveries, though though the majority of of its its trading trading is forward delivery, is for for forward whereas the the exchange majority delivery, whereas exchange in properly deals in contracts for future delivery of the market properly deals only contracts for future the comonly delivery of an extremely small portion portion of the exchange exchange contracts, modity. Only of the contracts, modity. extremely small Only and the balance are settled however, are are ever ever consummated by by delivery, are the balance settled however, delivery, and by offsetting contracts payment of cash differences; on the other hand, contracts other of cash the differences; hand, payment by offsetting aa great majority of of the the physical physical market market contracts by contracts are are consummated by great majority relatively only a few (as compared with the exchange condelivery and a the few condelivery relatively only exchange (as compared payment of of cash tracts) are by payment are settled settled by cash differences. differences. tracts) The f,;mdamental purpose of of traders traders in the physical physical markets fundamental purpose in the is to to make markets is of or take take actual actual delivery of specific grades of the physical commodity of the or delivery specific grades physical commodity when the contracts contracts mature to to delivery date. Settlement of date. Settlement the of offsetting contracts delivery offsetting contracts as aa common-sense practice practice to to avoid unnecessary, unnecessary, costly, develops only as costly, develops only and illogical illogical deliveries deliveries and counter the other hand, the counter deliveries. deliveries. On the other hand, the fundamental purpose purpose of the traders in exchange contracts is primarily of the traders in exchange contracts is primarily .

uS

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

not to to make or or take delivery, but but to to cancel purchase by by an cancel out every take delivery, not every purchase all deliveries deliveries and setoffsetting sale vice versa) versa),, thereby thereby avoiding setsale (and avoiding all (and vice offsetting tling all differences by cash cash payments. payments. While the buyer or seller on the the the buyer or seller differences by tling all exchange may, if he so chooses, take or delivery on exchange contake or make if he so conchooses, delivery exchange may, exchange for he primarily he will will usually usually offset them, for primarily uses uses the the exchange tracts, he offset them, tracts, exchange contract as an insurance or for for speculation; in either case, he wants wants in either he insurance device device or contract as case, speculation; to neither to delivery nor nor to to take take delivery, but desires to settle all all to make delivery but desires settle neither delivery, contracts by by cash cash payments. payments. contracts To understand understand this this somewhat confusing picture of the commodity of the commodity confusing picture it should be recalled our earlier discussions that the markets, that the it be recalled from discussions earlier markets, development in the commodity marcommodity exchange a later later development in the commodity exchange was a commodity marhad kets. the exchanges were conceived, the physical markets markets were the Before the kets. Before conceived, exchanges physical already been organized, with standardized grades and various uniform various already organized, with standardized grades contracts for various various specific specific grades Tradcontracts for circumstances. Tradvarious circumstances. grades and various ers markets generally contemplated delivering the commoders on such such markets the generally contemplated delivering ity under every contract of of sale sale or taking delivery conor taking ity every contract delivery under every every contract of purchase. purchase. Yet, Yet, even even in in the the physical physical markets markets before before the tract of the developdevelopthe exchanges, especially in those fields where the exchange ment of of the in fields the those exchanges, especially exchange was in rubber, organized very very late late-as rubber, hides, hides, wool, wool, cocoa, as in silver cocoa, copper, organized copper, and silver -there a large of trading for forward delivery a volume of for there had developed large delivery developed trading among the producers, producers, dealers, dealers, and converters the trade. trade. in the converters in among the The question naturally arises-why arises why are are exchanges immediately and naturally exchanges question immediately in commodity necessary in markets which are dealing in forward in are already forward necessary commodity markets already dealing a answer is that the the exchange provides a form of price deliveries? deliveries? The answer is that of exchange provides price and credit insurance which was not previously available. In the physical credit insurance not previously available. In the physical find a a buyer, market it it is is possible possible for for aa producer producer at at times to find usually aa times to buyer, usually a or aa converter, may be willing willing to to pay a satisfactory price dealer or dealer converter, who may satisfactory price pay for specific quantities and specific grades of cotton, rubber, or coffee to for specific quantities specific grades of cotton, rubber, or coffee to be delivered delivered in certain specified specified months in the future. Likewise, the be in certain in the future. Likewise, the at times dealer or may at times be be able to buy from producers certain or converter able to dealer converter may certain buy producers quantities of of the the commodity he needs needs for specific grades and quantities for delivery in commodity he specific grades delivery in certain certain specified months. However, there is never any assurance that months. there is never assurance that However, any specified the buyer will will always be able able to to find satisfactory seller willing and the buyer find a a satisfactory seller willing always be the specific able to grades and quantities able to sell sell the for specific at deliveries at specific grades quantities for specific deliveries of the time the buyer buyer wants wants him. him. The possibility of such forward purthe time when the forward possibility purchases in any any large large quantity times is chases and sales sales in at all all times is very uncertain. quantity at very uncertain. Frequently there there are are sellers sellers without without buyers, buyers, and vice vice versa. versa. Often Often the the Frequently seller not know or or like like the the credit of the buyer, or vice does not credit standing seller does the of or vice buyer, standing the seller in one one country the buyer buyer in versa. is in seller is versa. Frequently in another, another, Frequently the country and the with aa different different currency. Usually each trader wants wants to to do business business each with each each trader currency. Usually in terms his own laws laws and in terms of of his Again, traders under his his own currency. traders do currency. Again, not in deliveries not like like to the risks risks of of defaults defaults in to run the or payments deliveries or for delivdelivpayments for

The Futures Futures or Exchange Contract or Exchange Contract eries eries

12 129 9

and ensuing ensuing lawsuits lawsuits which may may involve action in in forforinvolve taking legal action taking legal eign countries or distant states. distant countries or states. eign In words, in the physical physical markets markets there there is in the other words, is no continuous market In other all sufficiently to absorb all potential potential transactions transactions for delivfor forward delivsufficiently large large to of eries without sharp disruption of prevailing prices. There is assurance eries without no assurance is sharp disruption prevailing prices. that such transactions transactions can ever ever be made in in any that any large large volume when they they are needed. There is no certainty that the contract, if made, made, will is will be are needed. certainty that the contract, if consummated at at contract contract time. time. Default Default by by either buyer or is either buyer or seller seller is to the possible protection to the other against default and heavy losses. without other default losses. against protection heavy possible Finally, in in the physical market, market, except rare cases in rare the physical cases when operating Finally, except in operating without of an disclosure the the through agent disclosure of the principals, the buyer or through agent principals, buyer seller always disclose disclose himself himself as as such and "show his his hand" at seller must always at least least through brokers, when it it may may not not be be to to his his advantage to do so. so. advantage to through brokers, In addition addition to to the the price price insurance insurance function, and the exchange market function, the exchange its clearing house house establish machinery by by which these various defects in its clearing establish machinery these various defects in A the physical market can be be remedied. remedied. continuous market-able market able and the physical all transactions, at willing to absorb at any time during the trading day to time the transactions, during trading any day all willing of regardless of volume, without serious disruption of prices-is assured by serious without of is assured by volume, disruption prices regardless the exchange. to the buyer in in the the the buyer the Its clearing clearing house guarantees delivery to guarantees delivery exchange. Its and to the seller contract months specified guarantees to the seller payment of the of contract the guarantees payment specified of delivery contract price, whether whether or not at at time time of is sharply the market is or not contract price, delivery the sharply up or down from the contract price, thereby protecting buyer contract both the price, thereby protecting buyer and up or seller the other's Finally, if if the buyer or default. Finally, the buyer or seller seller desires other's default. desires to seller from the to act act without disclosure disclosure to to the the trade trade of of his his identity identity or presence in the market, market, or presence in the the of the the exchange enables him to to do so. so. the machinery machinery of exchange enables the trade, In order order to render these these services services to to the the commodity to render In trade, the commodity exchange exchange into its machinery large speculative funds and the professional specugears the into its machinery large speculative gears professional speculator. It makes available to all all members of the trade peculiar kind kind of of of the trade a peculiar available to lator. It aa contract, contract, called the futures futures or or exchange exchange contract. a called the It also contract. It also establishes establishes a clearing house to guarantee deliveries and payments on all its cleared to deliveries house all its cleared guarantee payments clearing contracts. contracts. the Futures Development of of the Futures or or Exchange Exchange Contract. the Contract. A sample of the Development sample of in daily reports in the press of the price movements on commodity exchanges the of the price press daily reports commodity exchanges is in the the following summary (Insert prices on on is shown in of prices following summary (Insert facing facing p. p. 130) 130) of United States of the domestic exchanges of the States on February 5, 1948, as pubdomestic as 5, 1948, exchanges February published in the the following the New York Journal of Commerce the lished in Journal of following day:day: of consummated exchange The quotations the prices prices of contracts quotations are the exchange contracts The for future future delivery. futures contract is the distinguishing contract is the futures for characdelivery. distinguishing characthe teristic of the commodity exchange, with the operations of which this of teristic this commodity exchange, operations of Although time time contracts in the is primarily concerned. book is contracts appear the primarily concerned. Although appear in or the is physical markets, the futures or exchange contract is essentially a contract a markets, modern exchange physical essentially American institution, of necessity necessity in the development of the the vast institution, born of vast development of

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The Futures Futures or or Exchange Exchange Contract Contract

131

of grain, grain, greatly greatly augmented receipts at at Chicago the of augmented receipts Chicago and made necessary necessary the establishment of of many many warehouses, warehouses, that that is, elevators for for storing establishment is, grain grain elevators storing faster than they vast supplies arrived faster they could be sold for milling arrived which could be sold for vast milling supplies consumption. consumption.

A

system inspection and grading upon followed close close upon system of inspection grading followed facilities. The elevators the growth growth of terminal facilities. negotiable receipts elevators issued issued negotiable of terminal the receipts of which showing the grade and amount of grain was stored. These receipts, the stored. grain grade showing receipts, of wheat of evidencing title to to so many bushels bushels of a certain so many of a certain quality, were evidencing title quality, were of to lots of capable of transferring title to specific lots grain, passed from of title when transferring specific grain, capable passed trader to to hand by by endorsement from one trader dealer. to another. another. The dealer, hand to could sell his and transfer it to the buyer by mere delivtherefore, sell his wheat transfer it the could to delivtherefore, buyer by ery of the elevator elevator receipt receipt-aa negotiable negotiable document of of title. title. of the ery 1£ a sale be effected by delivery delivery of receipt, then then anyof an elevator elevator receipt, effected by sale could be If a anyturn his body who anticipated declining prices could turn his belief to commercial belief to anticipated declining prices body advantage, even even though though he he owned no grain. to one short to sell short advantage, grain. He could sell for an merchant and borrow from some elevator receipts for elevator warehouse receipts sold. These receipts amount of of grain grain equivalent equivalent to to the the amount sold. receipts he would deliver the buyer, buyer, but he would remain under the the necessity necessity of returnof returnto the deliver to time ing to the lender later, at a time agreed upon, receipts for an equivalent at lender for to the later, agreed upon, receipts equivalent ing of grain. If his grain. If his judgment judgment proved proved to to be correct, buy amount of correct, he could buy a at grain in the same at a later time, the price fallen, in amount later the had when the time, fallen, grain price and turn over to to the the lender the receipt receipt for lender the turn over for this this grain, grain, thereby thereby satisfying satisfying the loan. loan. If, contrary to to his his expectations, expectations, the the price the financial financial the If, contrary rose, the price rose, results would be a loss to the the short his obligation be short seller, loss to results would be seller, but his obligation in discharged in the way. the same way. discharged At first first the elevator receipts receipts represented represented specific lots of grain, but but the elevator of grain, specific lots of later they they represented represented merely merely grain of a given grade without regard to later grain given grade regard to for anyone specific lot, for of each grade is fungible. Thus developed of each is wheat one grade fungible. specific lot, developed any a system of trading trading in in grain for forward forward delivery. a for forward forward grain for delivery. This trading trading for system of deliveries "to arrive" was on the the physical physical market. market. The Civil gave Civil War gave "to arrive" deliveries impetus to the use use of contracts of of this and in 1859 the Chicago this sort, in of contracts 1859 to the the an impetus sort, Chicago in futures. Board of inaugurated the the first first trading trading in futures. Out of this of Trade inaugurated of this the simple development grew the concept of the modern commodity exchange. of the concept commodity exchange. simple development grew In the trade the the development development of the use of futures of the use of In futures contracts the cotton cotton trade contracts similar lines. the earlier proceeded along lines. In the earlier days, cotton days, when both cotton along similar proceeded and news news crossed the Atlantic Atlantic to to Europe Europe in vessels, little selling in sailing crossed the little vessels, sailing selling "to because of uncertainty of the uncertainty in Liverpool of the of arrival. arrive" in arrival. "to arrive" Liverpool was done because The advent the steamship, however, introduced aa new and hazardous hazardous of the advent of steamship, however, the factor the cotton trade between England and the South. The cotton cotton trade into the cotton factor into England faster but still traveled in in sailing sailing ships, ships, the news went by the steamers. The still traveled by faster steamers. of the risk to to the the owner of the cotton cotton was was now much greater, for the the news risk greater, for might have unfavorable effect on prices in England. By the time have effect an unfavorable time England. By the prices might cotton in the slow slow sailing sailing vessel vessel reached reached Liverpool, Liverpool, knowledge in the of factors factors cotton knowledge of

132

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

depressing price would have have preceded preceded it. it became a matter it. Thus it its price depressing its risk of vital necessity to eliminate this risk by marketing the cotton before before of vital necessity to eliminate this by marketing the its price price could be affected affected during during transit. transit. As a consequence, the custom the could be its consequence, arose of of taking bales which were being sail arose being shipped by sail taking samples samples from bales shipped by to Liverpool and offering for sale in New York "to arrive" at them at for in "to arrive" sale to Liverpool offering Liverpool; if a sale sale were not not effected the New York market, market, the effected in in the the samif a Liverpool; to as the vessel be sent by steamer to Liverpool as soon as the sailing ples as sent would be by sailing vessel Liverpool ples In at Liverwith its its cargo cargo of of cotton weighed anchor at the southern port. Liverthe cotton weighed port. pool the the samples the same "to offered on the "to arrive" arrive" basis. basis. samples were offered pool Then came the the trans-Atlantic trans-Atlantic cable cable and, and, with it, it, another step step forward in cotton marketing. marketing. Instead Instead of selling from sample "to arrive," of selling "to cotton in cotton arrive/' cotton sample of two months and in was now offered Liverpool "to sail" in one of in in Liverpool "to sail" offered in was during one named month. Instead of from of selling "to sail" sail" during New York "to selling wellsample, contracts contracts "by established, well"by description" specified an established, description" now specified sample, recognized nothing below low middling." middling." Active Active dealdealrecognized grade-"middling; grade "middling; nothing in New ing in these cotton contracts sprang up in York. Brokers scurried in York. scurried these cotton contracts ing sprang up to sail office to to office, office, buying buying and selling cotton to sail from around from office selling cotton southern ports ports in in various various months. In 1870 the New York Cotton Exchange Exchange was organized. the 1870 the organized. In time the two markets, the physical the exchange, each operating side by side, and the side the markets, exchange, operating physical by side, took on separate functions and characteristics, essentook characteristics, but each remained essenseparate functions tial to to the the other. other. One of the distinguishing characteristics of the exchange of tial of the characteristics the distinguishing exchange is the futures contract. For, as rule, an exchange a rule, the futures contract. For, market is as a furnishes exchange furnishes a in facilities for trading only in a single contract, in the physical whereas facilities for trading only the physical single contract, market trading takes place place in in many many uniform or or standard standard contracts, market contracts, one trading takes for each specific type. for specific type. A Futures Futures Contract Defined. Professor Professor Emery Emery defines Contract Defined. defines an exchange exchange for the future as as "a contract the future future delivery of some commodity, contract for future withdelivery of commodity, without to specific specific lots, lots, made under the the rules rules of of some commercial reference to out reference commercial body, in in aa set form, by by which the the conditions the unit unit of conditions as as to to the set form, of amount, amount, body, time the of are the quality, and the of delivery are stereotyped, and only the deterthe the deterdelivery stereotyped, only quality, left open the total total amount and the the price price is to the contractof the mination of is left to the contractopen ing parties." parties." 22 ing is clear it describes clear and it definition is describes the This definition the nature of of the the futures confutures confollowing description, however, is somewhat compretract. is tract. The following more however, description, comprehensive and brings brings out out those those features features of the futures disof the hensive futures contract contract which distinguish it the every day trade trade contract: it sharply contract: sharply from the every day tinguish futures contract contract may may be defined defined as as a contract the sale a stipulated A futures contract for for the sale of of a stipulated of some commodity of a a fixed fixed price amount of specified grade a future a specified at a at a future grade of commodity at price at date. Typically, it contains contains the the following following special First, the the specific features: First, date. Typically, it special features: specific 2 2 H. C. Emery, Speculation Speculation on the Stock and Imd Produce Produce Exchanges Exchanges of of the States C. Emery, the Stock the United United States (New York: Columbia University University Press, Press, 1896) p. 46. 46. 1896) , p. (New York: ,

The Futures Futures or Exchange Contract or Exchange Contract

133 133

provisions of the contract are determined by by the rules of of the the rules the exchanges, the of the contract are exchanges, the provisions actual bargain being being made in in a highly highly informal way. The rules and practices actual bargain rules way. practices of the are implied in each bargain. bargain. Second, contract is the exchange of the futures is futures contract Second, the exchange are implied in that the aa basis that the commodity delivered it may be which means under it basis contract, delivered be contract, commodity may either of of the the "contract of some other grade may be delivered "contract grade" either delivered grade which may grade" or of at the seller's at aa price price above or or below the price. The method at the the contract seller's option contract price. option at of determining determining the the differential differential varies varies in the seller in different of different exchanges. seller Third, the exchanges. Third, is given ,the option of making delivery at any date between specified limits; of at is the date between limits; making delivery given any option specified in this this country country at date within within aa specified Fourth, the at any in calendar month. Fourth, the any date specified calendar enforcement of of the the contract contract is is insured by by aa provision that a specified amount, that a provision specified amount, as a margin, third party known as margin, shall shall be be deposited with some third by each of the of the deposited with party by contracting parties. deposits are intended to protect the seller against These are to the seller against contracting parties. protect deposits a refusal refusal of of the the buyer buyer to to make good good his his contract in prices, prices, and, and, a in case of a fall fall in case of contract in default the to a seller's case conversely, to protect the buyer against a default on the seller's part in case the buyer against part conversely, protect of for the of aa rise. rise. Fifth, Fifth, delivery is effected by delivery of warehouse receipts for the is effected of delivery by delivery receipts in in a warecommodity, be stored in a specific place-usually in approved warewhich be stored must commodity, specific place usually approved is situatcd. in the in which the situated. 33 the city the exchange houses houses in exchange is city in

It must be be restated restated for for the the sake that the the physical physical markets markets sake of of clarity clarity that of specific at specific ,till trade in for forward delivery specific grades grades at specific in contracts contracts for jtill trade delivery of times and that that such contracts are are standardized terms made uniunitheir terms standardized and their such contracts times and form under organized rules regulations of the trade association active rules of the trade association active regulations organized in trading center, center, just just as they are the exchange as they are under the in each each commodity commodity trading exchange organization. This restatement is necessary, for it is sometimes stated in is it restatement for is sometimes stated in necessary, organization. of some commercial error that all all transactions transactions "made under the the rules rules of error that body, in set form" are or futures futures contracts. contracts. in a are exchange a set exchange or body, Among the distinguishing features of an exchange features of or futures the futures contract contract exchange or distinguishing Among for forward delivery as compared compared with with a contract contract for on the physical the as delivery physical market in the is the the fact, fact, first first of all, that that in the exchange exchange contract the names contract the the date, of all, is date, the of buyer and seller, the price, price, and the the month of are the only of delivery the only are of buyer seller, the delivery terms which remain to to be be determined and filled whereas in the confilled in, in the conterms in, it is tract forward delivery the physical physical markets it is necessary necessary to to for forward tract for delivery on the in (a) of determine fill in the specific grade of the commodity which is the the is determine and fill specific grade commodity (a) the terms the being bought sold, (b) the terms of the sale, whether cash on delivof and cash delivsold, (b) sale, being bought of delivery, ery or cash cash 30, 30, 60, 60, or days from date date of or not or 90 days delivery, (c) (c) whether or ery or contract the contract contract is a "shipment" contract (merely obligating the seller to is a the seller to the (merely obligating "shipment" month deliver ship the parcel within a specific and deliver to the buyer the within to the the the specific buyer parcel ship "arrival" contract shipping documents) or an "arrival" contract (whereby the seller guarthe seller documents) (whereby guarshipping that antees that that the will arrive that in case it not he will arrive and in will it does case does not the ship he will make antees ship good delivery from other other sources) sources), (d) not the or not the conconthe delivery (d) whether or good on the tract is is F.O.B., C.LF., or or otherwise-trade terms which determine otherwise trade terms G & F, determine tract F, C.I.F., F.O.B., C marine will whether freight and insurance will be the responsibility the of the whether responsibility of freight It

,

s 8

Charles Hardy, Risk Risk and Risk Risk Bearing Bearing (Chicago: University of of Chicago O. Hardy, Charles O. Press, (Chicago: University Chicago Press,

206. 1923) pp. 205, 205, 206. 1923) • pp. ,

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

134 134 buyer or or the the buyer

title to seller fix the the time when title to the parcel passes seller and also also fix parcel passes from seller to buyer. buyer. seller to Furthermore, the exchange exchange contract, of the the quantity sold in the contract, delivery Furthermore, in delivery of quantity sold the can be be satisfied by tender tender of anyone of the commodity of of such grades of any one of can satisfied by commodity grades rules as by the exchange its current rules and regulations; current under its as are are specified the regulations; exchange specified by for consequently, the the exchange exchange contract contract is not for is not a specific for a specific grade, grade, but for consequently, as the seller chooses to deliver. Again, the exchange such tenderable grades chooses to deliver. the such tenderable grades as the seller exchange Again, contract requirements for margins to protect the the traders traders from default, default, for margins contract has has requirements to protect whereas the the contracts the physical physical market usually do not. Finally, contracts on the not. whereas Finally, usually of is made subject to the rules the exchange contract is rules and regulations regulations of the exchange contract subject to the in this the exchange, exchange, and all all disputes disputes that that arise the this case case usually arise in usually must be under arbitrated to the rules of the exchange, the to and to the arbitrated according rules of the the exchange, to according for forward delivery exclusion even even of the courts; courts; whereas whereas contracts of the contracts for exclusion delivery rules or may to the the physical physical market may mayor may not not be subject to the rules and on the subject trade not or regulations of a specific trade association and mayor may provide association of may may regulations provide specific for for compulsory arbitration under some such rules. rules. compulsory arbitration The Form of Futures Contract. Every commodity has the Futures Contract. Every of the commodity exchange exchange has aa standard standard or basis contract, adapted to the distinguishing peculiarities the or basis to contract, adapted distinguishing peculiarities in which its of its members trade. trade. The contract of the the commodity contract adopted commodity in adopted is typical of by the Exchange is other exchange York Cocoa of the New other contracts. exchange contracts. Exchange by typical The following the latest latest (1948) by the the by-laws by-laws of is the of that that (1948) form prescribed prescribed by following is exchange, the the observance observance of obligatory when contracts of which becomes obligatory contracts exchange, are executed by by buyers buyers and sellers: sellers: are

CONTRACT NO. 11 OFFICE OF ...................................................... ..

New York ................ 19 19 ....... . SOLD FOR

To 30,000 pounds pounds net net of beans (in bags of of cocoa cocoa beans of average 30,000 original shipping shipping bags average weight (in original weight (s) (s) for the of customary for the growth), the growth of any country or clime, including the or clime, customary growth) growth any country including new or or yet yet unknown growths, growths, deliverable deliverable from warehouses, warehouses, licensed by ·the licensed by the New Exchange, Inc., Inc., in in the the Port Port of York, between the the 1st York Cocoa Exchange, of New York, 1st and last the within last days of ................................ next, inclusive; the delivery within such time such time next, inclusive; delivery days is to be be at at seller's option, upon upon notice notice to to the buyer of six, or five the buyer of either is to either seven, seller's option, or five seven, six, days, as may be prescribed by the By-Laws or Rules; the cocoa is to be of any be the the as cocoa is to of be Rules; days, may By-Laws prescribed by any at the of ............ cents grade permitted permitted by by the By-Laws; at the price per pound pound for for cents per the By-Laws; grade price of the Standard grade and growths, with additions or deductions for other grades the with additions for other grades grade growths, growths according to the the rates rates of of the the New York Cocoa Exchange, Inc., existexist· and growths according to Exchange, Inc., ing on the afternoon of the day previous the date of the notice of delivery. to the the of afternoon of the the notice of delivery. ing day previous ,

The Futures Futures or or Exchange Exchange Contract Contract

135 135

Either to have the Either party party is is to the right right to to call call for variations of the for margins the variations as the of the margins as market for deliveries may for like like deliveries may warrant, warrant, which margins shall be kept good. shall be margins kept good. This contract contract is is made in in view view of, of, and in to, the By-Laws in all all respects the By-Laws respects subject subject to, and Rules and Regulations established by the York Cocoa Exchange, Inc., established the New Regulations by Exchange, Inc.,

and all differences and/or all differences disputes that that may may arise arise hereunder hereunder shall be settled settled shall be and/or disputes arbitration by arbitration pursuant such By-Laws, Rules, and Regulations. to by pursuant By-Laws, Rules, Regulations. For and in in consideration of paid, of one dollar dollar to to the the undersigned, in hand paid, undersigned, in

receipt whereof receipt with

is hereby acknowledged, the is undersigned accepts this contract contract hereby acknowledged, the undersigned accepts this all its all its obligations and conditions. conditions. obligations ........................................ (Seller) (Seller)

........•............................... (Buyer) (Buyer) calls Characteristics the Futures Futures Contract. the contract Contract. As stated, contract calls Characteristics of stated, the of the delivery of of standard and approved exchange grades. The by-laws for for the the delivery by-laws approved exchange grades. of the the exchange exchange provide provide that that one particular particular grade of shall be designated designated grade shall in the in the contract, contract, but but they they further further provide provide that grades may that other other specific may specific grades be delivered at in be delivered at the the option option of of the the seller. in the standard seller. The grade the named grade contract the contract a basis basis contract. basis contract is is the the basis basis grade, contract is is a contract. A basis grade, and the contract means that, that, although specific grade of the commodity contract one of the is commodity is although specific grade in specified in the contract, nevertheless other specific grades are tenderare tenderthe other nevertheless contract, specified specific grades at his his option, subject to price differentials able by the able by the seller, differentials determined to price seller, at option, subject price of the contract grade as the basis. basis. 44 On a physical physical market from the of the the price contract grade as the contract, however, only the specific grade sold can be delivered. the delivered. sold contract, however, only specific grade characteristic of of the the exchange exchange contract delivery may may A second second characteristic is that that delivery contract is be made between between the the first first and last last trading trading days the delivery be of the month, delivery month, days of and the the time time for delivery within within these these limits seller's option. limits is is at at the the seller's for delivery option. The contract unit (so many pounds, tons, or bushels) is always contract unit (so many pounds, tons, or bushels) is always fixed, fixed, and of the the margin margin requirement requirement is is an inherent inherent provision provision of the futures contract futures contract the is designed designed to to protect protect both parties parties from default. parties to default. Both parties to the the and is contract be of the exchange, although they may be acting of be must members the be contract exchange, although they may acting is concerned far for others. In so far as the exchange is as brokers brokers or as for In so the others. or agents as exchange agents all obligaeffect guarantee they are regarded regarded solely principals who in effect as principals obligasolely as guarantee all they are tions of their customer principal, for whom they act. Finally, act. tions of their customer principal, for Finally, delivery they delivery in accordance with with the the exchange by means of of is accomplished contract is in accordance accomplished by exchange contract in to the warehouse receipts receipts evidencing evidencing the the seller's title to the commodity in the seller's title warehouse commodity certificate of of quality by an official that official certificate amount named and accompanied quality that accompanied by it the grades grades recognized recognized by the exchange as acceptable the as for of the it is is one one of by exchange acceptable for a delivery. It should be recalled, however, that only a very small portion that small be It should recalled, however, only very portion delivery. of exchange are consummated by by delivery. contracts are of delivery. exchange contracts * is cotton· 4 Commodity Commodity exchange contracts are are usually usually basis contracts. An exception cottonbasis contracts. exception is exchange contracts to a basis second have, in addition to a basis contract, a second seed and silver. addition in oil and silver. Some exchanges contract, seed oil have, exchanges contract which calls calls for for delivery delivery of a specific specific grade, grade constitutes constitutes aa of a that grade contract which grade, where that of the the annual annual production. production. large majority majority of large

136

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

For each each of of these these contract characteristics there there contract characteristics For

is is a definite definite reason in detail in other chapfor its inclusion. discussed in detail in inclusion. Some of of them are are discussed for its chapit will will be helpful helpful to to state state first the reasons the existence of ters. Here it reasons for for the existence of first the ters. basis contracts. basis contracts. uniReasons for for aa Basis Basis Contract. any commodity were so If any so nearly Contract. If Reasons commodity were nearly uniquality that that every every single single unit unit of indistinguishable from of it it was indistinguishable in quality form in any other, there would be no necessity necessity for basis contracts, for basis other, there contracts, but most comany modities which are traded in in on an exchange many standardized standardized are traded modities exchange have many grades are well recognized in the trade and each of may are in of which well the which trade may be recognized grades farclassified into several several sub-grades. Onc of the most important and farclassified into of the One sub-grades. important reaching problems of of the the exchange of is the the determination of reaching economic problems exchange is the of such such grades shall allowed for tender against the number of which shall for be allowed against grades exchange contracts one shall shall be be the the basis basis grade. contracts and which one exchange grade. able to the various grades, tenderable basis contract A basis contract is is designed designed (1) (1) to make the various grades, tender commerthe against exchange contracts, truly representative of the normal commer· of contracts, truly representative against exchange cial for the cial demand and supply the commodity commodity on the the physical physical markets and supply for in in its its related industry, (2) to provide provide producers, producers, merchants, merchants, and manurelated industry, (2) to facturers with ample ample facilities facilities in the way of satisfactory facturers with in the of trading volume way satisfactory trading to ordinary commercial and for purposes, to both for for ordinary for hedging (3) hedging purposes, and (3) assure a sufficiently large percentage percentage of for tender tender or the commodity assure a of the sufficiently large commodity for delivery against exchange contracts to prevent squeezes and corners. to contracts corners. delivery against exchange prevent squeezes all the however, cannot permit permit dealing the various various The exchanges, in all exchanges, however, dealing in grades of of the the commodity commodity without without introducing introducing needless needless complication. grades complication. On the other other hand, hand, great great discrimination discrimination must be exercised the grades grades so that that the the exercised so are are commercially representative of the commodity and so selected to selected as to so as commercially representative of the commodity guard against the possibility possibility of the use exchange as of the of the use of the exchange as a dumping against the guard dumping not ground for grades not readily salable elsewhere. Commercial demand and for salable elsewhere. readily grades ground supply the foundation on which the the exchanges in deterdeterthus form the exchanges work in supply thus mining the the various various qualities qualities or or grades grades of be of the the commodity commodity which may mining may be in fulfillment fulfillment of a futures tendered in futures contract. such grades are adopted of a contract. Only are Only grades adopted as are are representative representative of of qualities qualities in in substantial substantial use use in the industry, industry, but but aa in the as substantial tenderable grades grades is is necessary to discourage corners of tenderable to substantial number of corners necessary discourage and squeezes. squeezes. are vitally The foregoing vitally important to producers, producers, dealers, characteristics are dealers, foregoing characteristics important to and manufacturers. manufacturers. There is is another group, however, whose activities are are activities however, group, highly important to the successful operation of the exchange, namely, to successful the of the highly important operation exchange, namely, the is not a specialist in grades the speculators. conis conspeculator is speculators. The speculator grades and is specialist cerned primarily primarily with simplicity. simplicity. His need is for a contract contract that that will is for will to or no attention details require attention to details or technicalities, but is clear and definite is clear definite technicalities, require in in its its provisions provisions and unvarying unvarying in in the the conditions conditions and obligations obligations which it it imposes. imposes. Considerations in Establishing Establishing Grades. ideal characteristics Considerations in Grades. "The ideal of characteristics of

or Exchange The Futures Futures or Exchange Contract Contract

a a contract contract grade grade are, are,

137 137

first, that that it it be be as possible, that that is, is, conas narrow as as possible, contain grain tain of as as nearly nearly equal equal quality it as possible, that it and, second, second, that grain of quality as possible, and, to a in contain enough grain to a corner in the contract grade normally make corner the contract enough grain grade normally 5 impossible."5 impossible/' contract grade, as the basis grade, The contract the basis also as is the the one one named grade, known also grade, is in it is in the the futures is usually usually representative representative of that grade grade of the futures contract; of that of the contract; it for which commodity for there is the greatest commercial use or that grade there is the use or that commodity greatest grade far the represents by by far the greater greater portion portion of production or which represents of the the annual production or are other inferior crop. There are other grades, inferior and some superior in quality some in grades, crop. superior quality to the the basis basis or contract grade. problem difficult or contract difficult of of determination and to grade. A problem of great great commercial importance faces the the exchange the in establishing of exchange in importance faces establishing the of grades shall be deliverable. There are several reasons which are number of be several reasons shall deliverable. grades for this. this. for If tenderable One aspect of the the question question has has already already been mentioned. 1£ aspect of a grades too small a proportion of the merchantable commodity, too small of the embrace commodity, grades proportion this is an open open invitation to artificial artificial price price manipulation. The result of result of invitation to this is manipulation. such be to to encourage thus such a a situation situation would be corners, thus encourage squeezes illegal corners, squeezes and illegal a impairing the usefulness of the exchange as a medium for hedging. The of the for the as usefulness exchange hedging. impairing hedger, in selling selling or purchasing relies relics on an orderly price relationrelationor purchasing orderly price hedger, who in his to undo his find it only to it disturbed by by a squeeze, ship, to find squeeze, when he comes to ship, only 66 he seeks may find the protection seeks fully or partly dissipated. hedge, find the or partly dissipated. protection fully hedge, may hand, the the tenderable tenderable grades not be too too numerous. other hand, the other On the grades must not has the the option option of tendering any by the of tendering deliverable by the The seller seller has any grade grade made deliverable a us say, eleven current by-laws of of the the exchange. exchange. If, If, let let us eleven grades of a commodof current by-laws say, grades 1 1 is in quality, ity are deliverable and Grade No. II the poorest poorest in grade is the this grade quality, this ity are deliverable in ordinary may be be the the one one which it hardest to it is to market in is hardest ordinary commercial may of the desirable grades channels. result is that the the less less desirable is that the commodity channels. The result commodity grades of may tend to accumulate for delivery on exchange contracts. The prices prices of of contracts. for accumulate to delivery exchange may tend all grades grades would then then be be adversely adversely affected, for the the buyer buyer would be all affected, for if he tendered apprehensive that he might tendered the objectionable grade, if the be that he objectionable grade, might apprehensive be reflected in and this chose to accept delivery, this apprehension might reflected in the chose to accept delivery, apprehension might price of the exchange contract. Evidently too too wide a range tenderable of tenderable contract. Evidently range of price of the exchange for the grades will have the effect of accumulating, for delivery on the exchange, the effect of have will delivery accumulating, exchange, grades for least those grades for there is the least commercial demand for delivery the there is for which those grades delivery on the physical physical market. in the contracts in on contracts Grades Deliverable on Commodity Exchanges. Yet, Yet, although the Grades Deliverable although the Commodity Exchanges. become undesirable to exchange does not wish to a dumping ground for undesirable wish not dumping ground exchange does for futures trading in grades, the primary object in establishing grades trading is is not the grades for establishing primary object grades, first,

5 L. D. H. Weld, Marketing of of Farm Products Products (New D. H. 5L. Weld, The Marketing (New York: The Macmillan 329. Company, 1924) , p. 329. Company, 1924) p. artificial price 6 For For aa full the problems problems arising movements, see e see of the discussion of full discussion arising from artificial price movements, Chapters XIII XIII and XIV. Chapters ,

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

138

necessarily to to insure delivery of a high high quality the commodity. Millers, of the insure delivery of a commodity. Millers, necessarily quality of or others use the the futures markets do not and should not not spinners, futures markets others who use spinners, or do so ordinarily in in order to obtain obtain specific cotton, or or order to of wheat, so ordinarily do wheat, cotton, specific grades grades of some other commodity which they they need. need. In In fact, the primary function of the function of other commodity fact, primary the exchange exchange is is insurance against market market and credit risks, not the replacecredit risks, the replaceinsurance against the the delivery delivery function function of of the the physical market. Consequently, market. ment of of the only Consequently, only physical less a very very small proportion of of the the total total sales usually less the exchange, a small proportion sales on the exchange, usually in than one per per cent, cent, are ever delivered. delivered. They "offset" and settled settled in are ever than are "offset" They are cash just just as as soon as the the insured risk is necessary or the specuor the insured risk is no longer cash soon as longer necessary specuor loss. lator decides to establish his profit profit or tenderable loss. Grades are are made tenderable decides to establish his lator permit deliveries deliveries in in the the exceptional buyer cases where the the buyer primarily to to permit primarily exceptional cases the seller to deliver to connect futures futures wants also to deliver and also or the seller desires desires to wants them or markets effectively with with the the cash physical markets; markets; that is, since that is, since cash or markets more effectively or physical in the the cash there exchange grades are recognized in are also or physical also recognized cash or market, there exchange grades physical market, futures must be be aa normal price price parity parity between between the the cash market and the the futures cash market market so interests may use both and so that hedging hedging that commercial interests so that so that may use all times effective at at all two markets markets may may be be possible possible and effective times as between the as the two between price and credit insurance. insurance. credit price in the The two sides this question question are are well well summarized in Report of sides of of this the Report of the Grain Trade: the Federal Federal Trade Commission on the the A system narrowly specified specified deliverable deliverable grades facilitates manipulation of narrowly grades facilitates system of manipulation and corners. corners. On the the other hand, if if the broad, millers millers other hand, the deliverable deliverable grades are broad, grades are be will not others will will be be less willing to to take take delivery, because they will not able less willing and others delivery, they to tell tell what sort they are going to get by this means. Contract grades to this sort of of grain are to grain they going grades get by ought, if possible, possible, to to be be such such that that the the miller miller will be ready, ready, if if necessary, necessary, to to take will be take ought, if of Although the of future trading may greater under a system delivery. the future be a volume greater trading may system delivery. Although of broad broad deliverable deliverable grades, because of proporof less less likelihood likelihood of of a a corner, the proporof corner, the grades, because tion will be be less thus the the connection the cash less and thus connection between the tion of of deliveries deliveries will cash market 7 and the the futures may somewhat artificial.7 become market artificial. futures may

the foregoing it will will be be apparent apparent why why the From the the number of of deliverable deliverable foregoing it to the different exchanges varies according to the requirements grades varies on different of exchanges according grades requirements of each trade. trade. each The number of grades tenderable tenderable against is of grades contract is against an exchange exchange contract variously established by the by-laws of each exchange, with the single established the of each by variously by-laws exchange, with the single of in in grades are prescribed by federal federal statute. exception of cotton, which are statute. cotton, grades prescribed by exception in Standards for in the grain trade have established by trade been for grading the have established Standards federal grading grain by federal but the grades deliverable on grain exchanges are selected by statute, deliverable but the are selected by statute, grain exchanges grades the exchanges from those those established established by by federal federal law-grades the exchanges for which which lawgrades for natural the particular particular exchange is a natural hedging market. a is market. the exchange hedging States Cotton for the The United United States Cotton Futures Futures Act provides provides for the classification classification Vol. V, V, p. p. 199. 199.

7 T Vol.

The Futures Futures or or Exchange Exchange Contract Contract

139 139

of cotton. and inspection inspection of cotton. On the the New York Cotton Exchange Exchange seventeen seventeen grades are deliverable. Middling is the basis grade, and Strict Good are deliverable. the is basis Strict grades Middling grade, and Middling, Good Middling, Strict Middling command premiums Strict over Middling, Middling, Middling premiums over the price price for the contract contract grade; Middling, Low Middling, the for the Strict Low Middling, grade; Strict Middling, Good Middling, Tinged, Strict Middling Tinged, and Middling Tinged Strict Middling, Tinged, Middling Tinged, Middling Tinged are deliverable deliverable at at discounts. discounts. are On other markets, such such as the New York Coffee Exchange, as the other markets, Coffee and Sugar Sugar Exchange, the New York Cocoa Exchange, Exchange, and the the New York Produce Produce Exchange, the Exchange, the grades are are established the exchanges in accordance the tenderable tenderable grades established by the with accordance wIth by exchanges in the three following principles: (1) preservation of price parity or unithe three following principles: (1) preservation of price parity or uniformity of grades grades between the the physical physical and futures markets; (2) insurance futures markets; formity of (2) insurance against manipulative corners squeezes; (3) assurance that the grades and corners that the assurance against manipulative grades squeezes; (3) a in delivered shall be of a quality merchantable and useful in the trade. shall be of useful the trade. merchantable delivered quality Differentials. The premium premium or or discount grade deliverable discount for for each grade deliverable Differentials. is in contract cents on an exchange contract is in cents and fractions or decimals of a cent cent. fractions or of a decimals exchange per bushel or per pound. These price spreads the premIUm or or bushel between the per pound. price spreads per premium or discount grades the contract contract grade are known as as differentials discount differentials and grade are grades and the fixed by the by-laws are usually usually determined and fixed by the of each exchange. of are by-laws exchange. where On those both those exchanges grading and inspection to are subject exchanges grading inspection are subject to government regulation, however, how'ever, the the method of of establishing differentials government regulation, establishing differentials law. The may also be prescribed by law. United States Cotton Futures Act be also States Act Futures may prescribed by method for specifically provides a for the determination of differentials the determination of differentials specifically provides basis grade grade and the the various various grades between the the basis between deliverable on cotton cotton grades deliverable If a futures contracts. a market for for spot lots exists on the exchange, is lots contracts. If exists futures the as is spot exchange, as in and sometimes the case in cotton grains, the differentials prevailing in the case cotton the sometimes differentials prevailing in grains, on sixth markets the the various spot markets the sixth business day prior to to the the delivery delivery business the various day prior spot date govern govern the the differentials grades deliverable differentials on grades a futures deliverable on a date futures contract. contract. There is is no spot spot market on the the New York Cotton Exchange. Exchange. Accordingly, Accordingly, the federal federal law requires requires that that differentials differentials on deliverable be the deliverable grades are to to be grades are of governed by average of prices prevailing in ten selected spot or physian in ten selected or average prices prevailing governed by spot physiin the cal markets; thus, prevailing prevailing differentials markets are are the ten differentials in ten spot cal markets; thus, spot markets transmitted by telegraph telegraph to to the the New York Cotton Exchange, Exchange, where where the transmitted by the average differentials are posted on the bulletin board board of of are calculated calculated and posted the bulletin average differentials of the the exchange, with aa notation notation of the delivery to which they the delivery day day to exchange, with they apply. apply. In the contract Unit of Trading. determining the contract unit, the primary the Unit of unit, determining Trading. primary object object exchange is to establish establish the the one which will will be the the most serviceable of is to serviceable the exchange of the to producers, producers, dealers, dealers, and converters converters-that aa unit unit convenient for that is, to convenient for is, the hedging. the other hand, the exchange must guard against making its other On the hand, guard against making its exchange hedging. facilities available for irresponsible speculation. If the unit is so small for If available the unit is so small facilities irresponsible speculation. little capital are tempted outsiders with little that tempted to to trade, trade, the the that uninformed outsiders capital are to exchange doors will open to ill-advised speculation. be thrown ill-advised will doors The open speculation. exchange trading unit, unit, accordingly, accordingly, is is fixed fixed with these these two considerations in view. considerations in view. trading

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

140

in both wheat Chicago Board of the official of Trade the official trading the Chicago On the trading unit in and corn bushels. Trades may be made in contracts for in contracts for 1,000 be bushels. is 5,000 corn is 1,000 5,000 may bushels. bushels. the New futures contracts the New York Cotton Exchange Exchange and the contracts on the The futures in Orleans Exchange call call for for the the delivery of "50,000 pounds in about of Orleans Cotton Exchange "50,000 pounds delivery futures 100 square bales of cotton of growth of the United States." The futures bales of cotton of of the States/' 100 square growth for the contracts the New York Coffee Coffee and Sugar Exchange call the call for contracts on the Sugar Exchange delivery of 32,500 pounds of coffee 112,000 pounds of sugar, respecof of coffee and of 32,500 112,000 sugar, respecdelivery pounds pounds tively. The rubber contract of the the Commodity provides a contract of Commodity Exchange tively. Exchange provides trading unit of of 22,400 pounds; the the New York Cocoa Exchange, Exchange, 30,000 30,000 22,400 pounds; trading unit pounds; the Produce Exchange, 60,000 pounds of cottonseed of the New York 60,000 Exchange, pounds pounds; 40,000 pounds pounds of hides. oil; and the of hides. the Commodity oil; Commodity Exchange Exchange 40,000 Price Decimals. Decimals. Here, Here, as as in other fields, each instrument must be in other Price fields, adapted purpose. For the the delicate the chemist, delicate and exact exact work of of the to its its purpose. chemist, adapted to sensitiveness are scales the greatest precision and sensitiveness are necessary. Futures of the scales of necessary. Futures greatest precision markets are the the centers and world-wide trading, and that of country-wide world-wide that centers of markets are trading, country-wide all called is a composite of intangible personality called the "market" is all types of the of intangible personality composite types of opinion of all degrees of financial resources. resources. Banker, of financial all degrees manufacturer, Banker, manufacturer, opinion and of trader whether producer, merchant, broker, trader-whether large or small, nervous or small, merchant, broker, large producer, resolute-form the market which reflects reflects their judgment. It is is form the their composite resolute composite judgment. It in sensitive in the highest degree to every development which bears upon the to sensitive bears upon every development highest degree the bargaining bargaining power power of merchants. Mr. W. P. of merchants. P. Hamilton comments that that the "the represents, in in a crystallized crystallized form, the aggregate of all all of stock market represents, "the stock form, the aggregate about its business." 88 Similarly, the commodity the its own business." America knows about Similarly, commodity all that exchanges represents represents the the ";':::1 (gat (' of in normal of all that America-or, America or, in jitr.'KjjJilr exchanges in which trading times, the world world-knows the commodity commodity in trading is is carried knows about the carried times, the on. on. Price variations between bids bids and offers to offers must be small small enough Price variations enough to market. These minimum variations are reflect accurately this sensitive sensitive market. variations are reflect accurately this established by by the the by-laws by-laws of Prices of and corn of each exchange. Prices of wheat corn established exchange. may fluctuate in of aa cent per bushel. Price fluctuations in eighths cent per bushel. Price fluctuations of of 1/100 1/100 eighths of may fluctuate the and of a cent per pound record the shifting buying and. selling pressure record of a cent per pound for shifting buying selling pressure for coffee, cotton, hides, pepper, pepper, rubber, zinc, and rubber, copper, cotton, sugar, cocoa, hides, coffee, zinc, sugar, cocoa, copper, cottonseed oil. oil. cottonseed contract usually The Delivery Delivery Months. The futures futures contract permits delivery usually permits delivery during anyone of twelve twelve successive successive calendar calendar months. months. In some markets markets the the during any one of limit is is eighteen eighteen months, months, or or even more. more. The active may active trading limit months trading may in the be few, few, however, however, as as in the grain grain trade, trade, where active trading is active trading is confined be confined largely to the May, May, July, July, September, to the futures and as as in in September, and December futures largely are normally the others cotton trade, the cotton active and others trade, where some months are normally active inactive. inactive. 8*W. W. P. P. Hamilton, Hamilton. The Stock Stock Market Barometer (New Harper & & Brothers, Brothers, (New York: Harper 1922) p. 182. 182. 1922) • p. ,

The Futures Futures or or Exchange Exchange Contract Contract

141 141

is explained as The choice choice of the four referred to primarily four months referred to is of the follows, primarily explained as follows. with reference reference to to wheat. wheat. July July is is the the month when the the new winter winter wheat begins with begins to the market. market. The elevator in the the Southwest elevator man who is is buying to come on the buying in before the the end of of May May-perhaps contracting ahead with the farmer-can protect the farmer can protect before perhaps contracting himself by by hedging hedging for for July delivery. Much of his wheat will will go of his to market in in himself go to July delivery. that month. The July July price price is reflect the of winter the crop is supposed to the size that size of of the crop of supposed to reflect wheat. September. the other hand, reflects other hand, reflects spring conditions and wheat. September, on the spring wheat conditions represents the the initial initial movement of of the the spring hedging of of spring wheat crop. crop. The hedging represents spring purchases begins begins to to be be important important just just before the middle of before the of August. August. spring wheat purchases represents the the winter winter storage the winter and spring of both the December represents storage of spring wheat

crops. Navigation is only the the more costly rail facilities are available available facilities are is closed, closed, and only costly rail crops. Navigation It in for shipment to the seaboard. It is generally considered that wheat in store in is that for shipment to the seaboard. store in generally is there till time for December will will remain there till spring. May is the clean-up time for the old the old the spring. May clean-up is an inclination to ship crop. Navigation opens opens and there there is inclination to ship out accumulations crop. Navigation is also also influenced influenced by to way for for the next crop. crop. But May May is of the the the next the volume of to make way by the crop.99 new crop.

Thus, by reason reason of of causes causes affecting affecting the the growth. harvesting. shipping. Thus, by growth, harvesting, shipping, warehousing of of the the commodity, trading in grain is concenfutures is concenand warehousing commodity, trading grain futures in these trated these four delivery delivery months. trated in as a rule, On the the New York Cotton Exchange rule, trading, trading, is is concentrated Exchange as in six months, though though two other other months are are occasionally in active. The six months, occasionally active. and November February, April, June, futures are relatively inactive. The futures are inactive. February, April, June, relatively reason for this less apparent. authority suggests that "the peculiariis less this is reason for "the peculiarisuggests that apparent. One authority of the movement of of cotton cotton in the the days of sailing vessels had something ties of vessels of the ties days sailing something to do do with of trading trading in in certain to the the exclusion certain months to with the the custom of exclusion of of to 10 10 others. others. that all In other other markets markets it it will will be found that months may may be be all In if is not equally active, especially if the commodity is not a seasonal or crop the seasonal or active, commodity especially crop equally commodity. commodity. Delivery at Seller's Option. has the the entire seller has at Seller's entire trading Option. The seller trading month Delivery that in his his contract contract during during which to his to make delivery is specified that is delivery on his specified in contract. reason for for this this is that commodities brought brought to to the the market market is that contract. The reason by steamship railway may may be delayed delayed by by circumstances the circumstances beyond beyond the by steamship and railway at seller's control. Permitting time during the month milimiliseller's control. delivery at any any time Permitting delivery during the tates against penalizing a seller by reason of shortage in the deliverable a of in seller reason the deliverable tates by shortage against penalizing is made. it is is effected stocks of the delivery is by the effected by the commodity. the stocks of made, it commodity. When delivery transfer of a warehouse warehouse receipt receipt from seller to buyer, buyer, accompanied by seller to of a transfer accompanied by an exchange certificate of of quality. exchange certificate quality. Warehouse Receipts. Receipts. At the the beginning beginning of present chapter of the present it was chapter it mentioned that the practice practice of grading and issuing warehouse receipts of grading that the mentioned issuing receipts in the at an early been established established in the grain trade at use of of date. The use had been early date. grain trade 9

Vol. V, Report of of the Federal Trade Commission on the V. p. p. 62. the Grain Trade, the Federal 62. Trade, Vol. Report H. York: D. D. Appleton Appleton Se the Cotton Market (New Cotton and the & H. Hubbard, Hubbard, Cotton (New York:

10 W. ioW.

Company, 1923) p. 240. 240. 1923) , p. Company, ,

142

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

warrants, or warehouse warehouse receipts, receipts, was was known to the Phoenicians the to the Phoenicians and the warrants, or Italian traders the Mediterranean. time that that the same time of the Mediterranean. At about the Italian traders of in grading the use of warehouse receipts in the grain trade became the warehouse trade use of and the grain grading receipts current in United States, warrants representing representing iron into iron in in store store came into in the the United current States, warrants use in in Great Britain. Britain. use negotiable warehouse warehouse receipt, receipt, which passes passes by negotiation from The negotiable by negotiation of is to be made, is evidence of the seller's title seller to buyer when delivery be is evidence the seller to buyer seller's title made, delivery is to Its transfer transfer passes passes title. title. On the to the cotton exchanges, to the grain the goods. goods. Its grain and cotton exchanges, and grading are carried on under government carried inspection are government supervision, grading supervision, inspection IV. For other as in detail detail in in Chapter other commodities, as has has been explained commodities, Chapter IV. explained in and weighing are carried on by a staff of in inspection, grading, carried a staff are of experts weighing by inspection, grading, experts in the of or licensed by the exchange. the employ licensed the of or by exchange. employ of a a commodity warehouses in in which lots lots of a to be delivered The warehouses delivered on a commodity to futures contract contract are are "official" warehouses; that that is, they are are stored are are stored "official" warehouses; futures is, they licensed by by the the exchange. By setting the machinery approved exchange. By machinery setting up up the approved and licensed for grading grading and by by licensing licensing warehouses warehouses in in which the the commodity for commodity may may all within the exchange exchange does does all within its to insure that each lot be stored, its power to that insure lot stored, the power contract shall be certified as delivered on an exchange contract shall certified as a and a known delivered exchange definite tenderable tenderable quality quality and verified verified as to its weight or measure. as to its weight definite or measure. and weight certificates Warehouse receipts, receipts, accompanied by quality certificates accompanied by quality weight the authority of the the exchange, exchange, are issued under the in full issued are accepted full conconauthority of accepted in the commodity they represent exists and is of the grade fidence that the which exists fidence that is of the commodity they represent grade measure specified. and weight or measure weight or specified. of title The warehouse warehouse receipt receipt is the document of title to is the to the the commodity. commodity. In the grain grain trade trade it not represent represent any specific lot; it represents defiit does does not the it a defilot; any specific represents a nite quantity of any lot of a given grade or of a of tenderable lot of a or a of of number nite of tenderable any given grade quantity grades. other commodities, however, the represents the warehouse receipt commodities, however, grades. In other receipt represents identified lots, identified by serial number, chop, brand, or definite serial definite and specific or lots, number, by specific chop, brand, forth other identifying set forth the face of the receipt. marks set on the of other face the identifying receipt. a promissory Other negotiable negotiable instruments, instruments, such as promissory note note or of as a or a a bill bill of to exchange, represent a promise to pay money; the warehouse receipt repthe warehouse exchange, represent pay money; promise receipt represents in store, store, subject to delivery note or resents commodities in or subject to delivery on demand. The note bill of exchange may may be endorsed endorsed and passed passed from hand to to hand; bill of exchange the hand; the negotiable warehouse warehouse receipt receipt is transfer by by endorselikewise capable is likewise of transfer endorsenegotiable capable of ment and delivery. delivery. The transfer transfer of of the the negotiable negotiable warehouse warehouse receipt receipt and of accomplishes delivery passage of title just as effectively as physical title as as passage accomplishes delivery just effectively physical of the goods. delivery of the goods. delivery

CHAPTER ti CHAPTER

VIII ~

Organization Organization and Operation Operation of a Commodity Commodity Exchange Exchange of a

fairs and Ancient Markets Markets and Modern Exchanges. Exchanges. Without the the fairs Ancient in markets which spread over England and the European continent in the the markets over the England spread European

Middle Ages, Ages, internal internal trade trade would have remained entirely local. Comentirely local. munications depended depended upon upon travel, travel, which was difficult, difficult, dangerous, dangerous, and slow. in the the products products of distant places awaited the of slow. Commerce in of distant the growth growth of places places where buyer buyer and seller meet. Once established, the market places seller could meet. established, the medieval fairs fairs spread with rapidity, dotting England France and other with and France other rapidity, dotting England spread European countries countries with with busy busy centers centers which afforded afforded the the chief chief means of of European carrying on internal internal commerce and offered practically the the sole of offered practically sole means of carrying trade in products products of lands. lands. of foreign trade in foreign the thirteenth thirteenth century the commodity Between the the fair fair of of the century and the commodity exchange exchange in of today today there there appears to be be little little in common. Yet Yet both were born of the of of the appears to same economic necessity. necessity. Modern liners liners cross Atlantic in in less less time cross the the Atlantic time than medieval travelers travelers required required to to journey journey one hundred miles. than miles. Modern communications by by cable, cable, radio, radio, and trans-oceanic trans-oceanic telephone communications enable the the telephone enable Manchester spinner to reach his markets quickly than the itinerant reach markets more than to his the itinerant quickly spinner merchant could could travel travel from house house to to house. house. Nevertheless, Nevertheless, throughout all throughout all the economic development of the centuries the need of central markets of the centuries the of central markets the development has steadily increased-their nature changing, their scope increased their nature has remained and steadily changing, their scope until today and functions widening-until today "the stock produce exchanges stock and produce functions widening exchanges are nerve centers the industrial body, and are themselves as as of the industrial body, centers of in themselves the nerve are in are the x necessary institutions the factory the bank." bank." 1 as the institutions as factory and the necessary briefly define define a commodity exchange as an organized One can briefly market, commodity exchange as organized market, in "market" is fully if is comprised comprised in the the word is fully comprehended. all that if all that is comprehended. The exchange provides provides an active active market place place where its its members actually actually exchange meet to trade in its standard standard or basis basis contract under established in its established rules to trade rules and meet sellers from every regulations buyers and sellers globe of the the globe every quarter quarter of regulations and where buyers can transact business business through through member brokers or commission agents can transact agents who i 1

H. C. C. Emery, Emery, Speculation Speculation on the the Stock Stock and Produce Exchanges Exchanges of the United United H. of the (New York: University Press, 1896), p. 12. Columbia 12. York: , Press, 1896) p. University (New

States States

143 143

144 144

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

represent them. them. represent

The exchange, exchange, as Ages, estabfair of the Middle Ages, did the the fair estabas did of the its trading room or floor floor on its lishes rules to to govern all transactions all transactions made lishes rules trading govern in the and endeavors endeavors to to secure enforce uniformity uniformity in the customs of secure and enforce of the the trade. trade. , Cash Markets and Futures Futures Markets. Markets. A sale physical or the sale on the the physical Cash Markets or the of the cash market contemplates contemplates delivery delivery of the commodity. The physical cash commodity. physical market trades trades only in contracts contracts for specific grades. grades. Comfor delivery of specific only in delivery of in contracts or futures markets trade trade in which allow modity exchanges exchanges or futures markets contracts which allow modity under a basis contract. Some of the various a basis delivery of various approved grades of contract. of the delivery approved grades for trading in physical trading in commodity exchanges have facilities facilities for deliveries commodity exchanges have physical deliveries of ready for immediate delivery. exchanges for of merchandise "on spot," Most spot/ ready exchanges delivery. not, however, however, for for that that is not aa proper proper exchange but rather rather is not do not, function, but exchange function, aa function function of the physical physical market. market. In In the trading in of the the grain in "spots" trades, trading grain trades, "spots" of in permitted on the the exchanges. Samples of grain contained in cars is is permitted cars which grain exchanges. Samples have arrived arrived at at central central markets markets are are displayed on tables, and purchases have tables, displayed purchases are made on the the basis basis of and sales sales are of samples carload samples representing representing each carload lot. On the the other other hand, hand, spot spot markets markets exist and apart lot. exist separately separately apart from in the cotton trade. However, though the largest organized exchange the in cotton trade. the However, though largest organized exchange some exchanges may provide provide facilities trading, the the primary primary purpurfor spot facilities for exchanges may spot trading, a for future is to serve market is to serve as a for future delivery pose of the commodity exchange of as the commodity exchange delivery pose for delivery under standardized futures contracts. contracts. Their quotations in are for standardized futures under delivery in quotations are are made, specific future months; their sales are from sample, sample, but but by demade, not from by despecific future months; their sales scription on the basis of standardized grades. basis the standardized of grades. scription This chapter is concerned with the the operations of such futures or comfutures or concerned with This operations of chapter is modity exchanges. their organization, their purposes, shall examine their organization, their modity exchanges. We shall purposes, their aims, aims, the in which they they regulate regulate trading trading among members, the manner in their among members, and how that trading is conducted upon upon their or "rings" their "floors" is conducted "floors" or or "pits." that trading "rings" or "pits." Organization of Exchanges. older commodity exchanges The older were of Exchanges. commodity exchanges were Organization in the in chartered by special acts (of the legislature in the various states in which various states acts the chartered by legislature special (of of any the exchanges exchanges are are located) not because because of peculiarity of of comthe any inherent peculiarity located) not modity exchanges, exchanges, but but because because they they came into being before before the into being the adoption adoption modity of the corporation laws which the later exchanges under the later laws the membership of exchanges membership corporation have been organized. organized. The Chicago Chicago Board of of Trade, have been Trade, which commenced in 1848 as operations in a spot in 1859, as a its charter received its charter in is 1859, is spot market and received operations the oldest of the the commodity commodity (futures) exchanges, although the St. Louis St. the oldest of the Louis (futures) exchanges, although Merchants' Exchange was organized organized before before the of Trade developed the Board of Merchants' Exchange developed in futures in 1865. Produce Exchange, at first futures trading at 1865. New York first only The Exchange, trading only in 1862. The York Cotton Exchange a spot market, was incorporated in New a was 1862. spot market, Exchange incorporated chartered as year. organized in was organized in 1870 the following as a a corporation 1870 and chartered corporation the following year. Various as those for trading in New York York-such Various exchanges, exchanges, mostly mostly located located in such as those for trading in rubber, in cocoa, silk, silk, hides, hides, and metals metals-were in the the decade were organized decade rubber, cocoa, organized in following the the First First World War. following 1

Organization and Operation Organization and Operation

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The Commodity consolidation and merger of the the Inc., was a consolidation Commodity Exchange, Exchange, Inc., merger of Rubber Exchange Exchange of York, the the National National Silk Exchange, the the National National of New York, Silk Exchange, Metal Exchange, and the the New York Hide Exchange. merger became Metal Exchange, Exchange. The merger in 1933. the date date of the merger the Rubber Exchange a effective in of the 1933. At the effective merger the Exchange had a futures market for for rubber; rubber; the the National National Silk had a futures Silk Exchange a futures futures Exchange market for for raw silk; silk; the the National National Metal Exchange Exchange had aa futures futures market market for copper, and silver; the New York Hide Exchange for tin, silver; and the tin, copper, Exchange had aa market for for hides. hides. All All these these futures futures markets were were absorbed into futures market futures absorbed into the Commodity Commodity Exchange, Exchange, Inc., Inc., and subsequently that exchange estabthat the subsequently exchange estabzinc. Trading lished markets for for trading trading in lead was lead and zinc. futures markets in silver lished futures silver was Trading in in federal suspended in 1934, the federal government nationalized silver and when the nationalized silver 1934, government suspended tax on sales "transaction" tax sales of imposed prohibitive "transaction" in all all of silver. silver. Trading Trading in imposed aa prohibitive of this other commodities of this exchange the Second other commodities exchange was suspended suspended during during the zinc markets rubber, hide, hide, copper, copper, and zinc markets have have since since been World War. The rubber, in lead tin and has resumed, but trading in tin lead has not been as yet. resumed as but resumed, yet. trading States arc are non-profit All exchanges in the the United States non-profit organizations. They All organizations. They exchanges in facilities merely establish the machinery and facilities through which their memthe their establish machinery through merely operate for for their their own profit, profit, but they they themselves not transact bers may may operate themselves do not transact bers for profit. business for profit. business list of of commodities in in which futures of the the list futures trading is A casual casual survey survey of trading is that in conducted will will suggest that operating and practices in the varivarimethods the conducted suggest operating practices in every ous markets markets cannot cannot be be identical Wheat, corn, identical in ous corn, rye, every respect. rye, and respect. Wheat, oats are traded in in for for future Cotton, coffee, sugar, cocoa, rubber, future delivery. are traded oats Cotton, coffee, rubber, cocoa, delivery. sugar, cottonseed oil, hides, hides, and various various metals metals also also have organized futures cottonseed oil, organized futures of these in the the characteristics characteristics of these two groups markets. Differences of comDifferences in markets. groups of modities, however, necessarily necessarily make for of for minor differences in the differences in the rules rules of modities, however, trading in the terms of contracts of their respective exchanges. of their in terms contracts the of and respective exchanges. trading of organization Yet broad, fundamental plan plan of the same the same broad, Yet the organization and the in all commodity operating techniques are found in all exchanges. Their rules are rules commodity exchanges. operating techniques it is particulars, but not not in essentials. Hence it present differ in in essentials. is possible to to in particulars, differ possible present aa composite composite picture picture of the commodity commodity exchange, of the as an example exchange, taking taking as example one market market and noting noting in in other markets only other markets material variations variations from one only material and the general rules practices. rules the general practices. Objectives. objectives of exchange are in a commodity The of a are set set forth forth in commodity exchange objectives Objectives. it its it is organized to provide, regulate, and maintain is to charter. Primarily, its charter. Primarily, organized provide, regulate, afford its and through aa market place place and to to afford members-and proits members through them any any producer, dealer, dealer, converter, or speculator speculator-efficient trading in in efficient facilities facilities for for trading converter, or ducer, specific commodities. In order to further these aims, its purpose to further these its declared declared order commodities. aims, purpose specific is establish equitable equitable and just just principles principles governing governing the the conduct of of to establish is to in contracts, trade business by by its its members; members; to to maintain uniformity business contracts, trade uniformity in in to effect terms, trade customs, usages, practices in order to effect standards of and standards of trade customs, usages, terms, practices classification or grading in commodities in which its members deal; to in its classification or grading in deal; to

146

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

its members and the acquire disseminate useful useful trade trade informaton to to its the acquire and disseminate establish machinery public; to to arbitrate arbitrate disputes; to establish machinery whereby traders may, may, whereby traders disputes; to public; if they so minimize or insure against various market and credit various or insure credit so desire, if they desire, minimize against risks; and to to co-operate co-operate with with other markets and exchanges in other markets risks; exchanges operating operating in the having similar similar aims. aims. the same commodity commodity and having Membership. The membership list of is list of each commodity commodity exchange membership exchange is Membership. representative of every division and element of the industry and trade trade division of of the every industry representative and, in normal normal times, times, of of every every country the commodity is an importand, in country where the commodity is important factor trade. Flour Flour mills, mills, grain elevators, exporters, importers, in trade. factor in ant elevators, grain exporters, importers, dealers in grain in parts of are farmers' in grain all parts in all of the the world are farmers' co-operatives, co-operatives, and dealers in England, of Trade. Merchants represented the Chicago Chicago Board of Merchants in England, represented on the Europe, Asia, and Africa manufacturers, dealers, commission agents, Africa and manufacturers, dealers, Asia, agents, Europe, and brokers brokers in England and the the South hold hold membership membership on the the New in New England Exchange. Seats the same exchanges York Cotton are owned by Seats on the Cotton Exchange. exchanges are by memin France, England, England, Italy, Switzerland, India, and China, in bers residing residing in in France, bers India, Switzerland, China, Italy, a number farm manufacaddition to a large of co-operatives, dealers, and of addition to large co-operatives, dealers, in the the United United States. turers in States. turers requirements for for exchange exchange membership that a candidate are that chief requirements The chief membership are finanmust be be of of good good character character and must have have demonstrated his his sound financial responsibility. responsibility. Applications Applications for for membership membership must be endorsed by by cial of two members of of the the exchange. The names of applicants must be posted be two exchange. applicants posted a specified on the the bulletin bulletin board board of of the the exchange exchange for period before before action for a action specified period is taken taken by by its membership committee. committee. This committee conducts aa thorthorits membership is ough investigation into each applicant's qualifications, both financial and into each financial applicant's qualifications, ough investigation to personal. All members are requested to advise the committee, in conthe are requested advise committee, in conpersonal. All the they know of objection to the candidate. the applifidence, of any to candidate. Both the if they fidence, if any objection applithe cant his sponsors are orally by the membership committee. examined are committee. cant and his orally by membership sponsors If the applicant applicant meets meets the the test test of character and financial of character financial responsibility, If the responsibility, the favorable favorable finding of the committee is reported to the board of of the is of to the the finding reported governors, elects in accordance with the terms of its charter, by him in with elects accordance the terms of which its charter, by governors, or otherwise. his election, election, the majority vote or otherwise. On his the new member must subsubmajority vote to the the exchange's by-laws rules and thereby agrees to abide by scribe and rules to scribe to abide exchange's by-laws thereby agrees by all subsequent subsequent amendments. all existing existing regulations regulations and all all A partnership, partnership, at least one of of whose general partners is of at least is a a member of general partners the exchange, may may be be extended extended membership membership privileges privileges and have its the exchange, have its at the the commission rates exchange business transacted transacted at rates prevailing for exchange business prevailing for exchange members. The same privilege privilege may may be be accorded accorded to to a a corporation, exchange members. corporation, one of officers is is a member of the exchange. Actual executive officers of the of whose executive one Actual memexchange. bership, however, is confined to individuals. confined to is individuals. bership, however, Seats. In addition to qualifying qualifying by is necessary necessary for addition to it is Seats. for each each election, it by election, "seat." A seat obtain a "seat." to obtain seat is is a member's interest new member to interest in in the the in to exchange, similar to a share in a corporation, evidenced by a stock share exchange, similar corporation, evidenced by a stock

Organization Operation Organization and Operation

147 147

seat by certificate. obtains his his seat purchase certificate. The new member obtains by negotiating negotiating a purchase other member; member; since since the the seat privileges seat involves involves valuable from some other valuable privileges it possesses at at to exchange members, it all times aa definite all to times definite which accrue accrue only members, exchange possesses only to time. value, which varies time to time. The relative prices of seats from time relative of varies seats on value, prices different exchanges exchanges are are determined by by the the current current volume of of business different business transacted, the of authorized seats, the financial resources of financial resources of the number of seats, and the transacted, each exchange. exchange. The number of seats is is fixed the charter of each exchange each of seats fixed by the charter each of by exchange and may be increased decreased only only with consent its members. increased or or decreased consent of of its may be Dues. of an exchange Dues. Members of pay annual dues sufficient to cover sufficient to exchange pay its ordinary ordinary operating expenses. These dues are based on the its the budget are budget operating expenses. estimate for for the year. Whatever may the method of levying the ensuing of levying estimate ensuing year. may be the in view view is never to to establish profit for the exchange, but dues, is never the end in establish a for the a profit dues, the exchange, but to merely to assure the collection of sufficient revenues to permit it to conassure the collection of to it consufficient revenues to merely permit its services duct its its work efficiently efficiently and perform perform its services effectively. effectively. Government. The central central control in aa presipresiof an exchange is vested control of vested in exchange is dent, a vice-president, a treasurer, and a governing body as the a a known as the dent, governing body vice-president, a treasurer, of governors, directors, or managers. The governors board of are usually or managers. governors, directors, governors are usually elected annually annually by by the the members. On some exchanges, however, the elected the however, exchanges, that the terms of of board members are arranged so that onc-third of the board is are arranged so one-third of is elected annually. annually. Although Although . various various committees by the the board elected committees appointed appointed by in play an important part in administering the exchange's operations the administering exchange's operations and important part play in machinery, the in each case exercises final board case exercises final control. control. machinery, the The Secretary. Secretary. The secretary secretary of of an exchange is aa salaried salaried officer officer exchange is chosen by the board. On his his shoulders the responsibility responsibility shoulders rests rests much of of the chosen by the board. working of the exchange machinery. He is for the of the is usually the for the smooth working exchange machinery. usually the superintendent of the the exchange. In addition addition to the duties duties to performing all the exchange. In performing all superintendent of a ordinarily imposed the secretary of a stock corporation, he is responthe of stock on is secretary corporation, ordinarily imposed responproper operation operation of the trading trading floor. sible for proper of the floor. He collects collects dues, sible for assessdues, assessments, and fees fees from the the members and supervises the keeping of the books of the the books ments, supervises keeping and the records of of the the exchange. membership are of membership are effected Transfers of effected the records exchange. Transfers is through his his office. office. He is charged with the the posting mailing of of notices notices charged with posting and mailing through to members on all all matters matters of of importance. importance. to as may He performs performs such other duties as may be assigned to him by the board other duties assigned to by the is the and its its various various committees. committees. The secretary the most active of the the active officer officer of secretary is exchange possess high executive ability. is submust executive He is aided by a a and subability. by exchange possess high stantial the work of his office in the maintenance and superof his office and in the maintenance in the staff in stantial staff supervision of the the official official records records and statistics the exchange. of the statistics of vision of exchange. Committees. the active active administration of exchange is is of an exchange of the Committees. Much of carried by committees committees appointed by the of governors. work board of the carried on by The governors. appointed by little more than mention. of of these these is formal and requires requires little mention. The is formal of some of function of other committees is is connected intimately intimately with the of other function the highly highly specialized operations of a commodity exchange. of commodity exchange. specialized operations

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The Arbitration Arbitration Committee. provide Committee. Organized uniformly provide Organized exchanges exchanges uniformly for adjustment, by by voluntary volUIltary or or compulsory compulsory arbitration, for adjustment, all disputes of all arbitration, of disputes between members without all members without recourse recourse to to courts Usually all courts of of law. law. Usually when they join the the exchange required to to bind bind themselves themselves to to comare required they join exchange are arbitration to subject themselves to all its rules and regulapulsory arbitration and all rules to its themselves to regulapulsory subject the In general, general, however, however, one of of two policies the tions. In tions. is adopted: adopted: (1) (1) policies is exchange may merely provide the machinery for voluntary arbitration arbitration for the exchange may merely provide machinery voluntary and leave to disputing disputing parties parties the the option to it; the leave to or (2) of resorting it; or resorting to (2) the option of arbitration may be be compelled to act on the complaint of one arbitration committee may act of to the compelled complaint of of the parties and to to serve notice on the party and summon him the parties serve notice the adverse adverse party to arbitrate to arbitrate (as he is is required required to to do by by the most exchanges). the rules rules of of most (as he exchanges) The rules of of the of Trade, however, provide merely the Chicago Board rules of that "the "the Trade, however, provide merely that Chicago of the policy of Association is to encourage, but not to compel, the arbitrais to arbitrathe Association not to policy encourage, but compel, the tion of disputes." tion of disputes." All members of of an exchange the provisiom All exchange subject themselves to to the of its its subject themselves provisions of to charter to the the by-laws by-laws of of the the exchange exchange adopted, but subject to change charter and to change adopted, subject addiby its its members in in accordance with the the provisions in addiaccordance with of the the charter; charter; in by provisions of all members are tion, all are bound by by all regulations all subsequent rules and regulations tion, subsequent rules promulgated by the exchange in accordance with the provisions in of its the accordance the its with exchange provisions of promulgated by a member objects charter and by-laws. by-laws. If objects to rule or If a to any charter his or regulation, any rule regulation, his to is to resign, though such resignation does not release him only recourse is such recourse not does release resignation resign, though only from existing obligations (including (including compulsory any existing obligations arbitration) under any compulsory arbitration) exchange rule, rule, so long as that rule rule is is ,within the scope of as that within the so long authority of exchange scope and authority the the exchange. exchange. Arbitration of of Controversies. In voluntary voluntary or is more comcomArbitration Controversies. In or (what (what is arbitration the procedure is to that of an action mon) compulsory is similar similar arbitration the that to action of mon) compulsory procedure formalities and rigidity. at law, but it it is is stripped of legal rigidity. A complaint at law, but legal formalities stripped of complaint which is is aa written written recital recital of of the the subject subject matter of controversy of any any controversy arising arising out of exchange transactions, is filed with the arbitration committee by the arbitration filed with is committee by out of exchange transactions, the complaining party, and aa duplicate duplicate is the other party, who is served served on the other party, the complaining party, is required required to to file file his his answer within within a specified of days. number of is days. Three specified qualified members of of the the exchange, panel as as arbitrators, arbitrators, chosen from a panel exchange, chosen qualified in controversy then proceed to to hear hear and determine determine the the matter in then proceed controversy according according to the rules, practices, customs of the exchange. and customs of the to the rules, practices, exchange. arbitrators possess possess judicial judicial powers powers which are are ample for conducting The arbitrators conducting ample for for them and for bringing to rapid, just, final, binding hearings promptly to bringing rapid, just, final, and binding hearings promptly determination. They may may compel the production production of papers by of papers exdetermination. They by any any excompel the member to they may subpoena any to attend hearings change member, attend and hearings they may subpoena any change member, and give give testimony. testimony. Disregard Disregard of of aa subpoena subpoena issued by the issued by the arbitration arbitration committee by other other committees committees empowered to conduct hearings renor by committee or hearings renempowered to ders a member subject to suspension or even to expulsion from the to expulsion the ders a subject to suspension or .

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exchange. exchange.

hearings in in arbitration arbitration proceedings private, unless unless The hearings are private, proceedings are sessions. sessions. arbitrators concludes of the The decision decision of the arbitrators concludes the the entire matter, unless unless an entire matter, a within appeal is taken promptly within a specified time to the board of appeals is taken time to the board of promptly specified appeal appeals -another appointed by by the the board board of decianother committee appointed of governors-whose governors whose decifinal and conclusive. proceeding is sion is conclusive. Whether the sion is final the arbitration arbitration proceeding of the the is of the voluntary or involuntary type, the findings constitute an award which is or constitute is which voluntary involuntary type, findings binding upon upon the the parties. parties. In In the the voluntary voluntary type type of parties of arbitration, the parties arbitration, the binding agree to abide by the award through a voluntary execution of the arbitraa to abide the execution of the arbitrathrough voluntary by agree tion before the the hearing hearing is held. is held. tion agreement agreement before by-laws of the exchange exchange provide provide for of the for enforcement of all all arbitratiop enforcement of The by-laws arbitration its action decisions by disciplinary action on its members. The threat of expulsion, threat decisions by of disciplinary expulsion, sufficient penalty in extreme cases, is is aa sufficient penalty to of the in to insure insure acceptance extreme cases, of the final final acceptance in cases Only in cases where the the constitutional constitutional rights of the parties decision. 22 Only of the are decision. rights parties are alleged to to be be in jeopardy or or where where the the exchange is claimed in jeopardy claimed to to alleged exchange procedure procedure is to the charter or by-laws of the exchange can there be biased biased or to charter or or contrary the the of be there contrary by-laws exchange be an appeal to the the courts. courts. Once arbitration has been agreed arbitration has the be on, the agreed on, appeal to courts refuse refuse to until the the arbitration arbitration process been exhausted. intervene until has been to intervene exhausted. courts process has It to understand understand that, that, though the arbitration is between the arbitration is between It is is essential essential to though exchange members, members, in most' cases cases these these members have bought bought and sold in most sold exchange for the the account of their their customers, customers, who are the principals and are responare the account of are for principals responsible to the exchange members for for all all commitments on behalf the exchange behalf of of their their sible to the other hand, the the customers customers. other hand, customers of of each member are, at law law customers. On the are, at the exchange and under under the relationship between between the member and contract relationship the contract exchange acts of of their his customers, customers, bound by by the the authorized authorized acts their agent his agent (the (the member) member) are to the member all and, consequently, are responsible to the for all awards of for of the the and, consequently, responsible all exchange arbitration committee committee with with respect respect to to all entered into contracts entered into arbitration exchange contracts by the on instructions of his customer-principals. In effect, instructions his of member the effect, customer-principals. by therefore, exchange exchange arbitration arbitration awards awards are all memare binding therefore, binding not only only on all of members, bers, but but also also on all the customers in turn turn have have full all the customers of full members, who in bers, all awards against law against against their their customers as recourse at for all at law customers for them as recourse against memLers with with respect respect to to contracts contracts made for their customers. for the the account of of their customers. members in Every year, a great number-in fact, hundreds-of controversies involvof a number hundreds controversies involvfact, Every year, great ing large and small sums of money are thus disposed of with a are a of thus of minimum small money disposed ing large The of arbitration makes for for a of expense delay. machinery of arbitration a speedy and of machinery delay. speedy expense and just just determination, its rules of evidence are calculated to insure and are its rules of evidence insure calculated to determination, a full fair hearing, hearing, untrammeled by technicalities. The rule of evievirule of full and fair a by technicalities. dence given below, below, taken taken from the the rules rules governing arbitration arbitration is given dence which is governing both parties parties request request open open both

arbitration proceedings in arbitration 2 Under Under statutes, most states, states, an award in dockin most statutes, in proceedings may may be docka court of law and may in a court of eted with the the full full force a judgment judgme~t obtained in of a force of eted with may be of the enforced by by sheriff's execution processes processes against the property property of the losing sheriff's execution enforced losing party. against the party.

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of disputes in Commodity Commodity Exchange, Exchange, Inc., of Inc., sums disputes in arbitrations are conducted are conducted arbitrations

in which all up the spirit all up the spirit in

Liberality of procedure is is to to be observed, observed, and such methods are to be folfolare to of procedure Liberality lowed by the Arbitrators as will be best calculated to elicit all the evidence all best calculated to elicit the evidence lowed by the Arbitrators as will ]j)( 11 Il.ri 11 i 11;': to to the the case. case. The arbitrators arbitrators shall the arbitration the arbitration with the shall conduct the n, sluing in matters end in view of of establishing establishing and enforcing enforcing equity matters in view fair dealing end dealing in equity and fair the least of trade commerce. irrespective irrespective of of technicalities least possible possible of technicalities and with the trade and commerce, delays expenditures consistent with aa comprehensive investigation of of each consistent with comprehensive investigation delays and expenditures controversy presented. presented. The spirit spirit of the Arbitrators Arbitrators of conciliation conciliation should guide guide the controversy all to remove all in their their conduct of proceedings. and they in of the the proceedings, they should endeavor to doubts misunderstandings between the the parties to effect, if possible, as to so as doubts and misunderstandings effect, if possible, parties so a a harmonious disposition disposition of of the the controversy. controversy.

Frequently lawsuits drag drag through through the the courts courts for several years trial for several of trial years of Frequently lawsuits and appeals, leaving the parties uncertain as to the outcome and involvthe uncertain as the to involvappeals, leaving parties of disputes ing heavy expenses. arbitration of in commodity trades, commodity trades, ing heavy expenses. The arbitration disputes in the great exchange or trade association has the great whether under exchange or trade association procedures, procedures, has and settlement of merit prompt, cheap, efficient settlement of disputes by experts merit of of prompt, efficient cheap, disputes by experts rather than by familiar with trade trade customs, customs, terms, terms, and practices by aa jury jury familiar with practices rather or familiar familiar with in no sense trade terms of laymen sense experts with trade terms and of are in laymen who are experts or conditions. conditions. Arbitration of or Quality Disputes. Arbitration as of disputes Arbitration Arbitration of of Grade or Quality Disputes. disputes as to grades grades or of deliveries deliveries in the physical physical trades trades under under trade trade in the or qualities to qualities of association has been treated elsewhere. It should be noted here It has been elsewhere. should association auspices treated here auspices that experts quickly samples of the disputed delivagain, however, of delivthat draw the samples disputed experts quickly again, however, promptly determine determine whether whether or the tenders tenders are are up to the eries or not not the the eries and promptly up to quality sold and, if not, whether the buyer is entitled to demand a if not, a whether sold the is entitled to new and, buyer quality of the proper grade grade or the contract take the the inferior inferior tender of or under the contract must take the proper tender quality at allowance fixed by the the arbitrators the absence in the fixed by arbitrators in at an allowance of a a absence of quality mutual agreement agreement of the parties. parties. Thousands of disputes are thus of the of grade are thus grade disputes arbitration procedure, procedure, thereby thereby relieving relieving the settled by the the arbitration courts the courts settled quickly quickly by of many cases which otherwise tend to to swamp their dockets. otherwise would tend cases which dockets. of many swamp their On the the exchanges, however, arbitration of disputes on qualities arbitration of of however, disputes qualities of exchanges, official deliveries is not not necessary. necessary. Such disputes are avoided by official certificaare certificadeliveries is by disputes tion of of all all deliveries deliveries (as (as to to quality quality or before any lot of or grade) tion of grade) before any specific specific lot the is tendered for delivery on an exchange contract. This tendered for contract. is the commodity delivery exchange commodity certification by federal federal officials the cotton or officials (in is made either either by cotton trade) certification is (in the trade) or for that by officials licensed for that purpose purpose by the exchange. officials licensed by the exchange. Any Any exchange by exchange on an exchange contract, secures member, before tendering tendering a delivery secures member, before contract, delivery exchange is quality which, which, once issued, is binding on all parties a certificate certificate of of quality all a issued, binding parties and case there there is is disagreement between must be accepted accepted without without dispute. must be dispute. In case disagreement between the certifying the owner of of the the parcel parcel offered offered for certification and the for certification the officials, certifying officials, the owner may appeal to an official committee, the decision is to official the decision of of which is the committee, may appeal

Organization Organization and Operation Operation

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conclusive and binding. conclusive binding. Provision Provision is is made for for recertification all cerrecertification of of all cer3 tified tified lots, lots, when conditions this necessary. necessary.s conditions make this as arbitration Discipline. Just arbitration provides provides aa means of of settling Discipline. Just as settling disputes disputes that is is analogous to civil that to civil actions at law, so the exchanges enforce their at actions so the their law, analogous exchanges enforce own rules rules with with respect respect to to the the ethical ethical or professional conduct or professional conduct of of their their members by by aa procedure procedure analogous analogous to to that that of the criminal After of the criminal courts. courts. After hearings and appeals the decisions decisions of the disciplinary of the are hearings appeals the disciplinary committee are enforced by by suspension enforced or expulsion. suspension or expulsion. the extensive the exchange To indicate indicate the extensive disciplinary powers which the exchange disciplinary powers over its the by-laws by-laws of Exchange, exerts members, aa section section of its members, exerts over of the of Commodity Commodity Exchange, Inc. is quoted quoted below. below. A member may may be be suspended Inc. is or expeUedsuspended or expelled

(a) For violating, violating, disobeying, disobeying, or or disregarding disregarding any Rule, or RegulaRegula(a) For By-Law, Rule, any By-Law, tion tion of the the Exchange. Exchange. (b) refusing to to submit submit to abide by by any decision of any of any to and abide (b) For refusing any award or decision the Board of of Appeals, the Quality Arbitrators, the Arbitration Arbitration Committee, Appeals, the ComArbitrators, the Committee, the Quality mittee, the the Quality Quality Board of of Appeals, Appeals, or the the Supervisory made, Committee, made, mittee, Supervisory Committee, of Rules. signed, filed the provisions of these By-Laws or Rules. and filed under the these signed, By-Laws provisions for the the delivery of a commodity contracts for (c) For buying buying or selling 'Selling contracts a for a (c) delivery of commodity for for of clerk or of clerk memclerk of the Exchange or for a clerk or employee of another or employee the Exchange employee employee ber of of the the Exchange Exchange without without 'the written consent his employer. the written consent of ber of his employer. (d) For the publishing, or permitting to be published, in his his own name, name, the be to (d) publishing, permitting published, in or that of or in the of any officer of his corporation, or that of of his or in the officer of his his firm, name of that of or or that firm, any corporation, any of his partners, employees, or agents, whether with or without his consent, or his his of consent, agents, any partners, employees, in newspapers, newspapers, circulars, circulars, or otherwise, any advertisement or article that contains advertisement or article that in contains otherwise, any any misstatement facts, or is otherwise otherwise calculated public, of facts, calculated to to mislead mislead the the public, or is misstatement of any whether by by direct direct or implied misrepresentation, or unfair concealment of facts, unfair or of concealment whether facts, implied misrepresentation, as margin for operating or that request for for money money to to be be sent margin for on dissent as disa request or that contains contains a operating that shall to cretionary orders, or any other matter that shall tend to bring discredit upon tend or other matter discredit bring upon cretionary orders, any the business of of dealers dealers or or brokers brokers in in commodities, upon the the Exchange, Exchange, or the business commodities, or upon that by aa majority majority of of the the Board after after such member that shall shall have been disapproved disapproved by has had an opportunity to be heard. heard. has opportunity to (e) For any other misconduct in in his his relations relations to to the the Exchange Exchange or any any member (e) For any other or members thereof. thereof. or (f) For For any or fraudulent person not not aa transaction with any fraudulent transaction any person any disreputable disreputable or (f) member of of the the Exchange. Exchange. best interest interest of the the Exchange For any conduct detrimental to to the the best Exchange or to (g) to (g) For any conduct detrimental the welfare of the United States. States. of the the welfare is defined in in these these By-Laws. (h) For becoming insolvent as the term insolvency as the insolvency is By-Laws. (h) For becoming insolvent in or (i) For suspension or expulsion from membership in any other security or or For any security membership expulsion suspension (i) commodity exchange. commodity exchange. v

for his is responsible responsible not only acts and his own acts An exchange only for exchange member is his of the conduct his omissions, but also for the conduct of his employees and his partners omissions, but also for employees partners IV. a For For more more detailed Chapter IV. see Chapter discussion see detailed discussion

a

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Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

or the the corporation with which which he is is affiiliated. prohibited If any of the the prohibited affiiliated. If or any of corporation with acts committed by by an associate associate or agent of the latter's latter's or agent of the the member, are committed acts are member, the protection against penalties. non-participation affords affords him no protection against disciplinary disciplinary penalties. non-participation rendering a member subject to discipline may Charges of misconduct a to of misconduct rendering discipline may subject Charges of governors, the board of be preferred preferred (1) (1) by by the be any committee or by any governors, (2) (2) by arbitrators having having the the power power to to complain, complain, or or arbitrators non-member of the exchange. of the exchange.

(3) any member or by any (3) by

Business Conduct Committee. This body body resembles jury. Business Committee. This resembles a grand grand jury. Its is to investigate any misconduct on the part of a member. It may a It Its duty misconduct the of is to may duty investigate any part on its own initiative or by direction of the board of governors. do so initiative or by direction of the of governors. so its findings of of the the business business conduct committee are reported to to the the are reported The findings board, and, and, if the facts so warrant, warrant, aa formal against the memif the formal complaint the facts so board, complaint against ber is ber is preferred. preferred. Supervisory Committee. a complaint is filed, the supervisory Committee. When a filed, the Supervisory complaint is supervisory committee assumes assumes jurisdiction. jurisdiction. The complaint is in writing, in is writing, setting setting complaint a list list of of witnesses detail the the accusation. It is is accompanied witnesses and forth in in detail accusation. It forth by a accompanied by by any evidence bearing bearing upon upon the the case. receiving the the case. On receiving by any documentary documentary evidence the a complaint, the supervisory committee serves a copy of it, together with committee serves of with it, together complaint, supervisory copy the documents and the the list of witnesses, witnesses, upon is accused member. He is the the accused list of upon the at the furnished at the same time time with with aa copy of the by-laws and rules, and his furnished his of the rules, by-laws copy attention is is specifically to the the by-law rule alleged to have have been attention or rule alleged to specifically drawn to by-law or the by-law violated, by-law or or rule rule under which the made, and is made, the complaint violated, the complaint is the provisions provisions governing procedure. The defendant member is required the defendant is governing procedure. required to answer answer within within aa given time and to accompany his reply with aa list of to time to list of with his given reply accompany his witnesses and any documentar}' evidence to offer. his witnesses evidence he may offer. any documentary may have to as practicable practicable after after the the answer has As soon as if no answer has been filed, or if answer filed, or the time time for for filing filing has has elapsed, the supervisory has been filed filed after after the has been the supervisory comelapsed, mittee proceeds proceeds to a hearing hearing and notifies notifies the parties and their their witnesses. the parties to a mittee witnesses. Neither party party may may be be represented represented by counsel at any hearing. After aa at Neither counsel by any hearing. After the committee reports reports its to the of formal hearing, hearing, the formal its conclusion the board of conclusion to governors, with with aa summary the facts the docuof the all the established and all facts established docugovernors, summary of If the supervisory committee finds against mentary evidence submitted. If evidence the finds submitted. mentary supervisory against fixes the the the board of of governors governors fixes the penalty penalty to to be be imposed. imposed. the defendant, defendant, the When aa member undergoes undergoes either either voluntary or involuntary bankvoluntary or involuntary bankthe supervisory committee conducts an investigation to ascertain ruptcy, the conducts committee to ascertain supervisory investigation ruptcy, the reasons reasons which occasioned occasioned his his failure. unbusinesslike or unethical the If unbusinesslike failure. If or unethical conduct has a contributing contributing factor, factor, the the committee so reports to to the the has been a conduct so reports of governors and the becomes ineligible for reinstatement. board of member for the becomes reinstatement. governors ineligible Floor Committee. The committees described have jurisdiction jurisdiction Floor described above have over of business business conduct. conduct. The floor over broad questions floor committee committee is the is the questions of It is exchange'S constabulary. It is charged with preserving order on the floor order the floor exchange's constabulary. charged preserving or ring or or pit pit of the exchange the rules of the or ring rules applicable exchange and with enforcing enforcing the applicable

Organization Organization and Operation Operation to to trading trading

153 153

to the the conduct conduct of of members on the Misleading or and to or the floor. floor. Misleading

ambiguous bids or or offers may be be the the subject of disciplinary offers may and, action, and, ambiguous bids subject of disciplinary action, in the in the case case of of any any disputes disputes arising arising from bids, bids, offers, in the in the or acceptances offers, or acceptances regular trading, trading, the the question question is the spot by those course of regular course of is decided decided on the those spot by committee who are present. the floor of the floor committee are present. members of Quotations Every transaction transaction on the the floor of an exchange floor of exchange Quotations Committee. Every must be be made by by outcry outcry across across the the ring ring or and the time price or pit, the time and price pit, be reported reported immediately upon its must be its consummation. The quotations immediately upon quotations is charged with committee is with enforcing this rule the floor this committee rule and settles settles on the floor any charged enforcing any of all trades and their prices disputes regarding price quotations. record A of all record trades their prices disputes regarding price quotations. is kept, kept, and aa summary summary of of these these is published daily. is is published daily. The quotations quotations com"bid and asked" quomittee meets meets each to establish official closing mittee "bid each day to asked" quoestablish official day closing tations for inactive inactive months. These quotations tations and nominal quotations quotations quotations for are informative for the are informative to to the the public public and necessary necessary for the working working of the of the clearing house. house. clearing On the the ticker ticker of of most most exchanges, as reports the market's market's close of the close come reports of exchanges, as It is reader sees that the the close or "weak." It is out, the the reader or sees that close was "firm," out, "firm,*' "steady," "steady," to this the duty duty of of the the quotations committee to give this characterization or the or characterization give quotations "tone" the closing of each each day. to the "tone" to day, closing dealings dealings of to Committee on Commissions. The minimum rates of commission to rates of be charged by are rigidly prescribed. Since the pressure of comare members be the of rigidly prescribed. Since charged by pressure petition precludes the charging of rates above the minimum, the the rates of the the estabestababove minimum, charging petition precludes transaclished minimum schedules lished standard for all exchange schedules become standard for all transacexchange of all tions. Any Any rebate rebate to to aa customer customer of all or or any the prescribed tions. of the any part part of prescribed coma first first offense mission is is punishable by suspension for mission offense and by by expulsion punishable by suspension for a expulsion rules regulate regulate competition by placing placing for a second. for a second. 44 The commission rules competition by plane of of equality equality in in their their dealings the public. members on aa plane dealings with the public. This prevents competition on a price basis by the splitting of commissions. basis the of commissions. by price splitting* prevents competition It benefits benefits the the public public by by precluding precluding the the possibility possibility of of discrimination It discrimination in each 44 "The above-mentioned rates shall be in commission that shall be each case the minimum commission case the that above-mentioned rates of may be charged by any of the Exchange, and shall be absolutely net and shall member net be the be Exchange, may charged by any absolutely free of all any rebate, rebate, in in any any way, way, shape, or manner; nor shall any bonus or nor shall or all and any free of manner; shape, any pro rata percentage of commission be given or allowed to any derk or individual for or to of be or for commission individual rata clerk given any percentage pro business procured procured or or sought sought for for any any member of of the the Exchange. business Exchange. "The penalty penalty for violating or evading, or or seeking, or evading, for violating seeking, offering, offering, proposing, proposing, promising, promising, or agreeing agreeing to to violate violate or or evade the the provisions provisions of this Section or in any of this Section in or way, shape, any way, shape, or manner whatsoever, whatsoever, whether whether by by an agreement, agreement, arrangement, or understanding, exor exarrangement, understanding, or indirectly, indirectly, in in person person or through any any firm firm or or pressed or or through or implied, either dirctly dirctly or implied, either pressed co-partnership of of which aa member may may be be or may appear to be aa partner partner or or through through or may appear to co-partnership for the any agent or otherwise, shall be, be, upon upon conviction first offense, offense, susconviction for or agents susthe first otherwise, shall agents or any agent or term period not exceeding twelve months, the of suspension to be be fixed fixed the of pension for a for a not twelve months, period exceeding suspension to pension at the the discretion discretion of of the the majority majority of of the the Board of present at thereat a a meeting of Managers at Managers present meeting thereSection 3.01, and for the second expulsion." (Extract By-Laws of of the the of, for the second olfense, 3.01, By-Laws offense, expulsion." of, and (Extract from Section Exchange.) Yoik Cotton Exchange.) New YOlk

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Commodity Exchanges Exchanges and Futures Futures Trading Trading Commodity

that for for between the the charge for service service rendered rendered to to large between large operators charge for operators and that all service to to small operators. The committee decides all small operators. commissions decides service committee on commissions interpretation of of the controversies the commission regulations. controversies which involve involve interpretation regulations. Committee on Information Information and Statistics. Statistics. In markets highly highly sensitive sensitive the to changes changes in in demand, accurate and up-to-date up-to-date information about the to demand, accurate visible of for the commodity and about visible and future future supply and demand for of the commodity supply all factors all factors which may may influence influence prices prices are the utmost utmost importance. importance. are of of the Information that that is is gathered gathered and published published regarding regarding weather weather condicondiInformation

in crop areas, supplies takings by by consumers, tions tions in consumers, afloat, takings crop areas, supplies on hand and afloat, and so forth is described elsewhere. elsewhere. 55 so forth is described compiling and publishing publishing statistics into the the The work of of compiling that flow flow into statistics that exchanges by telegraph and cable is of the of the cable direction is performed under direction exchanges by telegraph performed a but the the committee on information secretary, information and statistics exercises a statistics exercises secretary, but of the activities. the exchange's exchange's activities. general power over over this this phase phase of general supervisory supervisory power and a Warehousing Committee. The stocks of a commodity Grading of stocks commodity Grading Warehousing which may may be delivered delivered against against aa futures be stored in stored in futures contract contract must be warehouses which have have been approved approved and licensed the exchange. warehouses licensed by exchange. by the lot of the commodity intended for delivery must be weighed, Every lot of be the intended for weighed, samEvery delivery commodity graded either by government by the the official weighers. pled, and graded either by officials or or by official weighers, pled, government officials of the inspectors of the exchange. The receipt the waresamplers, and the which receipt samplers, inspectors exchange. house issues issues passes passes from seller to buyer buyer as as the the representative representative of goods. the goods. of the house seller to The grading warehousing committee has has the the important important duty of duty of grading and warehousing 66 This bureau has supervising the inspection bureau of the exchange. has the bureau of the exchange. supervising inspection of the tenders of the charge of all tenders of the the inspection, of all charge grading, and weighing weighing of inspection, grading, commodity for certification. certification. The committee also the warealso supervises warecommodity for supervises the housing of certificated stocks. of stocks. certificated housing Other Committees. The foregoing have been been described described foregoing committees have in detail, for their work is the specialized for their is peculiarly related in some detail, to the peculiarly related to specialized operopercommodity exchange. exchange. There are ations a commodity of a are other other committees which ations of require no more than than mention, mention, for for their their work is that of is paralleled by of paralleled by that require similar committees in in many many other other corporate corporate bodies. bodies. The executive executive comsimilar committees control over mittee has has general general administrative administrative functions, the control over the mittee functions, including including quotation service, management of the exchange building, hiring of the of exchange building, hiring of quotation service, management finance committee has purchase of of supplies. supplies. The finance general employees, has general employees, and purchase of the fiscal affairs of the exchange and the auditing of supervision over fiscal the the affairs over the exchange auditing of supervision A the books of the treasurer. committee on by-laws rules considers of the treasurer. and rules the books considers by-laws all to existing existing by-laws by-laws and rules rules and frames all amendments to frames any any amendment or regulation submitted to to members to to be be voted on. on. The nominating or new regulation nominating committee nominates the slate of proposed officers and members of the the of slate of the committee nominates proposed officers at annual elections; board to to be be voted voted upon upon at elections; it it is is essentially a selection board selection essentially a s 5

See V. See Chapter Chapter V. Chapter IV. IV. Chapter

66 See See

Organization Operation Organization and Operation

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committee, and in in most most instances instances committee,

field its ticket is the only the field is the its ticket only one in the a matter of course. its nominees nominees are usually elected elected as as a of course. are usually and its are to most committees are those are common to those which are committees The foregoing foregoing in the If more than one commodity is traded in on the exchange, exchanges. is traded If than one exchange, commodity exchanges. for is established for each commodity. Whenever some a separate committee is established a committee commodity. separate of the of an exchange assumes more than passing importance, phase of of the work exchange passing importance, phase its supervision will be formed. aa committee committee charged supervision will charged with its The Exchange Exchange and Its Its Facilities. Facilities. Trading in a large large is carried carried on in Trading is room or or hall hall in which the the floor, ring, or pit occupies the central and or pit the central in which floor, ring, occupies than one most prominent prominent place. place. On exchanges exchanges where more commodity commodity is traded in, in, there there may may be be aa separate pit or ring for each commodity. or for is traded ring commodity. separate pit floor connect Private wires wires from from telephone telephone booths booths on the the exchange connect with Private exchange floor the offices dealers and commission houses, houses, and from aa rostrum rostrum raised raised of dealers the offices of trading ring ring quotations quotations are the ticker ticker system above are sent sent out over over the the trading above the system in full full view telephoned to to attendants posting on a blackboard blackboard in attendants for for posting and telephoned are bulletin of the trading ring. ring. On the the exchange there are bulletin boards floor there the trading boards for of for exchange floor statistical data the posting of data and notices notices to to members. Exchanges having of statistical the posting Exchanges having of samples for cash a spot provide tables tables for for the the display trading. cash trading. a samples for display of spot market provide offices and cOII;lmittee arc within within easy the Executive offices Executive committee rooms are access of of the easy access room. trading trading The Trading Ring. Trading Trading on the the New YOllk is Stock Exchange Youk Stock Trading Ring. Exchange is posts, each post being trading point carried carried on around posts, each post the trading for certain certain being the point for stocks. trading ring ring is is the the counterpart of a trading post futures trading of a stocks. The futures counterpart trading post on the stock exchange. The following following description of the trading ring of the stock exchange. of the of description trading ring a representative the Cotton Exchange and graphic the New York Cotton Exchange gives gives a representative graphic picture: picture:

The future trading ring ring is is located located near near one end of future trading of the the cotton.exchange room, cotton-exchange room, of the affording easy of the blackboard space, which is provided on adjacent view blackboard an is affording easy space, provided adjacent in the walls well well above the the heads heads of of the the men in the ring ring or pit. It is about to 35 35 or pit. It is walls about 30 30 to feet diameter and consists consists of of aa ring-shaped ring·shaped platform rising from the floor by in diameter feet in the floor platform rising by a series three to to five five steps steps to to aa height height of inside of about 2i feet, a series of of three the inside feet, and on the descending again by aa tier tier of four four or or five five steps to the the floor. floor. The central central floor floor descending again by steps to is kept clear feet in space of the ring, about 12 feet in diameter, is by a railing, behind of the clear a 12 behind diameter, ring, kept by railing, space of steps, the traders traders stand upon upon the the tiers tiers of across the which the other across the facing each other steps, facing trader so seen open center space, so that each trader may be clearly seen and may see all the that center all see the may clearly space, open may other traders traders gesticulating shouting their their bids bids and offers acceptances offers or or acceptances gesticulating and shouting ring.?7 across the the ring. across

2,

Trades. Exchange Reporting Trades. Exchange rules rules usually usually provide that the the time, time, provide that Reporting quantity, price of each transaction must be reported immediately and each transaction of be price reported immediately quantity, is done by a upon its reporting is its consummation. The reporting staff of of uniformed uniformed by a staff upon

? The Cotton I, Cotton Trade, 68th Congress, Senate Document No. No. 100, 1st Session, Part I, 100, 68th Trade, Senate Session, Part Congress, 1st p.107. 7

p. 107.

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Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

attendants the ring. ring. As As soon as is concluded, at the stand at as a attendants who stand a transaction transaction is concluded, the reporter takes note note of of the the price, price, the the amount sold, the delivery delivery the sold, and the reporter takes data are immediately flashed flashed by signals to a clerk stationed are immediately month. These data to a clerk stationed by signals clerk telephones the rostrum. rostrum. The clerk telephones the the particulars particulars of on the of each sale to to the each sale the attendant, who posts posts quotations the blackboard, blackboard, and the the transaction is transaction is attendant, quotations on the entered by by another another clerk the exchange's record sheets. The prices entered clerk on the record sheets. exchange's prices the tape, so reported simultaneously appear on the tape, wherever tickers tickers are are so reported simultaneously appear installed. Frequent summaries of of the the day's the installed. Frequent also on the day's trading trading appear appear also tickers. news tickers. It It is interesting to to contrast contrast this this procedure procedure with with that the physical physical is interesting that of of the there is is no common meeting meeting place grain exmarkets, where there exmarkets, place (except (except on grain changes provide facilities for trading in spot lots) , for all business is in all is facilities business which for for changes trading spot lots) provide transacted by telephone, telegraph, cable, or mail either through brokers either through brokers transacted by telephone, telegraph, cable, or and commission commission agents agents or or directly principals. between is no directly principals. There is publicity of transactions, all of are confidential, unless disclosed of all are unless disclosed of which transactions, confidential, publicity with the principals on each contract. the consent of of both principals contract. with orders come in Telephone Booths. Throughout the trading in to to Booths. the trading day, day, orders Throughout Telephone the exchange exchange floor houses, which have branch offices offices the floor from commission houses, in various various parts parts of of the the country country and even abroad. Around the the floor in floor of of the exchange exchange are rows of telephone booths booths which are members. are leased to members. are rows of telephone leased to the delivers it it to to the An attendant attendant receives receives the the order order and delivers the broker at the ring. at the ring. facilities permit After the order has has been executed, executed, the the same facilities permit the the attendant After the order to report to the the commission house house (that the order) price at the price to at gives the (that gives order) the report to which the purchase purchase or sale has has been made. or sale which the Hours of of Trading. All exchanges hours for for trading. trading. fixed hours Hours exchanges have fixed Trading. All o'clock the at ten open at ten o'clock and the trading day ends at three at three Most exchanges trading day exchanges open is at if o'clock, except on Saturdays the close is at noon, if they remain close when the noon, o'clock, except Saturdays they open at all. all. There are are practical practical reasons reasons for the limited for the limited trading trading day. open at day. at the brokers are five hours at the ring, brokers are likely to quit the hours to five Even with only ring, only likely quit the thoroughly exhausted, if the the market has been active floor thoroughly active and the the volume floor exhausted, if of orders orders large. large. A second reason reason is is closely closely linked with the the fundamental linked with of purpose of the exchange's existence. To fulfill its economic purpose, fulfill existence. of the its exchange's purpose, purpose prices registered the exchange floor should be representative of actual on floor the of actual exchange representative prices registered session would not only supply lethfor lethlong session only make for supply and demand. A long argic trading during part of the day but would also increase the of the also increase the day argic trading during part for opportunity for price manipulation. The more active the market, the active the market, the price manipulation. opportunity more likely likely are are prices prices to to be representative representative of of effective effective demand and supply. supply. It that execution execution of ring is is only at the It must be remembered that orders at of orders the ring only of a a of the a part part of the story story of a trade. trade. After After trading trading has ended for the day, day, all all for the trades remain to to be be cleared cleared and margins margins must be be adjusted with the cleartrades with the clearadjusted ing house. Long after the the brokers brokers have left the exchange, will be be left the Long after ing exchange, lights lights will ,

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burning in in the of commission houses, bookkeeping staffs staffs the offices offices of houses, where bookkeeping burning are posting credits credits and debits to customers' preparing are posting debits to customers' accounts accounts and preparing day. that day. which have been carried carried out that hours correspond to banking hours. Finally, exchange to hours must hours. correspond banking Finally, exchange Limitation on Daily Daily Price Price Fluctuations. Fluctuations. The exchange rules also fix also fix Limitation exchange rules aa limit limit on price price fluctuations fluctuations during anyone trading day. The limit varies one limit varies during any trading day. among the the Chicago of Trade, for example, it the exchanges; Trade, for exchanges; on the Chicago Board of among example, it in the is per bushel bushel for for wheat. wheat. When prices 10 cents the course cents per course of is 10 of anyone any one prices in of the day have risen or fallen above or the closing prices of the preceding or fallen below the risen closing prices day preceding further trading day to full extent of the the limit, limit, no further trading is the is permitted on the to the extent of the full day permitted are within the exchange for that day day except prices which are limit. The at prices the limit. for that exchange except at purpose of this rule is to allow operators to obtain a objective to a allow market obtain more rule is to of this operators objective purpose have factors the underlying factors precipitated the heavy perspective on which the the heavy underlying precipitated perspective either buyers fluctuations, to to prevent prevent panic panic among buyers or to permit permit or sellers, sellers, to fluctuations, among either as well as the the clearing to the exchange exchange commission commission houses, houses, as house itself to well as itself the clearing to variation prepare additional calls for variation margins, and to enable for market additional calls margins, prepare calls. exchange traders to to prepare prepare to to meet such calls. exchange traders origin of of this this limit limit on price price fluctuations fluctuations on any is interinterThe origin any given given day day is in esting can be traced to the First World War. Late in 1916 there had First 1916 there and traced to the can be esting in the been frequent frequent rumors of of peace. peace. Large Large amounts of of cotton cotton in the South, been South, in of held in anticipation of higher prices on the cessation consequently, were held cessation were the anticipation higher prices consequently, of hostilities, because because during during the the war relatively relatively little little cotton cotton had been of hostilities, shipped to Europe Europe through through lack lack of of cargo 1917, 1, 1917, cargo space. space. On February February 1, shipped to was issued by the the German government that submarines that an announcement was issued by government all allied would sink sink without without notice notice all allied and neutral ships found in in certain neutral ships certain at the zones. the morning morning following following this this announcement at the opening of zones. On the opening of the New York Cotton Cotton Exchange the price of cotton dropped $25 a bale the of cotton bale the a Exchange price dropped $25 (5f cents per per pound) pound). This was, was, until until then, then, the the most drastic drastic drop within drop within (5^ cents a single day in in the the history history of cotton prices the exchanges. of cotton a a prices on the single day exchanges. Within a few days a very substantial part of the price decline was regained. substantial of the a few decline days very part regained. price Subsequently, the federal federal government to the cotton cotton exchanges government requested requested the exchanges to Subsequently, the fluctuations. Since provide for for limitation in daily price fluctuations. that time similar limitation in similar Since that daily price provide limitations have have been been adopted by all exchanges. The following rule, all limitations most following rule, adopted by exchanges. which relates relates to to limits, is typical: is which limits, typical: notices of of the of orders orders the execution execution of notices

.

of hides Trades for future delivery hides in in any not be made during for future shall not Trades delivery of any month shall during anyone day at prices varying than two cents per pound more than one at cents or below day prices varying per pound above or any the lowest lowest price price of the closing range of of such by the such month as as established established by the Comof the the closing range mittee on Quotations Quotations at the close close of of the the preceding preceding business of the the at the business session session of mittee in Exchange. The foregoing limitations shall not apply to trading in the delivery shall not to the limitations foregoing trading Exchange. apply delivery for delivery month during the period period in in which Transferable Transferable Notices therein Notices for during the delivery therein the may be issued, unless otherwise determined by the Board. otherwise determined unless issued, by may At the of the the Board, Board, any limit of trading herein herein provided provided for may of trading the discretion discretion of for may any limit

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Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

from time time to to time tin.e and without without previous previous notice notice be changed from suspended or changed or suspended temporarily modified. modified. temporarily note of of aa majority majority of of those those present, less than in no event event less The affirmative affirmative note present, but in in twelve of the the Board, Board, is is necessary necessary to change in the foregoing to effect the twelve members of effect any foregoing any change provisions. provisions. It is aa strict rule, enforced enforced under penalties, penalties, that trades on the the It is that no trades strict rule,

exchange may be be made before before or after trading trading hours. Brokers gather gather hours. Brokers or after exchange may the sets at the ring at the opening opening awaiting awaiting the the stroke the gong which sets the at of the the ring stroke of at the gong the of the exchange in motion. Promptly at the closing hour, the machinery in the of at the motion. hour, closing machinery exchange Promptly cessation of of trading trading is is proclaimed proclaimed by by the the sound of the gong. All unexecessation of the gong. All the cuted the opening opening of on the following cuted orders of the orders must await await the the exchange following exchange business business day. day. Statistical Information. After After the the close the business session Statistical Information. of each each business session the close of exchange publishes sheets, compiled under direction of the secretary, in the of direction under sheets, secretary, in exchange publishes compiled with a complete summary of the day's trading is given, together with which a of the is given, together day's trading complete summary the latest latest statistical relating to to the production, movement, the statistical information information relating the production, movement, of and supplies of the commodity. These sheets are for the convenience of of the for sheets the are commodity. supplies members. In addition, many exchanges publish periodical compilations addition, many exchanges publish periodical compilations in great great detail. of of information in of statistical statistical information detail. An extended description description of this this phase phase of of the the exchange's exchange's activities activities will will be found elsewhere. elsewhere. s8 Standard Contract. commodity exchange of a fixed fixed unit Contract. Each commodity has a unit of exchange has trading. The unit unit is is prescribed prescribed in in the the by-laws in the the trading. by-laws and incorporated incorporated in futures contract. contract. The amount traded traded on each contract futures thus always contract is is thus always fixed and certain. for the fixed certain. One contract receipt of contract calls calls for the delivery or receipt of one delivery or unit of Every trade trade is unit. 99 unit is made in in terms the conimodity that unit. of the terms of of that commodity..•JEvery Price Price Quotations. the trading trading unit unit is in the as the the interest is prescribed interest Quotations. Just Just as prescribed in of uniformity, uniformity, so limits of of price price quotations in fractions or in fractions deciof so minimum limits or deciquotations are established. established. Offers in terms terms mals of of aa cent mals cent are Offers are are made and accepted accepted in of cents fractions of of aa cent cent per per pound pound or bushel of the standard unit. cents or of fractions of the of or of or bushel standard unit. illustration will will make this this clearer. clearer. The New York Cotton Exchange An illustration Exchange in fractions to be be made in per requires bids bids and offers fractions of offers to of 1/100 of a a cent cent per 1/100 of requires pound. Let us say that a broker sells "ten at 21.85. This "ten Let sells November" at that a broker us 21.85. say pound. in November, means that that his his contract is to to sell, November, ten ten lots lots of of contract is for delivery sell, for delivery in 100 bales each, each, at at aa price price of of 21 21 and 85/100 per pound. pound. Or, 100 bales cents per let us us Or, let 85/100 cents say a rubber exchange broker sells "five December" at 18.05. His contract a broker sells "five at rubber His contract 18.05. say exchange is to to deliver pounds of of rubber rubber-five is deliver 112,000 five lots-and lots and for for this this the the buyer 112,000 pounds buyer will pay pay at at the the rate rate of of 18.05 cents per per pound. pound. will 18.05 cents Trading Months. At the the beginning beginning of month, futures be of each month, futures may Trading may be in anyone sold for in that that month or or in for delivery a stated sold of a stated number of of any one of delivery in succeeding calendar months. In some commodities, active trading is months. calendar active commodities, succeeding trading is 88 See V. See Chapter Chapter V. 9 For contract 9For contract units units on various various exchanges, VII. see Chapter exchanges, see Chapter VII.

Organization Organization and Operation Operation

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carried carried

on in in every every month of the year. year. In others, of the either through others, either through custom or of harvesting or because because of harvesting and marketing peculiar to conditions peculiar to marketing conditions the commodity, the active trading is centered in a few months and there is active is in a centered few there is commodity, trading

little buying buying or or selling of contracts contracts for the inactive months. in the for delivery inactive months. selling of delivery in Thus, the Chicago of Trade futures trading is is concentrated futures trading concentrated Thus, on the Chicago Board of in in four four months of of the the year year-May, July, September, and December; that that December; May, July, September, a vast is, a vast majority of the contracts are made for delivery in one of these of the contracts are for in these of is, majority delivery four four months. On some exchanges exchanges trading trading is far as is conducted as as far as eighteen eighteen in the the future. months in future. for Trading for delivery in in the the current to an end on the the current month comes to Trading delivery last day issued for last transferable notices notices may for delivery day on which transferable may be issued delivery during during the current next calendar becomes the the earliest the current month. The next calendar month then then becomes earliest for trading; month for trading; meanwhile the the most remote calendar of calendar month of in which trading those trading is is carried month. those in carried on moves up the last last delivery as the delivery month. up as most Calls. Trading on of the exchanges is opened daily by a Calls. of the is "call," exchanges Trading opened daily by "call," which resembles It is is an orderly means of by months. months. It estabresembles an auction auction by o estaborderly in at the the opening opening for for each each delivery month in turn, instead lishing prices at instead turn, lishing prices delivery of at once into into general of plunging plunging at general trading. trading. As soon as the opening as the gong opening gong the of current month the name of the current or the first month in which has sounded, or the first in has sounded, the trading is being being conducted conducted'is by card buy exhibited by is exhibited card or or indicator. indicator. Bids Bids to to buy trading is that month only. and offers offers to'sell then made for for that These mayor may to sell are are then or only. may may not result result in in trades. trades. In In either either event event the not the market quotations for the call the call quotations for in terms hours are are thus thus publicly publicly established terms of of actual actual transactions established either either in hours transactions or in in terms terms of of bids bids and offers. After all bids and offers for one month all bids offers. After offers for or have been concluded, the call proceeds to the next month, have so on concluded, the call proceeds to the month, and so in which the through the list until until the the last last month in the commodity be the list commodity may may be through call is is then adjourned and regular trading traded has has been reached. reached. The call traded adjourned regular trading a third, begins. A second, is held during call is third, call second, and on some exchanges exchanges a during begins. each day. each day. at the or pit Trading Rules. The scene scene at the ring ring or to the the onlooker onlooker pit must seem to Trading Rules. one utter confusion. confusion. Numerous brokers brokers are out simultaneously are crying of utter one of crying out simultaneously in what appears their bids bids and offers. voices mingle mingle in to be aa meanoffers. Their voices their appears to ingless babe!' Excited brokers shout and gesticulate, reiterating shout brokers babel. Excited the same gesticulate, reiterating the ingless all that to all bid or offer and apparently oblivious to that is is going bid or offer them. going on around them. apparently oblivious waved, and two two brokers brokers jot jot something on pads. Nobody else are waved, Hands are something pads. Nobody else But is one of of attention to them. the scene is confusion only pays any to them. the scene for attention only for pays any those not understand understand the the machinery machinery of is the ring. of the those who do not ring. An airplane airplane is in an incomprehensible device to the tyro in aeronautics; knows that he device to the that aeronautics; tyro incomprehensible the machine is understands little of or nothing little or is capable of the flight, but he understands nothing of capable of flight, in general the reasons reasons why why the the monoplane monoplane has has replaced replaced the biplane in the biplane the use, general use, it it the form of the plane is it is, why it flies, or it is navigated why how is is what it the form of the flies, is, why navigated plane why it is in flight. flight. Similarly, the spectator that an while it is in while here, who knows that Similarly, the spectator here, little

160

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

exchange is nation-wide-or, rather, a world-widemarket world-wide-market place, place, may is a nation-wide or, rather, exchange may bewildered by by what he he sees. sees. be bewildered As aa matter matter of of fact, fact, the the written written and unwritten rules rules which govern govern trading at the the ring ring make for for the the highest highest degree of certainty fairness trading at degree of certainty and fairness first place, every offer in trading. In the first to sell and every bid to buy buy the offer in to sell bid to trading. place, every every be announced by by outcry across the ring. This rule causes a babel must be across the rule a causes babel outcry ring. of voices, for an open Every trade trade and the the price price it makes for of voices, but it open market. Every is certain certain of at it is is made is of registration. registration. The market becomes becomes an at which it accurate recorder recorder not not of of some prices, prices, but but of a function it of all all prices, accurate a function it could could prices, if never never perform, perform, if private private trades trades or or trades trades away the ring ring were away from the permitted. permitted. What happens happens when a bid bid or or an offer the din' voices, offer is is made? In the din of of voices, the acceptor how is is the to be determined? The by-laws by-laws provide for every acceptor to provide for every An to contingency. offer to sell is open to the first buyer meets the offer sell is to the first the who meets contingency. open buyer A bid must closed price. bid be closed with the first broker who offers a lot at the with the first broker be lot at offers a the price. price. Knowing that, much of of the the apparently named price. shoutmeaningless shoutKnowing that, apparently meaningless A ing and gesticulation simple of comprehension. shout or becomes of or a gesticulation simple comprehension. ing the hand may may be only the effort of a broker to attract another's effort a broker to another's wave of of the the of attract only attention so that aa transaction transaction may may be made between them. them. attention so that buying and selling prices being cried out simultaneously by cried With buying selling prices being simultaneously by market at many brokers, can there be a representative price at any be how there a many brokers, representative price any given time? May not not trades trades be be consummated on opposite sides of of the the time? May given opposite sides ring at wide variations in price? Again the rules govern. All trades All in at variations rules trades must wide the govern. ring price? Again be made at market. At any given time time the the market rests rests between an at the the market. be any given upper and aa lower For illustration, the lower lower limit be taken taken limit may lower limit. limit. For illustration, the may be upper as highest price price which any buyer is bidding and the upper limit as the limit is as as the the highest bidding any buyer upper to A is the lowest price at anybody is offering to sell. Say is offering is sell. at lowest which the offering Say anybody price offering to sell a lot May cotton cotton at at 29 cents. So long as he continues continues this lot of of 10 10 May this to sell a 29 cents. long as B cannot be be made at higher figure. figure. Similarly, if is bidding offer, aa trade if at a a higher is trade cannot offer, Similarly, bidding for May May cotton at 28.90 28.90 cents, trade can be be made at lower price, price. at a a lower cotton at for cents, no trade while he he maintains maintains his his bid. bid. The lowest highest bid bid conlowest offer offer and the the highest conwhile stitute the price limits limits for for the the market at the moment. The purpose purpose of of at the the price stitute the rule, of course, is to fix prices as closely and definitely as possible. fix is to as as the rule, of course, definitely closely possible. prices In describing describing the the work of of the the floor in settling floor committee, its function in committee, its settling priority in the case of disputes over simultaneous acceptances of bids the case in of of bids or or disputes acceptances priority offers was mentioned. There is one case in which the matter may be in case is the offers may decided without without recourse recourse to to this this committee. A offers May cotton offers 10 10 May decided cotton and X and Y simultaneously simultaneously meet the the price, price, X bidding bidding for for 10 10 contracts contracts All or any of a lot and Y for for five. has the the priority. priority. All part of lot which five. Here X has any part his lot offer his lot "all "all or or none." is offered may be be accepted. seller cannot offer none." is offered may accepted. The seller all and the for all If there are acceptances, one for part If there are simultaneous acceptances, the other other for for part of aa lot, lot, the the former former prevails. prevails. of

Organization Organization and Operation Operation

161

in a transaction The two brokers brokers involved in transaction make notes notes immediately immediately of particulars of the trade trade which which has has been consummated, both of the the particulars of the consummated, and both to buyer seller are careful to compare these. In case the notes do not and are careful seller In these. case the not notes buyer compare member to agree, the who claims to made the purchase or sale is the have the agree, purchase or sale is required by rule rule to to close close out the the contract contract immediately market, at the the market, immediately at required by of leaving the question of responsibility for loss to be determined by arbithe for loss to question responsibility by arbileaving A more informal tration. informal in common practice is for the method tration. practice is for the two to share the brokers to the responsibility responsibility by by halving halving the the profit loss resulting resulting brokers or loss profit or from closing out the disputed trade. out the trade. closing disputed Commissions. Minimum commissions are prescribed for for all are prescribed all exchange exchange is established terms of the standard unit unit in terms members. The commission is established in of the not a of trading. Thus, a resident of the States is not a member a resident of United is States who of the trading. Thus, of of Trade and wishes of the the Chicago Chicago Board of pays a commiswishes to to trade trade there there pays sion of $15.00 the purchase purchase or sale, for bushels for the for his his account, of 5,000 sion of or sale, 5,000 bushels account, of $15.00 for all exchanges for of commissions for orders executed on account of wheat. On all orders exchanges contract unit of a foreign foreign buyer buyer or seller are higher per unit than the the rates of a or seller are higher rates per contract prescribed for residents, the commission charged a member of for whereas the of residents, charged prescribed the exchange is one-half that is by the the that is paid by the is one-half which non-member. exchange paid On many instead of flat rate all contracts exchanges, instead of aa flat rate applicable to all contracts many exchanges, applicable to at all prices, prices, aa graduated scale of commissions is On the is established. at all of scale established. the graduated the commission is $17.50 per minimum is New York Cotton Exchange, the $17.50 per Exchange, all orders of 30 contract orders executed executed at at aa price price of less. contract on all 30 cents cents per pound or less. per pound If the price price exceeds exceeds 30 per pound, pound, there If the there is is an additional additional $2.50 for 30 cents cents per $2.50 for in price. each cents or portion of 5 cents such excess 5 cents or portion of 5 cents of excess in of such each 5 price. for other Floor brokers, who make aa specialty orders for of executing other Floor brokers, executing orders specialty of members and who "give up" or their principals for clearing house for their name or clearing "give up" principals rates of commission. These brokers brokers correspond purposes, receive receive lower lower rates of commission. correspond purposes, with the the "two-dollar brokers" on the the stock orders "two-dollar brokers" stock exchange. They execute orders exchange. They at the ring for for fellow members, but they they do not become obligated at the ring fellow members, obligated on are the contract. Instead, Instead, when confirmation confirmation slips are exchanged, give the contract. they give exchanged, they slips up the the names of of their their principals principals and then then step the transaction transaction of the step out of up for X, entirely. A, a floor broker, buys from 10 May rubber for X, an B 10 a floor broker, A, May buys entirely. exchange Normally the buyer, A, and the seller, B, the the member. seller, B, would buyer, A, Normally exchange exchange confirmation the real real member as the confirmation slips. "gives up" up" X as exchange slips. When A "gives B. Since the floor floor in interest, contract will will be be signed signed by by X and by by B. in the contract interest, the his broker's work is thus confined confined to to the the making making of the trade trade at ring, his of the at the the ring, broker's is thus the member commission is is lower. lower. On Commodity Exchange, Inc., Inc., where the commission Commodity Exchange, floor rate is is $10.00 per contract for hides and rubber, the floor brokerage for hides contract rate rubber, $10.00 per brokerage member rate is $2.25. On the New York Cotton Exchange, where the the rate is $2.25. Exchange, rate closed at at 30 pound or under, cents per rate is is $17.50 for contracts contracts closed 30 cents under, the $17.50 for per pound transaction floor brokerage brokerage rate rate is the price of such transaction does not of is $1.75, the floor when $1.75, price exceed 30 cents per pound; when the price of such a transaction exceeds of the price exceed 30 cents per pound;

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Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

for each 5 cents 30 cents per pound, pound, there there is is an additional cents or or cents for 25 cents 30 additional 25 cents per in portion of 5 cents of such excess in price. of 5 cents of such excess price. portion

to another. Contracts are are often often switched from one delivery switched from Contracts delivery month to his to maintain his May may may decide, before May 10 May of 10 seller of The seller arrives, to decide, before May arrives, does so by "covering" buying 10 May and selling, short position. He does 10 May or buying short position. so by selling, say, say, "covering" or 10 October. Although this is but a continuation of his original position a of his 10 October. Although this is continuation original position so far as principal is is concerned, the subsequent purchase and the the as the the principal so far concerned, the subsequent purchase to sale are regarded as transactions and therefore subject to regular sale are new therefore as transactions regular regarded subject commission rates. rates. Floor. Though may Members On The Floor. of an exchange exchange may any member of Though any carried execute orders orders at at the the trading trading ring, ring, in practice the trading is is carried in actual execute actual practice the trading in the the ring. by specialists. of exchanges rarely appear ring. on by Many members of exchanges rarely specialists. Many appear in classes In the group of of traders traders around the the ring ring will will be be found two two broad classes the group those whose whose business business it orders of brokers: brokers: one one consists consists of of it is of those is to to execute execute orders for customers of the houses which they represent, for for other other members or or for customers of the houses they represent, the other of operators deal on their other of operators who deal their own account. the account. or floor their Ring or floor brokers brokers representing representing commission houses devote their houses devote Ring time entirely to executing the orders which come in from customers to of the in orders customers of entirely executing their trade for for their their own account usually floor floor their houses. are usually houses. Members who trade account are at a in contract the buy or sell in anticipation of closing the contract at a speculators who or sell of buy closing speculators anticipation in a is higher or lower price within a short time. The floor speculator is in and or lower price within short time. floor speculator higher out of of the the market market continually. is alert to close his if the the price price to his trade, He alert close is trade, if continually. goes against him. does not seek large profits on a single transaction, a him. not seek He does transaction, goes against large profits single but is is content content with with small from many transactions. but small gains gains from many transactions. floor speculator rarely trades trades at bid or price, but but at the or offered offered price, first bid The floor the first speculator rarely him the he tries tries for for aa more advantageous figure that will enable to the that will to make he enable advantageous figure turnover of his trade quickly and profitably. In Chapter Ill, on specuturnover of his trade quickly specuprofitably. Chapter III, lation, the the part part played played by by those those who make the market are in considered in the market are considered lation, floor speculator is a useful factor in making the market. market. a in the more detail. detail. The floor is useful factor making speculator When trading inactive, the the market thin, far apart, is inactive, bids and offers offers far thin, and bids trading is apart, an important part of the buying power floor speculators may supply floor the of may buying power and speculators supply important part the selling pressure bring bids and offers together which a the bids offers bring together and make a selling pressure closer market. closer market. at the Contract Slips. Trades are the ring but brokers brokers do are made at viva voce, Contract Slips. voce, but ring viva not rely rely solely on their for details of the transaction. their for not of the Each memories details transaction. solely a broker carries with a trading card, one side of which is ruled in him side of is broker carries in trading card, red and the in black. black. Sales noted on the red, in red, side in Sales are are noted the side side ruled ruled in red the other other side on the side ruled in black. These are given purchases ruled in black. are side memoranda to the purchases given to during the the day, day, and contract them. The clerks during clerks contract slips are made up up from them. slips are are slips are short forms, with spaces for the of short memorandum with the of seller for seller names forms, spaces slips buyer, the the number of of contracts traded in, month, and buyer, the date, contracts traded the delivery date, the in, the delivery month, and the the price. price.

Organization and and Operation Operation Organization

163

the close close of of the the day's day's trading, trading, slips slips properly properly filled filled in in with with the the data data At the for each each trade trade are are ready ready for for the the brokers' brokers' signatures. signatures. The seller seller will will for present his his slip slip to to the the buyer buyer for for signature, signature, and the the buyer's buyer's slip slip will will be be present signed by by the the seller. seller. The signing signing of of the the slips slips constitutes constitutes an enforceable enforceable signed the parties. parties. Later Later the the particulars particulars of of the the contract, contract, as as contract between between the contract the slip, slip, are are posted posted on the the books books of of the the commission house. house. evidenced by by the evidenced slips are are also also used used for for aa purpose purpose more germane germane to to our our interest. interest. DeDeThe slips tails of of the the contracts contracts they they represent represent are are also also entered entered on separate separate sheets sheets tails of purchases purchases and sales, sales, which are are sent sent to to the the clearing clearing house. house. This This is is aa of the of separate organization, but one exists for the purpose of simplibut which exists for purpose simpliseparate organization, between members fying expediting the settlement of contracts and, contracts of and the settlement and, fying expediting in addition, addition, of of guaranteeing guaranteeing all all deliveries deliveries and all all payments payments on all all in cleared contracts. contracts. The clearing clearing house house and its its work will will be be the the subject subject cleared of the the following following chapter. chapter. of

[

CHAPTER

CHAPTER

IX J )

The Clearing Relationship Its Relationship House and Its Clearing Rouse to the the Exchange Exchange to

Just as the medieval fair fair was aa prototype prototype of of the the commodity the medieval exchange, commodity exchange, Just as a clearing in these ancient markets markets appear appear the rudiments of so of a these ancient the rudiments so in system. clearing system. a means of debts growth of current debts and current the growth of commerce, of offsetting With the commerce, a offsetting fair credits among among merchants merchants and bankers bankers became as necessary to to the the fair as necessary credits as fair had become indispensable to the the economic life life of of the people. people. as the the fair indispensable to The fairs fairs of Ages achieved their their greatest growth in the twelfth of the the Middle Ages greatest growth centuries, and toward the period an efficient efficient this period the end of of this and thirteenth thirteenth centuries, of the four clearing at the the fairs fairs of Lyons. After After each of of Lyons. evolved at clearing system system evolved fairs held there there during the year, year, settlement settlement days established on fairs held days were established during the which . . . Every Every banker came to to these these settlements settlements prepared a balance sheet sheet prepared with a in of his debits and credits. Three steps were required in completing settlements; of his debits credits. required completing settlements; steps first, the acceptance acceptance of bills by by those those upon the of bills first, the they were drawn . . . the upon whom they in comparison of accounts, -and finally, .the settlement in money of which very of -and settlement of accounts, money finally, *the very comparison little was ultimately ultimately required. required. 11 little .

.

.

.

.

.

Clearing houses for the offsetting offsetting of banks for the of debits credits among debits and credits among banks Clearing houses have long established institutions in the banking field. Efficient in been institutions have established the field. Efficient long banking at aa later later date date established clearing houses houses were at in commodity established in commodity markets clearing in They clear clear both the the standard contracts in the States. They the the United States. contracts and the money accounts of each commodity exchange to expedite both deliveries of to accounts deliveries money commodity exchange expedite such contracts. contracts. and collections collections under such The exchange clearing house house of bears the of each each commodity the same exchange clearing commodity market bears relationship to its affiliated exchange that the financial clearing house to its affiliated that financial the relationship exchange clearing house bears to the bears to banks. the banks.

The exchange exchange clearing however, performs sevhouse, however, clearing house, performs sev-

eral additional additional functions. functions. It not only money accounts eral all money It clears clears not accounts (debits only all (debits and credits) all offsetting members, but also contracts of of its its members, also guarantees credits) and all offsetting contracts guarantees performance of of them them-aa function that that no other house system other clearing performance clearing house system undertakes. This function function isa part of insurance services undertakes. is a part of the the important insurance services important i 1

Vol. Vol.

C. A. C. A. Conant, Principles of Money and Banking Banking (New York: Harper Conant, Principles of Money (New York: Harper & Brothers) Brothers) , 11, pp. 239, 239, 240. 240. II, pp. ,

164 164

The Clearing Clearing House

165

of of

commodity exchange exchange markets markets-the payment the insurance insurance of of delivery commodity delivery and payment on delivery delivery under under every every cleared cleared contract. contract. a work the of During the course of a day's on the course the exchange, a broker broker executes executes day's During exchange, a and sale many contracts of purchase sale between of the exchange. contracts of between of the members many purchase exchange. Some of of his sales for his sales for certain certain customers for for deliveries in specific deliveries in months, specific months, will probably be to to a member from whom he also has bought bought during also has will probably the during the of other day, for the account of the account other customers, other contracts contracts for for delivery in customers, other day, for delivery in the Since the the same future months. months. Since the purpose purpose of to facilitate of an exchange is to facilitate exchange is the business business of of its its members, members, under such circumstances the offsetting of the circumstances the offsetting of in the such purchase purchase and sales contracts in the same delivery delivery months months against against sales contracts one another is mere common sense, sense, for for "it insist upon upon "it would be as as idle another is one idle to to insist an actual actual delivery delivery and counter-delivery counter-delivery between the the members of of the the banks it to exchange as it be to compel the to carry to each other's bankas be the to would to bankother's carry exchange compel for by ing house the actual money money called called for received the actual the checks checks severally by the severally received ing house 2 by each upon the other." 2 each the other." by upon Contracts. Before Direct and Ring Ring Settlements Settlements of Before describing the work Direct of Contracts. describing the it may well to of house, it may be be well methods to mention briefly of the the modern clearing clearing house, briefly methods of settlement (of offsetting contracts) which prevailed before modern before of settlement (of offsetting contracts) prevailed houses exchange clearing houses were developed. Without clearing were houses, developed. clearing houses, exchange clearing with one one brokers were were accustomed accustomed to to settle their offsetting contracts with settle their brokers offsetting contracts another by what they they called called direct "rings." "washes" and by direct "washes" another by by "rings." in April Suppose broker on aa grain April has has on his his books books sales a broker sales exchange in grain exchange Suppose a contracts to deliver many thousands thousands of May wheat and also of bushels of May deliver many bushels of also contracts to purchase contracts for the receipt of many thousands of bushels of May of of bushels contracts for of the many receipt May purchase wheat wheat. Many Many such offsetting contracts contracts of of purchase sale of of May such offsetting wheat. purchase and sale May wheat to day for the have by other other members from day the accounts also been made by accounts have also day to day for of their various various customers the month preceding the delivery the the customers during of their during preceding delivery month-May. settlement by by offsetting sales and purchases were sales If no settlement month May. If offsetting purchases were maintained on all possible before delivery, margins would have to be to all possible before delivery, margins until delivery delivery time, time, that May. Then such contracts until that is, the month of of May. such contracts is, the of would come the the business business of of the the making making and receiving of deliveries and deliveries would receiving for and counter-deliveries paying for such deliveries counter-deliveries deliveries counter-deliveries counter-deliveries and paying and for them. weighing, billing, collecting for them. If, however, and of of sampling, If, however, collecting sampling, weighing, billing, for the broker A has has sold sold for for certain the delivery of contracts for certain customers contracts broker delivery of has May wheat to broker and for other customers has purchased from B B for other to broker purchased May contracts for for delivery of May May wheat, wheat, these these contracts contracts between A and B contracts delivery of can be be settled without the the expense and delay of duplicate deliveries and settled without can delay of duplicate deliveries expense of like duplicate collections by the offsetting of like purchases against the like sales sales purchases against like offsetting duplicate collections by and by by the payment of merely the the differences prices based on the of merely differences in prices the payment the volume involved contracts. in such such contracts. involved in volume sold his contracts to If the prices prices at his May May contracts to B are higher than than are higher at which A sold If the 2 Springs v. lames, 137 137 Springs v. James,

no

App. Div. Div. 110 (121 N.Y. Supp. (121 N.Y. Supp. 1054). 1054). App.

166 i66

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

the prices prices at at which which he he made his his May May purchases bill B the B, he can bill purchases from B, will payment by by B of the differences merely for the the cash cash difference, of the differences will difference, and payment merely for close these transactions transactions between between them. them. Thus, to B A's sale sale to close these Thus, assuming assuming A's to been 5,000 bushels of May at $1.50 a bushel and his purat a bushels of wheat bushel his to have have been 5,000 $1.50 May purchase from n to have have been been 5,000 bushels of wheat at bushel, of May at $1.48 a bushel, chase from B to 5,000 bushels $1.48 a May wheat or $100, per bushel, bushel, or by B to to A avoids all the the payment payment of of 22 cents avoids all cents per the the $100, by of and counter-delivery and payment and unnecessary \!xpense of delivery delivery counter-delivery payment unnecessary expense counter-payment. the simple, simple, common-sense method of is the of settlement settlement counter-payment. This is of all such the method formerly used for direct for such contracts. used direct setof all contracts. This was the setformerly of out of purchases against corresponding sales. tlement or It tlement or "washing" "washing" purchases against corresponding sales. It or a could be effected readily, whenever aa sale purchase of sale or a purchase of a a definite could be effected readily, definite in quantity of a commodity in any delivery had been offset by aa a month of offset commodity any delivery by quantity the in quantity in the same month between the counter-transaction for the same the for between the counter-transaction quantity same parties. parties. of making direct or practice of making direct or "wash" settlements, Under this this practice settlements, however, however, only occasionally purchases and sales between the brokers balsales would the between brokers balpurchases only occasionally ance as to to quantity. might have have bought bought 100,000 bushels of of ance exactly 100,000 bushels exactly as quantity. A might B and have sold him 110,000 bushels. 100,000 May wheat from have sold bushels. wheat The 110,000 100,000 May direct settlement bushels could by direct settlement and the the mere payment closed by could be closed of bushels payment of short 10,000 the in cash, cash, leaving leaving A still still short bushels for for delivery differences in the differences 10,000 bushels delivery to B. toB. still obligated Though is thus thus s.till bushels of May to deliver deliver 10,000 of May 10,000 bushels obligated to Though A is as the wheat B, A's A's books books may may show that, that, as result of of a the result a similar similar settlesettleto B, wheat to of contracts contracts with with C, C, A is is aa net net purchaser of 10,000 bushels from of bushels ment of 10,000 purchaser C. A's books, consequently, show his present position to be one in his to in be which C. A's books, consequently, present position he has no real real interest in delivery. delivery. He has to B and bought bought from has sold sold to interest in has no he in in the same month. If (10,000 bushels) for delivery for the If month. like quantities C like delivery quantities (10,000 bushels) that will A can can bring bring Band together, so that C will deliver directly to B, A can so to C deliver can B and together, B, directly withdraw completely completely from these these transactions. transactions. withdraw these contracts through aa three-party processs contracts through settlement processs The clearing of these clearing of three-party settlement which could could not not be be effected effected by by direct direct settlement settlement was accomplished accomplished (before (before through the formation of "rings." clearing houses were developed) of houses were the formation If, developed) through "rings." If, clearing for example, Smith Jones $10, Jones owes Brown $10, and owes Brown for $10, Jones $10, Jones example, all three three debts without paypayowes Smith aa like like amount, debts can be canceled canceled without owes amount, all all three of any any money money if if all three parties parties come together and agree to offset to offset ment of agree together all three debt however, all three parties their debts, were to to pay debt. If, debt against If, however, debts, pay their parties lWere against debt. each one would be be aa mere mere conduit for for transmitting transmitting each debtor's debtor's $10 each one $10 to his his creditor. simplification of of the by having all three all the procedure creditor. The simplification three to procedure by having is obvious. obvious. Just pressing parties come together together is as obvious obvious and much more pressing parties Just as was the the need need for for some such such system, the article be cleared article owed or or to cleared to be was system, when the not money, money, but but standard standard contracts deliveries of large quanwas not of deliveries was contracts covering covering large quanof standard grades of wheat or cotton or any other bulky, but tities of or of standard or tities cotton wheat grades any other bulky, but

The Clearing Clearing House

167

homogeneous commodity which is is transferable transferable only by time-consuming time-consuming only by homogeneous commodity samplings, weighings, weighings, loadings loadings and unloadings unloadings into wareand expensive into wareexpensive samplings, houses, and payment payment and counter-payments after deliveries and counterafter deliveries counterhouses, counter-payments deliveries. deliveries. old form of ring settlement settlement did not not differ principle from the the in principle The old of ring differ in simple financial transaction described above. It involved one more eledescribed financial transaction above. It involved elesimple as well well as prices, were were to to be ment, however, however, since deliveries, as since deliveries, as prices, be adjusted. ment, adjusted. illustration of ring settlement by the payAn illustration of ring the paysettlement by the offset offset of of contracts contracts and the price differences differences is is given in the following typical transaction: in ment of of price the transaction: given following typical sells 5,000 .... . . A sells 5,000 bushels bushels of of wheat to to B for bushel, B sells sells to to C for $1.01 a bushel, $1.01 a sells to C sells sells to to D for for $1.02, $1.02, D sells to E for for $1.05, for $1.04, to F for sells to $1.05, $1.04, E sells and F in in turn turn sells sells to A for for $1.00. $1.00. Of course, to A $5,050, the course, B could pay $5,050, the pay to his of B purchase price of 5,000 bushels at $1.01, and C could pay $5,150, his purbushels at 5,000 $1.01, $5,150, purchase price purpay chase price price and so so on. involve the passing of larger chase the passing of considerably on. This would involve considerably larger in funds than than if checks were drawn simply price differences. differences. A in funds if checks to represent simply to represent price this case this case has has aa profit profit of of one cent bushel, B aa two-cent profit, D aa cent on each bushel, two-cent profit, two-cent six one-cent profit, profit, the profits of two-cent profit, profit, and E aa one-cent all being the total total profits of all being six cents. But C had a a five-cent losses five-cent loss, the total cents. one-cent loss loss, making the total losses a one-cent loss and E a making six cents, All that those the profits profits and losses losses being being equal. that is is necessary six for those is for cents, the equal. All necessary is to pay pay the the differences to those and settlement who have losses those who have profits losses to differences to profits 3 of the ring is of the ring is made. 3

for for $1.03, $1.03,

As aa consequence, consequence, those those transactions transactions which could not be be offset offset directly could not directly were cleared the "ring" by "washes" cleared through "washes" -with with other other members were by through the "ring" wherRing settlements, however, could be be made only by aa volunvolunever possible. possible. Ring ever settlements, however, only by by comparison of all trades. After exchange hours, broktary effort all After of trades. and effort tary exchange hours, brokby comparison all contracts repair to to the the "ring ers' clerks to compare contracts ers' clerks would repair compare all "ring room" to on their books. After rings were formed, offsets made, which were were open books. offsets their After were made, formed, rings open checks and differences fixed, clerks clerks ran ran about about to delivering checks to other other offices, differences fixed, offices, delivering for balances for balances balances owing collecting payments payments for balances due from for owing and collecting various members. members. various exchanges assumed assumed an ever ever increasing As trading increasing magnitude, magnitude, howtrading on exchanges ever, became apparent apparent that that this this method of of clearing it became ever, it clearing was both cumbera large for of a some, al1d inadequate for the clearing large volume the some, time-consuming, arjd clearing of time-consuming, inadequate in of of contracts. Consequently, in order to facilitate settlements of differences order to settlements differences facilitate of contracts. Consequently, on both both direct direct washes washes and rings, rings, central central associations associations were eventually eventually member established to to which payments payments due from from one exchange to to another established exchange could be be delivered delivered and through through which which balances balances due to to other members could one. could be collected. this development slow one. collected. But this a slow could be development was a In the coffee, for for instance, instance, the was an arrangement In the case of coffee, first step was case of the first arrangement step under which the by the Coffee and Sugar Exchange (of York) the the Coffee New York) Sugar Exchange (of by s 8 Albert Atwood, The Stock Stock and Produce Produce Exchanges Exchanges (New York: Alexander Albert W. Atwood, (New York: Hamilton Institute, Institute, 1927) pp. 309, 309, !HO. 310. 1927) , pp. ,

168 i68

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

Corn Exchange in New York acted the central acted as as the central clearing Exchange Bank in agency clearing agency for the for the settlement of such such differences, the payment payment of of which which automatically settlement of differences, the automatically the exchange exchange contracts. contracts. Rings Rings were still by closed the closed still worked out, out, however, however, by the voluntary co-operative efforts the part of exchange members. Repreon efforts of members. voluntary co-operative exchange part Representatives of member firms the exchange firms met daily in a sentatives of a room of of the after daily in exchange after close of trading trading and endeavored endeavored to to trace through the the various close of trace contracts contracts through various in order present in to complete complete as many rings rings as members present order to as possible. as many possible. This was a a difficult in active active markets, markets, since be difficult operation since there there would be operation in so many so many contracts contracts outstanding not directly offset that a seller, in and not that a in offset seller, outstanding directly attempting to trace a contract back, might find that as many as 20 or contract as trace find that as or to more 20 back, might many attempting If even one of firms were involved. involved. If these firms of these firms had no representative to firms representative to firm approve the ring, it could not formed. A firm had a large the it could not be which ring, large approve of funds could, position in in the the market and was short therefore, conceal short of conceal could, therefore, position its its position position and prevent prevent the the formation of not revealing revealing of rings rings merely merely by by not all its to all its outstanding contracts to other members or simply by not sending other contracts outstanding sending simply by

a representative representative to to the the ring ring room. At the in earlier the same time, time, although although exchange permitted rules in earlier days days permitted exchange rules members who were parties parties to to aa contract contract to upon each other to call call upon other for for as margins to cover daily or hourly variations, as well as original to cover or market as well variations, daily hourly original margins variation If both it call for margins, it customary to call for variation margins only. If to became customary margins only. margins, variation and original margins were uniformly required, it it was claimed, were variation claimed, original margins uniformly required, financial requirements requirements would have have been so that none but the so great the financial great that most highly capitalized firms could do business. This disinclination to firms business. could disinclination most to highly capitalized call for original margins, margins, however, however, not not infrequently infrequently occasioned disasoccasioned disascall for original through failures failures and bankruptcies, bankruptcies, which expedited trous losses losses through the trous expedited the development of efficient clearing clearing system. of an efficient system. development Furthermore, since the ring the only the since Furthermore, ring frequently only means members frequently was the the failure a firm had of of adjusting differences speedily failure of firm of a effectively, the speedily and effectively, adjusting differences have been aa link in the the settlement serious which would have link in settlement chain produced serious which produced all in the proportion in the the chain. best, the of financial consequences to to all chain. At best, financial consequences proportion of and small contracts liquidated by by direct washes rings direct washes contracts liquidated relatively small comrings was relatively at anyone in pared to the total of outstanding contracts at time in of contracts total volume the to any one time outstanding pared each active month. active trading trading }i'unctions of the Modern Commodity functions of the Clearing House. The cumberCommodity Clearing of wash and ring settlements some, unorganized, and voluntary voluntary method of ring settlements some, unorganized, affiliassociations been replaced replaced by by settlement settlement through through clearing associations affilihas now been has clearing ated with with the various exchange exchange markets. markets. Instead forming rings rings or of forming or Instead of the various ated to house clerks making direct washes sending clerks from commission to and washes direct sending making all commission house to make payments and collect differences, all exchange collect commission house to differences, exchange payments affiliated with each contracts passed through through the the clearing are now passed contracts are clearing house affiliated exchange as an an intermediary. of commodity commodity exchanges today exchanges today intermediary. Members of exchange as with each other no under the modern clearing house system longer deal the longer clearing house system

The Clearing Clearing House

16 9 169

after the the contract contract has has after

the floor slips been made on the floor and exchange contract slips exchange contract have been exchanged. exchanged. Each member thereafter thereafter deals have with deals exclusively exclusively with the association, assumes the contracts of every member which assumes the clearing the contracts of association, clearing every as against against every contracting member. For For instance, the Rubber other contracting as instance, the every other Clearing Association Association Rules (Section the Association that the Association (Section 11) 11) provide provide that Clearing and assume the obligations imposed thereby." "may accept contracts contracts the "may accept obligations imposed thereby." In other words, the the modern exchange house becomes buyer In other words, becomes the the buyer exchange clearing clearing house the seller all purchase purchase conconsales contracts contracts of of its its members, members, and the seller on all on all all sales all tracts its members; consequently all offsetting contracts can be readily tracts of its contracts members; of consequently offsetting readily washed out, out, and rings rings are are no longer necessary. All All contracts are between contracts are longer necessary. or a the clearing buyer or seller. All All offsetting offsetting a member seller. the house and a a member buyer clearing house <( out." In In addition, house, by the clearing contracts are are merely merely "washed contracts washed out." addition, the house, clearing by as against other 'contracting the contract of every every member as against other assuming contract of ^contracting assuming the all his his purchases that all purchases will will be be delivered delivered members, each member that insures to to each members, insures at contract price and that all his sales will be paid by the clearing house that all his sales at contract will be paid the house by clearing price for at contract price by the clearing house. at contract the house. for price by clearing Organization of aa Clearing Association. The modern exchange clearexchange clearOrganization of Clearing Association. the ing association is usually a corporation organized separately from the association is usually ing corporation organized separately a of it. As a it exchange independent of it. rule, it is a stock corporation, the and is a stock rule, independent corporation, the exchange may be be sold to exchange Its business business is is stock of which may sold only stock of only to exchange members. Its conducted under the the management management and supervision of its own board of of its board conducted of supervision directors purpose, however, however, is to act officers. Its Its sole sole purpose, is to act as a central directors and officers. as a central a specific specific commodity clearing agency for for members of of a commodity exchange. clearing agency exchange. Every Every member of the exchange, exchange, and only only a member of is priviof the of the the exchange, is exchange, privileged to a clearing house member, contingent on his compliance a house his to become member, contingent clearing leged compliance with certain conditions. generally include: conditions generally conditions. These conditions include; with certain

(I) The purchase purchase of the clearing of one or or more shares of stock stock of of the shares of house clearing house corporation. corporation. deposit of a substantial substantial sum of money in guaranty fund (2) in the of a of money the guaranty (2) The deposit of the association, association, say say $10,000. of the f 10,000. (3) Agreement by contract to clear all exchange to clear all contract transactions through exchange transactions through (3) Agreement by the house. house. the clearing clearing (4) Agreement Agreement to to abide abide by by all all the the by-laws by-laws and rules rules of the clearing of the clearing (4) house and all all subsequent amendments, house subsequent (1)

Partnership firms, firms, having having aa partner partner who is is an exchange exchange member and Partnership also in the the clearing house, may a stockholder stockholder in also a clearing privileges may enjoy privileges on clearing house, enjoy clearing firm canthe same terms terms as as aa clearing clearing member, member, though though technically the firm the canthe technically not be aa member. On most most exchanges are accorded the the not be exchanges where corporations corporations are privileges of of exchange membership, the the corporation likewise obtain obtain may likewise exchange membership, corporation may privileges all the the clearing privileges on compliance with all foregoing conditions with conditions foregoing compliance clearing privileges of the is also through one of of its officers who is the exchange. its officers also a a member of exchange. through

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges Having thus thus briefly briefly outlined outlined the the legal legal status the clearing clearing house and status of of the Having the requirements for membership, membership, let let us us proceed proceed to to consider consider its its operathe requirements for operations respect to to the the clearing clearing of of exchange exchange contracts. in respect contracts. tions in the Clearing Reporting to to the House. At the day's the conclusion conclusion of of each each day's Clearing House. Reporting the exchange, trading exchange, the the brokers brokers exchange contract slips exchange contract trading on the slips evidencing evidencing their purchases and sales sales made on the the floor. floor. These slips then go to the the their purchases slips then go to offices of the exchange member on whose behalf the brokers' contracts behalf the brokers' contracts offices of the exchange required to to file reports with with were made. All All clearing house are members file reports house are were made. clearing required of the house at the close of each day. The clearing houses, close at affiliated clearing house the the affiliated houses, day. clearing clearing the right right to to refuse refuse to however, reserve the to accept contract offered offered for for however, reserve accept any any contract notifying the the parties parties on or before eleven clearance by by so or before eleven or or eleven-thirty clearance so notifying eleven-thirty o'clock in the the forenoon forenoon of of the the following following business the filing business day. o'clock in day. On the filing and all accepted acceptance of these reports, all contracts between clearing these reports, accepted contracts clearing memacceptance of bers are by the the clearing clearing house, house, which thereupon are thereafter thereafter assumed by bers thereupon seller on the becomes the buyer from every the exchange to the seller the buyer seller to becomes exchange and the every seller contracts. In effect, on the the exchange exchange of of all all cleared cleared contracts. therefore, every buyer on effect, therefore, every buyer of all the clearing house guarantees performance of all cleared contracts by cleared house contracts the guarantees performance clearing by a to as a contracting party to each contract. substituting itself itself as contract. contracting party substituting sold to To clarify clarify this this whole operation: has sold to B across across the the exchange operation: A has exchange of the trading ring 10 contracts of May cotton. At the conclusion of the day's contracts of cotton. conclusion the May day's trading ring and B, and trading, contract slips are exchanged between the brokers, A between the are contract brokers, B, exchanged slips trading, are noted noted the the names of of the the respective respective clearing on these these slips clearing membersslips are say, Rand S-for the brokers have consummated the trades S R and for whom the brokers the trades or or the have the say, names of of the the clearing through the non-clearing house the members whom house names clearing through non-clearing member traders traders have have arranged arranged to to clear transactions. When the the clear their their transactions. named in file reports of clearing house in these contract slips file of their members contract these house their slips reports clearing respective transactions with the the clearing the latter latter becomes the transactions with the house, the clearing house, respective the seller, it becomes the the seller R, the the purpurpurchaser from from S, seller to to R, S, the seller, and it purchaser chaser. So far as as S is concerned, concerned, R, R, the the buyer, buyer, is party to to is eliminated S is as a a party eliminated as So far chaser. house assumes the contract and takes the his transaction. transaction. The clearing contract takes house the the his clearing S is as the R. In the the same way way S eliminated as to R and the place of of R. is eliminated seller to the seller the place clearing house replaces him. The clearing house, therefore, stands in the him. in the stands house house, therefore, clearing replaces clearing seller to relation of of the from every seller and of the seller to every buyer. seller the It relation the buyer of every buyer. It buyer from every becomes the party to to every by aa member contract cleared cleared by the other becomes other party exchange contract every exchange through the clearing house. Consequently, the exchange clearing the house. the exchange clearing house clearing Consequently, through in addition not expedites deliveries and collections, but also, to effectaddition to effectdeliveries not only also, in collections, only expedites in effect ing direct or "washes" of all all offsetting effect guar"washes" of direct settlements settlements or contracts, in offsetting contracts, guaring as both to as to delivery antees all exchange contracts (cleared through it) contracts antees all delivery and exchange (cleared through it) so It of the payment of contract price delivery. It can do so only because of the of on contract price only delivery. payment other sanctions rigorous and strict margin requirements requirements and other sanctions which it it strict margin rigorous enforces upon upon its its members. enforces The brokers' brokers' reports reports to to the the clearing clearing house are preare made on forms pre-

The Clearing Clearing House

171

scribed by the clearing house. house. There are reports: one, printed scribed by are two separate the clearing one, printed separate reports: ruled in red ink, setting forth list of broker's sales the and ruled forth a a list in red of each each broker's sales for for the ink, setting in black and the other, printed in black or blue, giving a list of each broker's day; or the a list of each broker's other, blue, giving day; printed purchases for for the the day. day. purchases On the report of of sales, sales, the the clearing house member firm's is the report firm's name is clearing house entered top of of the the sheet. sheet. On separate lines, each sale during entered at at the the top each sale made separate lines, during the day to aa clearing the name of member, is listed, the of the the member, listed, with the clearing member is day to the number of of contracts contracts sold, sold, the the delivery delivery month, month, and the the contract price. the contract price. daily "settlement price," which is the figure to which all trades are "settlement price," to The daily is the all trades are figure margin and settlement adjusted for for margin at conclusion of each conclusion of each day's settlement purposes adjusted day's purposes at and is noted to trading, is noted the from each to the clearing the due member the amounts clearing trading, house, or in the or from the the clearing house to to each member, recorded in the are recorded member, are house, clearing house debit or debit and credit debit credit columns, columns, respectively. respectively. The debit or credit credit for for each each transaction is the difference difference between the and the day's transaction is the the contract contract price the day's price last price in the settlement price, which usually usually is is the the closing the day's or last settlement price, closing or day's price in trading future month bought or sold the specific sold and cleared. cleared. The for the trading for specific future bought or report of purchases is out. out. of is similarly made similarly purchases report addition to In addition to these these reports, reports, aa more elaborate the In elaborate one, as the one, known as is is required. This is a recapitulation Clearing House Recapitulation Sheet, a recapitulation Recapitulation Sheet, is required. Clearing of each clearing of the purchases and sales sales reports reports and aa tabulation tabulation of the purchases of clearing market position position with with the house (long member's open or short) the clearing clearing house short) (long or open market the debit debit or credit balance balance of each member with with the of each or credit the clearing house and the clearing house contracts for for each month. all contracts each delivery on all delivery of this In order give aa more comprehensive understanding of this report, order to to give comprehensive understanding report, it is necessary to to become familiar familiar with with the margin requirements the margin it is necessary imposed requirements imposed itself from possible by the the clearing house on each transaction to to protect possible each transaction protect itself clearing house by house. of aa member on his his commitments to the clearing house. default of to the default clearing Original Margin Requirements. Requirements. The operation of the the clearing house, clearing house, operation of Original Margin in addition addition to to making making possible possible the the direct all offsetting of all conin direct settlement settlement of offsetting confinancial guard against the remotest possibility of financial tracts, is designed to of the remotest is to tracts, guard against possibility designed in the latter stands or the the clearing clearing house. house. When the the loss any member or stands in the latter to any loss to shoes every buyer, buyer, thus thus bound to to fulfill seller, of every fulfill his contract with every his contract shoes of seller, every in the seller, thus thus obligated his contract with of every to fulfi11 fulfill his contract with shoes of and in the shoes every seller, obligated to every buyer, it it guarantees performance to to each and, to to of every contract and, each of every contract guarantees performance every buyer, it to to do so, it must require require from from each enable a money of its its members a each of enable it so, it money deposit for for each each contract contract cleared cleared and not not offset. offset. deposit For every contract contract listed listed by by the the clearing the report, to For every report, made to clearing member on the not offset, offset, there there must be be posted posted with with the the clearing the clearing house house and not the clearing clearing house a cash cash deposit, the amount of by the the rules of rules of of which is is determined by house a deposit, the the clearing clearing house house and is is known as of as the the original the by-laws of margin. The by-laws original margin. the clearing house house usually usually establish establish the the the minimum amount which the the clearing the board clearing member is is required required to to post post against contract, and the against each contract, clearing

172

Commodity Exchanges Exchanges and Futures Futures Trading Trading Commodity

or lower these of time to to time time may may raise raise or margin requirethese margin of directors directors from time requirelimitation. Some clearing houses may ments, subject to this limitation. houses minimum this to ments, subject clearing may a establish original margin requirements on a graduated scale, based on based on establish original margin requirements graduated scale, the total long or or short position of each member with the the clearing house. of each short position total long the clearing house. of Current margin requirements of various clearing associations are various associations are Current original clearing original margin requirements given in the following following tabulation: tabulation: in the given

ORIGINAL MARGIN REQUIREMENTS REQUIREMENTS OF OF ORIGINAL AsSOCIATIONS CLEARING ASSOCIATIONS (January 15, 1948) 15, 1948) (January Commodity

Clearing Association

Cocoa

New York Cocoa Exchange

Coffee

New York Coffee and Sugar Exchange

Copper

Commodity Exchange

New York Cotton Exchange Cottonseed New York Produce Exchange Oil

Net Interest (Contracts)

Amount per Contract

1- 500 501-1,000 1,001-1,500 1- 500 501-1,000 1,001-2,500 1- 200 201- 400 401- 600

$1,800 3,000 4,200 $ 750 1,000 1,250 $1,000 1,200 1,400 $1,000

Cotton

Hide

Commodity Exchange

Rubber

Commodity Exchange

Sugar

New York Coffee and Sugar Exchange

Wheat Corn Oats

Chicago Board of Trade

" "

" " " "

" "

Under 2500 2,501-2,799 2,800-3,099 Every 3~ advance or fraction thereof 1- 200 201- 400 401- 600 601-1,000 1- 200 201- 400 401- 600 601-1,000 1- 500 501-1,000 1,001-2,000 2,001-3,000 3,001-4,000

Straddle or Spread Interest $600

$100

1- 500 501-1,000

$100 200 $100

$1,200 1,800 2,400

$250

600 $1,500 1,700 1,900 2,200 $ 400 550 700 900 $ 600 750 950 1,150 1,350 25~ per bu. 25~ " " 12~ "

"

1- 500 $100 501-1,000 150 1,001-1,500 250 1- 500 501-1,000

$100 150

$200

None None None

The Clearing Clearing House is one in A straddle spread) position position is in which aa long long position position of a straddle (or of a (or spread) in in one delivery delivery month is is balanced balanced by by aa short in another member in short position another position both are are held held by by the the same clearing margins must and both clearing member. Original Original margins maintained on aa straddle straddle position, position, but the less than than be maintained is less be the requirement requirement is short that fixed fixed for or short position. that a net net long for a position. long All figures All in the the above table table are are minimum original margin requirerequirefigures in original margin all net net interests interests or or long or short trading positions, as well as ments on all or short ments as well as long trading positions, with the clearing house. Some straddle positions, of of each member each clearing the with straddle positions, house. clearing clearing their it board of clearing houses it discretionary with their make board of directors directors to houses to fix fix discretionary clearing the margin requirements requirements within within the prescribed by by the the the limits the maximum margin limits prescribed by-laws. The directors may at time, on twenty-four twenty-four hours' hours' written written at any directors may by-laws. any time, or oral notice notice delivered to the the offices members, require or oral delivered to offices of of clearing members, clearing require the additional additional original original margins. margins. Sometimes the margins are readditional margins are readditional quired to cover the premiums premiums at cover the at which future future months are are selling selling above quired to the current month. month. Often, too, they are required because of sharp because of the current are flucOften, too, they required sharp fluclevel. tuations in in the the price price level. tuations

ADDITIONAL MARGIN MAROlN REQUIREMENTS REQUIREMENTS AND IN ORIGINAL MARGIN NOTICE OF CHANGE IN (January 15, 1948) 1948) (January 15,

Additional Margins Commodity

Clearing Association

Cocoa

New York Cocoa Exchange

Coffee

New York Coffee and Sugar Exchange Exchange Commodity Exchange Commodity Exchange Exchange New York Cotton Exchange

Copper Copper Cotton Cotton

Cottonseed Oil Hide Rubber Sugar

New York Produce Exchange Commodity Exchange Commodity Exchange New York Coffee and Sugar Exchange

Current Month

Premium Month

Up to three times requirement on net interest See Cocoa

Amount of premium

" to " Up Up to per $2,500 $2,500 per contract contract See Cocoa

" " "

"

"

"

"

"

" "

"

"

"

" " "

"

"

" "

Notice of Change in Original Margin 24 hrs.

24 hrs. hrs. 24 hrs. 24 hrs. hrs.

24

hr~.

24 hrs. 24 hrs. 24 hrs.

calculation of these various various margin requirements is is made as The calculation of these as margin requirements follows: & Co. may appear on the books of an exchange clearing house A of follows: & Co. may appear the exchange clearing house

174 i%

as long long 300 300 as

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

May contracts short 300 contracts. There is, 300 May contracts and short thereis, thereMay contracts. May net interest and, consequently, original margin requirement. fore, no net no interest and, fore, original margin requirement. consequently, If long 300 the same contracts for as long 300 and short short 200 for the If A & Co. appeared & Co. 200 contracts appeared as month, there would be be aa net net long long interest interest of of 100 100 contracts, contracts, which would month, there the require a deposit of, say, $1,000 per contract unit, or $100,000. contract If the a unit, or $100,000. If require deposit of, say, $1,000 per 200 July its company were were long long 200 May contracts contracts and short short 200 200 May contracts, its July contracts, company position be a straddle. It is long and short a like amount, but for It is long short a be a like straddle. but for would amount, position in different different months. months. Its Its straddle straddle position totals 400 delivery 400 contracts, contracts, delivery in position totals per conwhich would, would, strictly speaking, require a deposit of, say, $1,000 conof, $1,000 say, strictly speaking, require deposit per short, or or aa total total of of $100,000; but the by-laws, tract for for contracts contracts long long and short, but tract the $100,000; by-laws, as indicated above, above, make special special provisions provisions for for straddle as indicated straddle positions-say, positions say, $100 per contract, or $40,000. or contract, $40,000. $100 per Variation Market-Difference Margins. Margins. As previously previously stated, Variation or or Market-Difference the stated, the member report of each clearing must be accompanied by a check daily of each a check daily report clearing accompanied by for the the original original margin margin for for each each contract contract offered for clearance offered for clearance and not not for offset. In In addition addition to to the the original original margins, margins, each each clearing is offset. clearing member is calls for on each contract subject to hourly calls for payment to the clearing house to the to house each contract hourly payment clearing subject of the so-called market-difference or or variation variation margin, the equivaso-called market-difference of the is the margin, which is equivalent of of the difference between betlWeen the the contract price and the the current contract price current market the difference lent or settlement price, if if the the market market price price from day to day or hour hour to.hour or settlement price, to, hour day to day or shows a loss loss on his his open position with the clearing house. On the other with the house. the other shows a clearing open position hand, if the difference between the contract price and the daily market the if the difference between contract the market hand, daily price or settlement price reflects reflects aa profit profit on his his open settlement price or the clearing open position, position, the clearing upon has aa corresponding right to draw (on the following day) to the member has (on corresponding right following day) upon the clearing house for the market market difference position. In for the his open In this the difference on his this clearing house open position. is kept fully margined to to current daily market way every contract is the contract the current kept fully margined daily way every of each trading month, month, thereby thereby protecting protecting each the price of each member and the each trading price clearing house losses. house from losses. clearing Each contract contract in in any be adjusted to the the daily case must be settleday to adjusted each day daily settleany case for this price established established by by the the clearing clearing house house for this specific purpose-or, ment price specific purposeor, a substantial if necessary, from hour to to hour. hour. Should there price flucthere be a substantial price if necessary, flucof tuation during the day, the by-laws by-laws of the the clearing house provide provide that that tuation day, the during the clearing house members against against whom the the market market is may be called upon to called be is running running may upon to in the the price price by by certified which be delivered meet variations variations in certified check, must be delivered check, to the clearing clearing house house within within aa specified time-a half or an hour, a time half hour or to the hour, specified a call. of a call. Should any member default in meetusually, after the delivery after the of in default meetdelivery any usually, ing a call, the clearing house must close his contracts out all close out all his contracts with with call, the clearing house ing such a the clearing house by buying or selling on the floor of the exchange house of the or the floor the at by buying exchange at clearing selling prevailing prices, prices, thereby thereby immediately immediately determining the losses the all the losses on all prevailing determining the member's contracts. contracts. Such losses losses will will be recouped from the margins and be recouped the margins other security with the the clearing clearing house house by the defaulting other security lodged lodged with by the defaulting member.

The Clearing Clearing House

175 175

The method of computing the the margin margin requirements requirements may may be be further of computing further elucidated by by the the following following illustration: illustration: elucidated A is, is, say, of 10 contracts (100 bales of pounds each) 10 cotton short of cotton contracts 500 pounds of 500 say, short (100 bales each) 10 contracts is long long 10 with the house. with the the clearing clearing house; house; B is with contracts with the clearing house. clearing

A

Assuming that minimum original original margin margin requirements requirements of per of $1,000 $1,000 per Assuming that in the contract are force in the New York Cotton Exchange Exchange Clearing House, in force contract are in Clearing House, the time time he he files his report report to post $10,000. be required required at A would be at the files his to post B, $10,000. B, the buyer buyer of contracts, is is required required to to post with the the a like 10 contracts, like amount with the 10 the of the post a the price price of the close clearing If the of cotton at the cotton at of the the day house. If close of clearing house. day on which A bought and sold should have have advanced 1I cent per pound, pound, A, and B bought sold should cent per A, the seller, the market, in order order to to keep keep his his position position margined margined to to the market, would the seller, in a market-difference be required post an additional additional $5,000 market-difference margin margin to post as a be $5,000 as required to in 100 100 bales; with the clearing house. house. There are 50,000 pounds pounds of cotton in bales; the clearing are 50,000 of cotton with a pound is is $500 $500 per contract. Ten contracts, therea variation variation of of 1I cent cent per per pound contract. therecontracts, per in whose favor fore, call for for $5,000. the other other hand, hand, B, B, in the market favor the fore, call $5,000. On the is running, running, could the clearing clearing house house on the the following is could draw on the for following day day for $5,000, because his open position with the clearing house entitles him to because his with the house entitles to $5,000, open position clearing a for that a credit credit for that amount. amount. As the the price price fluctuates fluctuates from day to day, day to day, A in like like manner maintain maintain their their respective respective net net positions positions with with and B must in the clearing house fully margined to to the the settlement price of day. of each the settlement price each day. clearing house fully margined a The daily report, containing a recapitulation of the member's trades the of trades daily report, containing recapitulation debit or credit balance balance with with the house, is up is his debit or credit the clearing made so as as and his clearing house, up so to indicate precisely precisely not not only only his his net net open interest or market position position or market to indicate open interest with the the clearing house, but also his position in respect to original in but also his to with house, clearing position original and respect variation margins. margins. variation This detailed report is is made up up as as follows: detailed report follows: One column shows This shows the the in in each delivery month at the close of position of the clearing member each of the at the close of delivery clearing position the previous day. next column is purchases is for his total total purchases the previous for entry of his day. The next entry of in each for the current day. The column "Carmonth for and sales sales in each delivery the current "Cardelivery day. ried Over for for Tomorrow" gives gives the the net position of with firm with of the the firm net market position ried the clearing clearing house house for each delivery month. for each month. the delivery at the will make this this clearer. clearer. Jones Jones & the close of An illustration Co. at illustration will & Co. close of March Monday are short with the clearing house six contracts of coffee. short six contracts of are with the house coffee. clearing Monday thirteen. These & Co. Co. sell four contracts sell four On Tuesday, contracts and buy Tuesday, Jones buy thirteen. Jones & entries under "Today's coupled with the position position at the close at the with the close entries Trades," coupled "Today's Trades," of show six March short Monday, thirteen bought and four six thirteen short on four of Monday, bought Monday, Monday, Tuesday. Jones Jones & net purchases purchases of sold 8c Co.'s of March coffee Co.'s net coffee at at the the close sold on Tuesday. close this amount is is entered of Tuesday, Tuesday, therefore, therefore, are three contracts, are three entered of contracts, and this under the of the the column "Carried for Tomorrow." the "long" side of "Carried Over for under Tomorrow." The "long" side net position position shown in in this this column is is the the basis basis on which the the amount of of net the original margin is established. definite time within reports within which is established. A definite time the original margin reports

176

Futures Trading Commodity and Futures Exchanges and Trading Commodity Exchanges

is subject to must member is is fixed, and the the clearing delivered is must be be delivered fine, fixed, and clearing member subject to aa fine, is delayed. if his his report if is delayed. report of the The reports in the the clearing the books books of of the the members are are entered entered in clearing reports of all long an house. show an exact balance between all exact books must always balance house. These books long always and short of the also an the clearing with all all members and also contracts of house with short contracts clearing house all exact to the exact balance balance between the the clearing the amounts due to clearing house from all its the credit of all all its it holds to the credit of its memholds to its members and the the amounts which it or short of the bers. bers. The clearing never can be short of the itself is is and never be long house itself long or clearing house market. The individual market. of each member-his total net interest, his net individual position each member total of interest, position or short or long short position, in each his interest interest in each delivery long or delivery month with position, and his houseis always the clearing clearing house-is always known. Margin Requirements of Exchange Margin Requirements Imposed Imposed on Customers of Exchange Members. upon its own members should not Margins imposed by the clearing house the its not Margins imposed by clearing upon be confused with those those which the each of the exchange itself requires of its its exchange itself requires each to impose his members to on his customers, for whose accounts he consummates for accounts customers, impose contracts upon the exchange. contracts upon the exchange. The exchange fixes the the minimum original exchange usually usually fixes original margin margin requirerequireif he deems it advisable, impose ments, if it he deems ments, but each member may, advisable, may, higher impose higher upon his customers, either individually or generally. requirements his customers, either individually or generally. The requirements upon minimum original margin on commodity is usually smaller original margin commodity exchanges exchanges is usually smaller that on stock stock exchanges, than that for the traders in commodities are for in traders the commodities are dealing exchanges, dealing in futures futures rather rather than than in in spot spot transactions, transactions, which usually usually are out are closed closed out before before delivery. delivery. Consequently, Consequently, the the commission is not not commission agent agent member is to take or to borrow to delivery on short sales, required to take delivery, or to to borrow make short sales, required delivery, delivery and, therefore, therefore, does does not not need need to to furnish furnish the the total total value value of the purchase purchase of the and, or or sale sale when it it is is made. made. Hence, Hence, he he needs needs protection protection only only against against adverse adverse market fluctuations. fluctuations. Such protection protection is is secured secured through through original original and market-difference market-difference margins, paid paid to to the the exchange exchange member by by his his customers, customers, in in much the the margins, same manner as as they they are are administered administered by by the the clearing clearing house house in in its its relarelations rule, the the original original margins margins range range between between 10 10 tions to to its its members. members. As aa rule, and 33 33 per per cent cent of of the the value value of of the the contract contract of of purchase purchase or or sale, sale, and and each each transaction transaction must be be kept kept margined margined to to the the market, market, as as it it moves moves against against either either the the buyer buyer or or the the seller. seller. Lower rates rates are are permitted permitted in in straddle straddle In some some exchanges exchanges no no margins margins are are required required for for hedging hedging transtransoperations. In operations. on other other exchanges exchanges lower lower rates rates are are applied. applied. Failure Failure of of actions, whereas whereas on actions, the the customer customer to to respond respond to to aa demand for for original original or or additional additional marketmarketdifference difference or or variation variation margins margins permits permits the the commission commission house house member to to close close out out the the commitments commitments of of the the defaulting defaulting customer. customer. The conditions conditions relating to to the the marginal marginal requirements requirements of of customers customers are are incorporated incorporated in in relating the the purchase purchase or or sales sales contract. contract.44

*4 See See

Chapter XVI. XVI. Chapter

The Clearing Clearing House

177

Some exchanges exchanges at times have granted to its members, where their high its members, at times their high granted to to extend credit credit to cuscredit warrants it, it, the the right right to to various various cuscredit standing standing warrants tomers in connection with original margins. When this this variation margins. connection with tomers in original and variation is done, done, however, however, the the exchange exchange fixes a maximum limit limit on such credit-say, fixes a credit say, is credit may $10,000 per accountbeyond account-beyond which credit $10,000 per may not be extended by any by any one member to to any anyone regulation, however, however, does does not customer. This regulation, one customer. one foreclose the the right right of to obtain the maximum credit credit of anyone foreclose any one customer to his from several exchange with he deals, provided his credit credit whom members with several exchange deals, provided standing warrants it. After all, all, the the arrangement it. After arrangement between each exchange exchange standing warrants primarily based on the the financial financial standis primarily standeach customer is member and each ing of the customer. the customer. of ing the prevention prevention of of speculation by those Responsibility those for the exchanges, by speculation on exchanges, Responsibility for rests on each exchange who can to suffer speculative losses, losses, rests suffer speculative ill afford afford to can ill exchange memdefaults of of those ber, whose whose interest interest in in protecting protecting himself himself from defaults those with ber, of limited resources resources is the most effective effective method of eliminating limited is the eliminating such unwise speculation. speculation. of Trade of A statement by by J. O. McClintock, president of the Board of of J. O. McClintock, president of the the the City of Chicago, before the Joint Congressional Committee on the before the of City Chicago, Joint Congressional a hearing at a proEconomic Report hearing in connection with proReport (December (December 1947) 1947) at posals that Congress authorize the Commodity Exchange Authority that authorize the to Commodity Exchange Authority to Congress posals determine the margin requirements requirements of all exchange operators, states the margin of all determine states exchange operators, vigorously concisely the the function margin requirements of margin function of vigorously and concisely requirements from customers: customers: The system of margins margins in in the the futures futures markets markets has has become essential to the the essential to system of in the entire system of credit credit necessary necessary in the fast-moving proof modern proentire fast-moving operations operations of system of duction and distribution Margins on grain required futures contracts contracts are are required distribution...•. . . . duction grain futures Margins

as a guarantee guarantee that both the the buyer buyer and seller seller of contract will will conform to of the that both the contract as a to all the the commitments set set forth in the the terms contract. Margins the contract. terms of of the forth in in are, in Margins are, effect, what is is commonly commonly referred referred to to as as "earnest money," as bind "earnest money/' as employed to bind effect, employed to aa contract contract on real real estate estate which might might be contracted today with delivery for today contracted for delivery to be be effected effected at later determined date. representing margins, margins, a later date. The funds, to at a funds, representing are handled handled very very much the the same as these "earnest money" payments payments are handled, as these "earnest money" are handled, are in a that is, they are placed in a segregated or escrow depository pending final conthat final conare placed is, they segregated depository pending clusion of of contractual commitments_ . . . clusion contractual commitments. Credit is is the the life-blood life-blood of of our national national commercial existence. existence. Trading in Credit Trading in grain futures contracts requires a system of credit. This credit is established a of contracts credit is futures credit. established grain system requires by the rules and regulations regulations of of the the grain grain exchanges in connection the rules connection with with the the exchanges in by in of requirements and application of margins. Values involved in terms of money, Values of margins. requirements application money, less the margin required, required, become an item or credit buyer and credit between the the buyer less the margin seller, pending final at contract maturity, when transfer final consummation at contract maturity, transfer of of seller, pending title of the the commodity commodity involved is effected effected and settlement in full made. This full is is made. settlement in title of involved is of credit is necessary necessary for for the the reason reason that that documents of of title title which signify form of credit is signify ownership cannot be transferred the buyer and seller until the the date be transferred the seller between until date buyer ownership all

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178

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

collateral value of contract maturity. maturity. Accordingly, Accordingly, no documents of value are of collateral are availavailof contract able, in >tile interim, between the date of the contract -and the date of maturity of contract the between the and of date 'the the date in interim, able, maturity at a a commercial bank. of the contract, contract, with with which credit might be established bank. credit might established at of the be the results of of the the lack lack of above described? It credit system of a a credit It the results described? What would be system would mean ,that those dealing in futures contracts be compelled, in in contracts would be in futures that those would dealing compelled, the cast cast of per cent margin. to to provide provide capital in an amount and without without of 100 cent margin, 100 per the capital in in dollars to match the the value value in the grains to be the benefit benefit of dollars of of all all the the of credit credit to grains to hedged. hedged. For example: example: The grain grain merchant is million bushels bushels of of wheat to to is selling a million For selling the government government or or aa processor; processor; the the merchant would then then want to to buy buy futures futures the trade he made to to the processor. The contracts to to offset offset the the cash cash trade contracts the government government or processor. value of a million million bushels bushels of of wheat wheat at present is three million order is three million dollars. at present dollars. In order value of a a person, for the merchant to to accommodate his needs, he he must must find or aa group find a his needs, for the merchant person, or group in margins million dollars dollars in of persons. readily readily capable of putting putting up up three three million margins on of persons, capable of situation would apply sale to fill fill his his need. need. The same situation in case case contracts made to sale contracts apply in the farmers would wish wish to to sell sell wheat or or corn; the merchant merchant buys buys it, he the farmers corn; when the it, he wish to to sell sell protective protective futures futures to to offset purchase of the cash In offset the the purchase of the In cash grain. would wish grain. this instance, merchant, wishing wishing to to sell have to to seek seek this sell the the merchant, the futures, futures, would have instance, the in the deterare of futures are capable of putting up margins in the amount deterbuyers of futures who of margins buyers putting up capable ten mined by by the might mean aa million or ten million dollars, the volume involved. involved, which might dollars, or the period of million dollars, million even much more, more. within within the of one day ..•. dollars, or even period day. II believe believe you you realize, realize. as anyone concerned concerned with with the the realities realities must realize, realize. as anyone than that form of of commerce cannot cannot be be carried without credit more than credit any carried on without that this this form any can commercial commercial activity activity of of any any kind kind be be pursued without credit. 1£ margins If credit. margins pursued required amounted to to 50 50 per per cent, per cent, 100 per the difficulties of 100 difficulties resultresultinstead of cent, the cent, instead required of ing from stagnation constriction of interest because of a lack of proper because of a interest lack of and constriction ing stagnation proper credit would be be only proportionately less less serious. point is, however, that that serious. The point credit is, however, only proportionately any restraint placed credit, over and above that required for safety, is that for a restraint over on credit, any required safety, is a placed and could finally result in the complete deterioration of the commercial blight in of result deterioration the the could blight finally complete activity being being undertaken. undertaken...• activity You are are treating structure of the nation's the the credit credit structure nation's agriculture with the of the treating with agriculture and the very existence of the entire system of marketing which, born of economic necesentire necesthe existence of of system of marketing which, very to meet the the nation's sity, has has been decades to nation's needs. needs. the decades been evolved evolved through through the sity, In this connection, I wish to point out that the use of the margin I wish to that the use of the In this connection, margin authority authority point out be by the executive branch branch of the government government could it would of the could be so so applied that it the executive applied that by ultimately destroy completely our marketing marketing system change and ultimately as now conconsystem as destroy completely change stituted. this done, it would throw throw distribution prodof our agricultural stituted. With this distribution of done, it agricultural prodthe lap lap of the government, government, which would automatically possess ucts solely solely into of the into the ucts automatically possess of grains the power power to control the the allocation allocation and use use of determine itself of to control itself of the to determine grains and to the the price. price. .

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.

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.

Protection of Accounts. Although Although the house proprothe clearing Customers' Accounts. Protection of Customers' clearing house members, tects clearing members from possible possible defaults defaults of of other other clearing tects clearing clearing members, it does not protect protect customers of clearing customers of or exchange it does not exchange members from clearing or default by by their their commission commission agents. agents. The Commodity Act, default Commodity Exchange Exchange Act, in to passed by Congress in 1936 to regulate futures trading in domestic agri1936 futures in domestic agriregulate passed by Congress trading

The Clearing Clearing House

179

as wheat, cultural products, products, such such as wheat, cotton, cotton, and the imposes certain the like, certain cultural like, imposes restrictions on all all futures futures commission merchants merchants in trades with in these these trades restrictions

respect to to treatment of of their their customers' customers' margins. margins. 56 respect It would appear Guaranty appear from the the foregoing the clearthat the clearGuaranty Fund. It foregoing that as each ing house itself, well as each of of its its members, has ample protection as as well as members, has itself, as ing house ample protection a result result of of original original and market-difference market-difference or variation margins margins against a or variation against any loss by default of aa clearing default of loss occasioned occasioned by clearing member. Margin Margin deposits, any deposits, in an impregnable however, form only financial bulwark however, only one element in impregnable financial it possible for the which alone possible for to guarantee all all alone makes it the clearing house to guarantee clearing cleared contracts contracts both as as to to delivery delivery and payment. payment. As aa further cleared further safesafeguard, before an exchange exchange member may member, he guard, before may become a clearing clearing member, to the the guaranty guaranty fund of the clearing house. The amount must contribute contribute to of the clearing house. in of will required of each clearing will vary in different clearing member different houses, clearing vary clearing houses, required in as indicated the table table that that follows. Usually three-fifths deposit as indicated in the follows. Usually three-fifths of of this this deposit may in United States government bonds. States government bonds. may be in the deposit deposit has has been made, made, it When the it cannot be withdrawn by the by the a member, as a general rule, until nine months after he ceases to a until after ceases to be a member, as general rule, clearing member and all all his his fixed fixed and contingent liabilities have been clearing contingent liabilities the of liquidated. Throughout the period of his membership, the deposit his stands liquidated. Throughout period membership, the deposit stands in as his share in the underwriting of the financial stability and integrity as his share the underwriting of the financial stability integrity of of the the organization organization which is is assuming assuming and guaranteeing all contracts all contracts guaranteeing which it it clears. clears. is not lodged with the is deposdeposThe guaranty the clearing house, but is guaranty fund is lodged clearing house, ited in the the form of of cash cash or or government in an approved ited in securities in bank. government securities approved bank. cash or or bonds cannot be be withdrawn for or delivery either to for payment or The cash to either payment delivery the clearing house house or or to to the the clearing clearing member except on an order bearing the clearing order bearing except the signature of three of the clearing house directors. The deposit of of the three house directors. the of each each clearing signature deposit of into the the guaranty guaranty fund guarantees his individual transactions his member into individual transactions guarantees is used, with the the clearing house, but the the aggregate used, where necessary, aggregate fund is clearing house, necessary, one member's account which may to absorb any any losses anyone may exceed to absorb losses on any exceed all the credits to that that member's account. words, all account. In other all the credits to other words, all members of all guarantee the accounts of all other other members. guarantee the Still another financial Clearance Fees and the the Surplus. Surplus. Still resource of of the the financial resource Clearance Fees in clearing house-one in clearing houses is being continually one which some is house clearing clearing being continually augmented-is the surplus is the fees charged for clearclearsurplus fund accumulated from fees charged for augmented billed to each ing each contract billed to monthly. In comparison and contract member In monthly. ing comparison with the the services the clearing these clearing services which the with fees renders, these clearing house renders, clearing fees the are small, small fees paid on the many contracts cleared by all clearbut fees contracts small cleared all are small, clearmany paid by the ing members every business day of the year amount to impressive totals business of to totals day year every ing impressive at the the end of of each year. year. at A member of the Cotton Exchange of the 5 cents cents for for Exchange Clearing Clearing House pays pays 5

/; See Chapter XIII XIII for for details details on these these restrictions. restrictions. See Chapter

6

180 i8o

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading GUARANTY FUNDS AND CLEARANCE FEES FEES (1948) (1948)

Commodity

Clearing Association

Guaranty Fund

New York Cocoa Exchange $ 5,000 15,000 New York Coffee and Sugar Exchange 10,000 Commodity Exchange Copper 7,500 New York Cotton Cotton Exchange 5,000 Cottonseed New York Produce Exchange Oil 10,000 Commodity Exchange Hide 10,000 Commodity Exchange Rubber New York Coffee and 15,000 Sugar Sugar Exchange Corporate shares @ Chicago Board of Trade Wheat $3,500 per shareshare $3,500 per or not less than 11 or less than not Corn " " " " pro12 in in promore than 12 portion to the estito the estiOats portion " " " " mated volume of clearing clearing Cocoa Coffee

Clearance Fee per Contract

Originally

50~ 25~

SOt 20t

25~

50~

5~

lOt

20t 25~ 25~

SOt 40t

25~

20~

$1.87! per million million per bushels bushels

in a a day, each contract he clears he pays pays If he clears 1,000 clears. If contracts in contract he clears. each 1,000 contracts day, he the clearing house house $50 the service. service. Other clearing clearing members are paying for the are paying the clearing $50 for trades. the same day on other trades. The surplus various other other other amounts the various day surplus fund it stands as a financial guaranty, but it has never been necessary the but has never been in the stands as a financial guaranty, necessary in it. The funds are of any clearing house house to to draw upon usually history are usually upon it. any clearing history of

invested in in United United States interest received received from States government invested bonds, and interest government bonds, of these is usually applied to the operating expenses of the clearing the house. to the these is usually applied clearing house. operating expenses from the the surplus sufficient to to meet The income income from may even become sufficient surplus fund may factor which in in itself itself operates the major part part of the operating of the the major expenses, a factor operates operating expenses, a at nominal fee at a figure. to keep the clearance to keep the clearance fee figure. preCareful Provision against against Loss. Loss. Clearing Clearing house by-laws rules preby-laws and rules Careful Provision to the scribe procedure in case recourse recourse to the guaranty fund and the in case the the procedure scribe the guaranty in If surplus should ever necessary. If any deposit in the guaranty fund be the ever any deposit necessary. guaranty surplus should of a should be lost lost by by failure failure of a depository by defalcation, the should be defalcation, the depository bank or by transfer of of the guaranty fund be restored by transfer of enough of the surplus be must restored to fund enough by surplus to guaranty a of default make up up the the deficiency. In the event of a default by a member on his In event the his by deficiency. all the the close contracts, house close must member's out all contracts house the clearing contracts contracts, the clearing with the house in in six six trading trading hours by purchase or the or sale sale on the the clearing with by purchase clearing house must exchange floor, the closed account debited or credited with account be and the closed or credited with exchange floor,

The Clearing Clearing House

181

losses or the resulting or profits. profits. If, the contracts of a a failed contracts of failed member If, when the resulting losses is owed to are deficit is to the the clearing house, then, then, in in order to are closed closed out, order to out, a deficit clearing house, first to make good good the deficit, recourse is is had first to the member's margin margin account the member's account deficit, recourse after that that to to his his contribution to the the guaranty and after contribution to fund. guaranty fund. If these If prove insufficient insufficient to to make good the deficit, deficit, these measures should prove good the be fund would the surplus applied to such extent as the board of directors to extent as the board of directors surplus applied If the loss should may determine. If the loss should be be so the surplus so great as to to exhaust exhaust the may great as surplus a second reserve. fund, the the general guaranty fund stands stands as guaras a If the reserve. If the guarfund, general guaranty drawn fund be to anty should upon to good losses caused by a make a losses caused memanty upon good by it would be immediately ber's ber's default, immediately restored restored by by assessment upon all all assessment upon default, it clearing assessment, according usual by-laws, the usual to the clearing members. This assessment, according to by-laws, would to levied according to the equitable principle that those who have benebenebe levied the that those have according equitable principle house must fited fited most from the the clearing contribute most, should the failure contribute failure the most, clearing of of a co-member draw heavily heavily upon upon its total clearings resources. The total its resources. for clearings for number a specified of be calculated; the total clearings of of months would the total calculated; specified clearings of each for this each member for this same period period would be determined. determined. Each member's in the share of the assessment would be in the same ratio share of ratio that that his his cleared conthe assessment cleared conbear to to the the total total clearings. Thus, a firm clearances tracts would bear a firm tracts whose clearances Thus, clearings. cent of all clearings for the period period were equal per cent for the of all bear .to one per equal .to clearings would bear per cent of the the entire entire assessment. assessment. On the one per cent of in case the the other other hand, case the hand, in clearing house suffers a loss through the failure of a depository bank or a loss house suffers the of a failure or through clearing depository a defalcation defalcation and an assessment assessment of of members should be considered necesa considered necesto replenish the guaranty fund, such assessment would fall sary to the such assessment fall equally fund, guaranty sary replenish equally on each each clearing clearing house member. Security of House. These elaborate indicate the Clearing elaborate safeguards of the Clearing House. safeguards indicate Security sufficiently impregnable financial financial strength of the the clearing house of of the impregnable strength of clearing house sufficiently the the commodity commodity exchange. exchange. The financial financial resources resources in the guaranty guaranty fund in the the in themselves, and the are strong the right right of of the surplus themselves, and the strong bulwarks in surplus fund are also fully assessment is also all members is enforceable and effective; of all assessment of effective; but fully enforceable the right to call for original daily or hourly variation variation margin margin deposits deposits or hourly call for the original and daily right to is the greatest possible and effective insurance against both most effective insurance minor is the greatest possible against these elements of and heavy losses. With all all these strength, it it is is not not remarkable of strength, heavy losses. the guaranty that no loss loss has ever occurred occurred where recourse guaranty fund fund or recourse to to the has ever that no in surplus has been necessary. clearing house in the commodity No modern the commodity clearing surplus has been necessary. markets has has ever ever defaulted its legal legal commitments. defaulted on its markets of clearing house members have occurred from time time to to time, Failure!> Failures of time, clearing house but the margins on deposit deposit have have always always been sufficient to absorb market sufficient to the margins but loss. Nor is differences protect the the clearing houses against the financial is the financial differences and protect clearing houses against loss. as house institution. solidity of benefit merely to the clearing as an institution. to the With of benefit clearing merely solidity for the is it the safeguards it provides, provides, not not only only is the clearing house it impossible the impossible for clearing house safeguards it member suffer loss default to but no clearing can suffer loss through default on the the to lose, lose, but through clearing part of allY other member, except through assessment. part of any other member, except through

182

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

It be noted noted here here that that this this function function of of the the clearing is a a It should be house is clearing house

credit insurance by which every is aa function by insurance function credit every commodity commodity operator operator who is member of the clearing clearing house may may insure sale will be paid that every of the insure that sale will be every paid for at contract contract price price and that that every purchase will will be be delivered at contract delivered at contract for at every purchase price. This This credit is performed only by commodity credit insurance function is performed only by commodity price. which in exchange clearing houses, is in sharp the situation is contrast to to the situation on houses, exchange clearing sharp contrast in the physical markets, in case bankruptcy of either the buyer case of the or seller either seller on the physical markets, bankruptcy buyer or a contract contract may may take take place place between the the date the contract the date date of of the contract and the date a of delivery. delivery. of Efficient Medium of Delivery. Having An Efficient described the the organizaof Delivery. Having now described organizaof contracts, tion, contracts, the the credit credit insurance insurance function, the the clearing tion, the function, and the clearing of financial strength of the clearing house affiliated with each exchange, the house of affiliated with each financial strength clearing exchange, we shall turn to to its its service in facilitating facilitating deliveries payments. service in deliveries and payments. shall turn In the the course trading day in, say, November, aa broker a trading In of a course of broker on the the say, November, day in, a five of exchange sells five contracts of a commodity for delivery the following sells contracts for the commodity exchange following delivery May. During During the the months that that follow, follow, the does the seller, shall assume, seller, we shall assume, does May. not offset his contract by aa purchase, purchase, and May May arrives with the contract by not arrives with offset his the seller seller the amount sold has deliver the sold under this this contract. contract. The seller seller has bound to to deliver elected to to make delivery rather than close by close out the the sales sales contracts elected contracts by delivery rather offsetting purchases. has the option of making delivery on any trading He has the of offsetting purchases. making delivery option any trading day during the the month of May. On May May 55 he elects to deliver, deliver, and he of May. elects to he day during issues five transferable notices, notices, one for for each contract Let us five transferable issues contract sold. sold. Let us assume assume in is that the commodity in question is rubber and that the transferable that the that the transferable commodity question notice is issued to to Commodity Commodity Exchange Exchange Rubber Clearing is issued notice Association, Clearing Association, Inc. transferable notices notices are reproduced on the page. are reproduced the opposite Inc. These transferable opposite page. Five notices are required, for transferable notice can be notices are Five separate for no transferable notice can be required, separate issued to cover than one contract. house is the recipicontract. The clearing issued to cover more than house is the clearing recipient of each transferable transferable notice. notice. The delivery ent of is filled filled in, in, delivery day, day, which is but will be be aa subsequent, definitely fixed business day; that is, if the fixed business that if will the is, definitely day; subsequent, notice were were issued the delivery to be be made a Monday, issued on a notice Monday, the delivery would have to Thursday, unless unless aa holiday holiday intervenes. intervenes. If issued on Friday, Friday, If it it were issued on Thursday, the be deliverable on the following Tuesday. be deliverable would the the commodity commodity following Tuesday. The transferable transferable notice notice price price is the settlement the is the settlement price established by price established by the clearing house at the end of of each business business day. price established at the established for for day. The price clearing house the the last business day preceding the issuance of the notice would be the the issuance of last business notice the be the day preceding one inserted in the the notice. notice. inserted in to the When transferable transferable notices notices are are delivered the clearing house, it delivered to it ascerascerclearing house, tains from its its books books the the names of those clearing are long of those members who are tains clearing long of May contracts distributes the notices among them. A clearing and distributes the contracts notices them. of May among clearing as soon as member who does not wish wish to to take take delivery the transtransdoes not as the will, as delivery will, contract on the floor of ferable notice notice is is received, received, sell May contract the floor the exchange sell a May of the ferable exchange and will will immediately deliver the the transferable transferable notice notice to buyer. Each to his his buyer. immediately deliver

Dell....,. M-"_________ll1..-

EXCHANGE, INC. INC. COMMODITY EXCHANGE, TRANSFERABLE NonCE TRANSFERABLE NOTICE RUBBER CONTRACT STANDARD RUBBER

-

•,M M o'clock o'clock To ..____._. __..___. ___._. _•.•""

To,.

19_

New York. yOtk. RY., N, Y., • New

... _...

_,--_._----_._.- ....

-~.~---

Take notice that that on _ .__ •. we aha1l dcIt..:r 10 Take notice on._ _ _ _ ...•••.. -. . to you - _.,19_._.,. 19 shall deliver about 22,400 we 22,400 """"'" you about pouodi .

01 Ribbed Smoked He..,. Plantation Plantation Rubber Rubber of 01 of Ribbed Smoked Hevea (Exchange Rubber Rubber Type) packed in in (Exchange Type) packed

w gn& of ____.. _._._

the grade of .

••. _. _ ••.__ ... .....^

-

known n. __._ ... "' _. _._.._. ________ ...._....__,___._....._ lJl·warehouse wwarehousc known a*... on dock I"",ted al- _,_ ....._____,__ •• ______ •_._ .. _. __.• _.. _ ••• __,__........_, _______ .. on dock located at .-. .

of in accordance .t the Tranalerable Notice price pnce 01.. ....... cents cent> per adjustments) in accordance with with Transferable Notice at the (with adjustments) per Cd pound (with Inc and the By-Laws the terms krm. 01 Standard Rubber Rubber Contract of Commodity Ex< ange. Ine, and the and Rut .. wiIh Contract of Rule* with the of the Standard Commodity Exchange, By-Laws and ICSpett thereto. thereto. respect The Ccrtdicate of crade upires ... _ _ . __ .•• ___ • ____ ... ___ ..... _. ___ 19 _. ..,^^...._._ .... _ _ ..__.......__._. _. 19 ~~ . The Certificate of Grade expires

w

,

...

,,.,,

The Certificate Ccrt.6cateoIWeight'"datcd of Weight is dated ....._ ......... _ The

." al ".

.._ _ _ _ _ _ _ _.___ 19 19 •. _.

We pledge pledge ourselves ounel ... to to dehllU on the the day d.y specified .pec.6ed for lor deUvtry, lut acceptor acceptor hereof, hereof, documcnto to the the last deliver on documents delivery, 10 r

..

'. ='

. •• I "*,'! n, .... (the Exchange, upon upon written wntten notice notice of thIS notIce gtven to to UI of the the Exchange, the holding of this notice given i us P i holding of I ' k ' * . ' ; .' 'Ion is issued. I . ' " ., :. thu Notice Notl~ lS except that aa transferee transferee who becomes the on the day this issued, except t ,,.",, last acceptor of a Transferable Notice after 4 P M. on the last notice day for delivery in the current month must nottfy us before before 9 on the the next next business buslnw day. day, notify "

'

'

'

l, the day that who becomes the last acceptor of • Transferable Nolle< at!'" 4 P M, on the I"" nOl1ce day for deJllIUY ID the currellt month mull w 9AM M with our is to This Notice Noti" i. to be be delivered dcltvtrcd 10 our dehllUY of the the documents, documents, "lured to ... us aimultaneowly referred 10 to abcm:. This above, simultaneously WIth delivery of 10 the Ilast ... acceptor acceptor hereof hereol Co the '

.

Slgncd._._. _. Signed

--

_M_. ___ _

_.

_ _ 'M

• __• _ _ _ _

.._

CONDITIONS

£I".

P.M.

before 4 the da, Elch of of the the acceptor. hereof asrcu the latt la. acceptor acceptor hereof hereof WIlt. 4 P.M. on the noCI« it iuucd. Of U that the is tinted, Each will, before or as day thu noOcc agree* dw acceptors hereof to the issuer htrtof. and will reqwred, give live written wnlUn notice nobce of the holding boldine of of thu thll notice DOU(:C to the issuer Wlll on the da, apcafitd for for delivery debvtry of the on the otherwise required, hereof, and day specified Lawi ftCU'ft from the said ~d issuer utuer the the documcntl provided in ID the tht By B,-La ... and and Rule*, Rules. and payment against I.a;,uost them. all In ICCOtd.trla documents at as provided and make make payment in accordance from the receive them, all

ethUWllt

WIth the the provuions prO\'UlOI'I1 of the By By·La .... and and Rules Rule. of of Commodity Colnlllodrty Exchange. Elchange. Inc:. of the Laws Inc. with all tu. tus (or It further asrted that each uch acceptor acuptor hereof hereof shall mal) continue continue .11 (or th.ttr) lIabiLty to to tuh other for for the the fulftllmeol u funher each other It 11 fulfillment their) liability agreed that the Exchange all rcqulftd by by the the By-Laws BJ·Laws and Rules Ruin of of the Exchange for for the delivery of o( rubber Standard all dOC\ltntnb the delivery documents required rubber ~Wdt against Standard

of the thlt contract contract until until of

from the Rubber Contract h"w been bet'n received fUtlVCd by by the the last last acceptor ac«ptOl hereof, hereof. from dw: NoaciC ~ have MYC been beta. returned rtturacd to &0 the 1ISS\If:I, shall have and thu Notice shall Rubber Contract ah.1I issuer, ,Dd ;1.1 wh),h time time all ~ responsibilities fcspoRllbUltIeJ of of the the intermedia* mtulQcd&ate parties partlU hereto bucto shall ah.aU c:cuc. at which cease.

,he lNucr. the issuer,

SIgned Signed TIME RECEIVED

.'

TH_ ,,!tOVI: WITM ALL .,.. CONDITIONS AND OBLIGATION • •

a

HE"E8V ACCEPTED

--

- -.

--.-~-

~---.-

- - _. - --- .. _--

TRANSfF"ERRED TO

184

Commodity and Futures Futures Trading Commodity Exchanges Exchanges and Trading

to whom whom the the notice notice is is passed by such person sale has half an has half an hour in hour in person to passed by such aa sale which to to sell sell it. it. The The commodity in is which is in the warehouse, certified as to grade the certified to as warehouse, commodity grade and ready for delivery, and the the time time limitation and limitation is is designed to the ready for delivery, and designed to bring bring the contract as as soon soon as as possible into the the hands contract hands of of aa buyer who wants wants actual actual possible into buyer who delivery. delivery. On the the notice, it will will be observed, On there is is space for notice, it and endorsements and observed, there space for endorsements a for column the time a column for noting the notice notice was received. received. Each Each seller seller noting the time when the endorses the notice notice as as he passes it it on. If it remains in the hands of any endorses If on. it remains in the hands of passes any for party for longer than half an hour, he automatically becomes the final becomes the hour, final longer party automatically buyer notice may circulate for for not not buyer and must accept accept the delivery. delivery. The notice may circulate It more than one business day. It reaches finally a buyer who desires delivreaches a desires delivday. finally buyer is said to to "stop All the ery. notice." All the intervening been have been ery. He is "stop the notice." intervening buyers buyers have eliminated their sales sales on the the receipt of the eliminated by the transferable transferable notices. notices. Until Until by their receipt of final payment the final of the warehouse receipt, both buyer both and payment and delivery delivery receipt, buyer and seller must maintain their their margin in seller deposits in the clearing house. the house. margin deposits clearing if necessary, are made between the Adjustments, the buyer the delivdelivAdjustments, if necessary, buyer and the seller in accordance with the the certified and weights of the ering certified grade of the ering seller grade weights 66 When payment has is the commodity which is delivered under the contract. contract. has commodity payment been received by seller and he has has delivered delivered the the warehouse warehouse receipt by the seller receipt is closed. closed. The necessity buyer, the the contract is to the buyer, for all all washes washes and necessity for rings eliminated. rings has been eliminated. Contrast the the simplicity simplicity of of this this procedure procedure with with the the former roundabout former roundabout method. Before Before development development and organization organization of the clearing clearing association, of the association, let that A, A, an importer importer of of coffee, coffee, sold sold five five contracts contracts against against an an let us us say say that importation already already arranged arranged for. for. He contemplated contemplated actual actual delivery. delivery. B, B, importation the the buyer, buyer, in in turn turn sold sold to to C and so so on, on, with with fifteen fifteen or or more more in-between in-between until R, R, aa firm firm which desired desired delivery, delivery, was was reached. reached. The ininparties, until parties, between parties' parties' differences, differences, debits debits or or credits, credits, would not not be be settled settled until the the month of of delivery delivery arrived arrived and aa transferable transferable notice notice was was endorsed endorsed until the purchase purchase and sale. sale. In In other other words, words, the the only only means means of of liquiliquiagainst the against dating the the contracts contracts involved involved was by by receipt receipt of of transferable transferable notice notice in in dating the delivery delivery month month and and subsequent subsequent billing billing by by in-between in-between parties parties based based the on on the the transferable transferable notice notice price. price. The old old cumbersome cumbersome method method of of settlement settlement between between parties parties (before (before the modern modern clearing clearing association association developed) developed), when when delivery delivery was was made, made, isis the illustrated illustrated as as follows: follows: A, A, an an importer importer of of coffee, coffee, sells sells five five contracts contracts to to B B at aa price price of of 15 15 cents; cents; B, B, the the in-between in-between party, party, sells sells five five contracts contracts to to C C at at at 12 12 cents, cents, C C intending intending to to take take delivery. delivery. When When A A issues issues his his transferable transferable ,

o6 Contracts Contracts are are in in terms terms of of aa basis basis grade grade of of the the commodity; commodity; but but delivery delivery of of other other tenderable tenderable and and certified certified grades grades isis usually usually permitted, permitted. with with differences differences in in price price allowed allowed to to compensate compensate for for the the variation variation in in the the quality quality of of the the goods goods from from the the standard standard grade. grade.

See Chapter VII. VII. See Chapter

The Clearing Clearing House

185

established by notices, the the settlement price established the exchange 14 cents. cents. settlement price is, say, notices, by the exchange is, say, 14 notice. The exchange rules provide provide that the "stopper" C stops that the the notice. exchange rules "stopper" stops the

C

at the the transferable transferable notice notice price-in this case, shall pay the 14 "issuer" at the "issuer" shall pay case, 14 pricein this cents. The exchange exchange rules rules further provided that that any difference between further provided difference cents. any the price and the the transferable transferable notice notice price settled on the the contract price the contract price be settled A 14 14 cents a pound day following delivery. Accordingly, collects from C collects cents pound day following delivery. Accordingly, day of of delivery delivery and from B 11 cent the day followcent a a pound on the the day day followpound on the in turn, cents per collects ing delivery. delivery. C in turn, having having paid paid A 14 cents per pound, pound, collects ing 22 cents per pound pound from B on the the day following delivery. B, by his his cents per B, by day following delivery. in payment of 1 cent to 2 cents to, C, has paid his losses in the trans1 cent his transA and cents has losses the to of 2 to,C, paid payment action-33 cents cents per per pound. pound. action The rules rules of of the the modern clearing regarding aa delivery strict. are strict. clearing house regarding delivery are in the 1£ the transferable notice is is not not issued in the before the the last last notice issued before notice day If the transferable notice day in default, month, not not only only will will the the seller seller be be in but he he will liable will also also be be liable default, but month, in addition addition to for all all damages damages suffered by the the purchaser, purchaser, in to a monetary monetary penpensuffered by for be alty; if his default should be willful, may be suspended or expelled if default he his be or willful, alty; may suspended expelled both the the exchange the clearing clearing house. from both house. from exchange and the It should be be recalled, recalled, however, however, that that on most exchanges general It the general exchanges the rule is is that that deliveries deliveries are are not not made on the the exchange, but usually most but rule exchange, usually most exchange contracts contracts are are consummated by by offsetting purchases and sales, sales, exchange offsetting purchases the differences between purchase purchase and sale being settled by cash sale prices differences between settled the by cash prices being 7 7 payments. payments. Limitation of Interest. A rule rule usually usually found in in every Limitation associaof Interest. every clearing clearing associaof each tion limits limits the net long long or short interest interest of member, his or short each clearing the net his tion member, clearing month, and his straddle or spread interest. Thus, the interest his straddle in anyone or interest in one interest. the month, Thus, spread any net interest interest of of aa member of of the the New York Cotton Exchange net Exchange Clearing Clearing limited to 4,000 contracts (100 bales of Association is is currently limited to Association contracts bales of 500 500 4,000 currently (100 pounds each), and his interest in any month may not exceed 5,000 conin his interest not exceed con5,000 any pounds each) may tracts. This This affords to prevent prevent undue speculation. affords an effective tracts. effective method to speculation. 8 was no limitation of interest interest on the the grain There was limitation of to 1936. 1936. 8 grain exchanges exchanges prior prior to the following following page page shows the the limitation in The table of interest table on the limitation of interest in in January various various clearing 1948. associations in clearing associations January 1948. Since with the the passage passage of the federal Act,88 of the federal Commodity Since 1936, 1936, with Commodity Exchange Exchange Act, the trading commitments or or market positions positions of of all all operators the trading such operators on such to the the Act are by a federal exchanges as are are subject are determined by federal agency, subject to exchanges as agency, in effort to to prevent prevent undue speculation. speculation. Although the federal act in an effort the federal act Although trading limits authorizes imposition of of maximum trading authorizes the the imposition limits on all all speculative speculative exchange operations, operations, whether or or not not they by members are conducted by exchange they are of the exchange, exchange, it does not not grant to regulate regulate the of the it does the margin grant authority authority to margin either of members their either of exchange or of their non-member cusrequirements or of cusexchange requirements ,

7 See T

8s See See

Chapter III. Ill. Chapter Chapter XIII. XIII. Chapter

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

186 i86

LIMITS OF INTEREST PERMITTED MEMBERS BY CLEARING ASSOCIATIONS

Number of Contracts Number of Contracts Straddle Straddle Any One Any Interest Interest Month Interest Interest

Commoditv Commoditv

Clearing Association Clearing Association

Net Net

Cocoa Coffee Copper Cotton Cottonseed Oil Hide Rubber Sugar

New York Cocoa Exchange New York Coffee and Sugar Exchange Commodity Exchange New York Cotton Exchange

1,500 2,500 600 4,000

1,500 2,500 400 5,000

2,500 4,000 1,000 4,000

New York Produce Exchange Commodity Exchange Commodity Exchange New York Coffee and Sugar Exchange

None 1,000 1,000 4,000

None 750 500 1,500

None 1,500 1,000 4,000.

those operating tomers; nor nor does does the the Act apply apply to to any tomers; any exchange exchange except operating except those in domestic agricultural agricultural products. products. Confidential Relationship of of the Its Members. the Clearing Confidential Relationship Clearing House and Its confidence is is maintained between the the clearing strictest confidence The strictest clearing house and its house manager alone knows the individual individual the its members. The clearing house alone clearing manager long or short or straddle positions of each In referring to the the of or short or straddle each member. positions referring to long responsibilities of of the the secretary-treasurer the assistant treasurer of of assistant treasurer secretary- treasurer and the responsibilities the Cotton Exchange Clearing Association, it has said: been said: it has the New York Cotton Association, Exchange Clearing

Into the the possession possession of these of these Into

each member of of officers there comes comes daily officers ·there daily from each to a comYork Cotton Cotton Exchange, belonging to the Clearing Association, a the comNew York Association, Clearing Exchange, belonging plete report of his his position position in in futures. futures. The responsibility responsibility for for strict regard for strict regard for report of plete the confidence imposed rests rests jointly jointly with with these these two Though concontwo officers. officers. Though thus imposed confidence thus the to changes changes trol of the the policies policies of of the the clearing clearing association association and the the decisions decisions as as to trol of in the amount of of original original margin margin deposits deposits required required are affairs of the are entirely affairs of the in the entirely board of of directors of the the Clearing Association, neither the president nor the neither board directors of nor the the Association, Clearing president directors have any any authority authority to require or receive from the the Secretary-Treasurer to require or receive directors have Secretary-Treasurer or Assistant Treasurer infomation concerning the market market standing Treasurer any of the Assistant or the concerning the any infomation standing of 9 9 the any clearing through the association. association. member clearing through any

the the

Summary. The advantages advantages of houses may may of modern exchange exchange clearing clearing houses Summary. be summarized from the the standpoint standpoint of their convenience to to their of their their membe bers. By By the the process process of of daily reports, clearance, each settlement each bers. clearance, and settlement daily reports, of contracts reduces the the number of contracts on which he must mainmember (1) (1) reduces tain margins; (2) clears his contracts in each day month, thus thus of every his contracts clears tain margins; day of every month, (2) leaving himself only only buyer buyer or net amount not offset; offset; (3) seller of or seller of the the net leaving himself (3) keeps his contracts contracts fully fully margined margined up to the the market daily; all his daily; and (4) up to (4) keeps all a 9

The Cotton Cotton Trade, No. 100, 68th Congress, Senate Document No. 1st Session, Part 1, 100, 68th Trade, Senate Session, Part 1, Congress, 1st

page page

119. 119.

The Clearing Clearing House

187

substitutes the clearing house as as aa buyer buyer on every he has has substitutes the contract which he every contract clearing house as a seller seller of of every every contract he has sold sold and as contract he has bought. bought. clearing house house effects saving in labor, aa simplification in clerical The clearing effects a saving clerical labor, simplification of contract contract relations, relations, and aa vital vital service service in in the of credit of the form of credit insurance. insurance. only are the members' contracts are the contracts cleared, are also Not only also guaranteed cleared, but they they are guaranteed as to to delivery delivery and payment, payment, and the the guaranty is fortified so strongly is fortified as so that guaranty strongly that the daily margin deposits have proved sufficient to absorb every loss to the sufficient to have to loss daily margin deposits proved every the clearing house arising In fact, fact, in the contract. In of any defaulted contract. in more clearing house arising out of any defaulted than one case case the the clearing house has turned over a surplus to the trustees a turned house has over to the trustees clearing surplus of aa failed failed member's member's bankrupt bankrupt estate. estate. of machinery of trading on the the floor the exchange the clearof trading of the The machinery floor of clearexchange and the ing of exchange contracts have been described. In the following In contracts described. of have now the exchange ing following of a a typical chapter the course typical transaction transaction from the the time time follow the shall follow course of chapter we shall the order order is is placed placed with with the the broker broker until until the the contract contract is is finally the closed finally closed in in the the clearing house. house. clearing

[

CHAPTER

CHAPTER

X X

) J

Transaction on the the Exchange Exchange A Typical Typical Transaction

It will be helpful helpful now to to trace trace aa few typical typical exchange transactions It will exchange transactions to the from the time the the buying buying or selling selling orders orders are to the time-perthe time are first first given given timeperare haps days, perhaps months later-when the transactions are closed by transactions closed by later when the haps days, perhaps delivery and payment payment or by by offsetting offsetting purchases purchases or by cash cash or sales, sales, followed by delivery settlements. It however, to take as typical the progress of settlements. It is is impossible, however, to take as the impossible, typical progress of one anyone single order, for the disposition of individual transactions will for of will the individual transactions any single order, disposition vary the purposes purposes which dictated the original dictated the sale. vary with the original purchase purchase or sale. The transaction transaction may may be be initiated initiated by neither owns by a speculator speculator who neither the commodity commodity nor has has any any intention intention of of it; it the of ever ever taking it; it taking delivery delivery of be or a may a purchase or a sale by a merchant or a miller who really sale miller made may purchase by really wants delivery delivery or or to to make delivery, delivery, or, is hedging by other hand, the other or, on the hand, is hedging by buying or or selling protection against risks of price as a a protection of price buying selling as against already already existing existing risks fluctuation involved in his his inventories inventories or his commitments on the physical fluctuation involved in or his the physical market; or, or, again, may be aa transaction transaction initiated initiated by by aa trader trader on the it may the market; again, it floor of of the the exchange exchange and closed before the the end of the day; day; and, floor closed out before of the and, finally, it it may may be aa hedge hedge sale sale of producer. A clearer of a producer. clearer understanding finally, understanding of the functioning functioning of will perhaps if we follow follow of the of an exchange possible, if perhaps be possible, exchange will in detail detail different types of of orders orders which proceed buyers or sellers from in different types or sellers buyers proceed motives in in trading trading are are of a widely widely different different character. character. of a whose motives is a business The Course of a Speculative Speculative Transaction. business man Transaction. Brown is of a been in has for occasionally in commodities. He has following who speculates following for speculates occasionally some time time the of the the market in has made some in crude rubber. course of rubber. He has the course investigation of of the the demand and supply kept in touch with has kept situation, has investigation supply situation, price fluctuations, and has formed opinion on the general trend trend of of has an the fluctuations, price general opinion the rubber market. market. He believes believes that that crude rubber will will sell sell lower. the If his lower. If his crude rubber at its judgment is a profit profit by future at its is sound, distant future sound, he can make a selling a distant judgment by selling at a prevailing price price and later buying back this a lower lower price. price. later buying this same future at prevailing The first first part part of this transaction transaction is is known as Although he of this a short short sale. sale. Although as a is not a is a member of of any any exchange, may be a customer of of L. L. & & Co" Co., one exchange, he may of the of the many houses which are are members of of the the New York many large large commission houses 188 188

Typical Exchange Transaction on the the Exchange Typical Transaction

18 9 189

Stock Exchange, the the Commodity Exchange, Inc., the New York and New Stock Exchange, Inc., the Commodity Exchange, Orleans Cotton Exchanges, Exchanges, the the Chicago the New Mercantile Exchange, Orleans Cotton Chicago Mercantile Exchange, the Exchange, the Cocoa Exchange, the York Coffee Coffee and Sugar the New York York Sugar Exchange, Exchange, the other Chicago Board of Trade, and other leading commodity exchanges. of Trade, leading commodity exchanges. Chicago & Co. On January January 22 Brown telephones telephones L. L. & Co. One of the customers' customers' men of the receives call, and Brown gives gives him an oral oral order to sell order to 10 contracts sell 10 the call, contracts receives the rubber for of May for his account "at the market." (units) his "at the market." Brown knows (units) of May will be executed immediately. immediately. He has this has previously considered this order order will previously considered the use use of a limited limited price, price, but but has has decided decided that that the may decline of a the market may decline the or is not active enough to make this procedure desirable. His order, to as not active this or is order, as enough procedure desirable. to sell at the the best possible price. he used aa given, is sell at best possible is practically one to given, practically price. Had he limited order, order, he he would have have named aa definite price at at or limited definite price or above which the sale must be made. the sale is entered & Co.; order is entered on aa selling in the Brown's order the office office of L. & Brown's ticket in of L. Co.; a selling ticket the time time of its receipt receipt are upon it. The use of of its number and the are stamped it. use of stamped upon in in of names saves saves time, aids in preventing instead of time, aids mistakes in numbers instead preventing mistakes the of orders to the the exchange, and protects the identity of of orders to the transmission of the transmission exchange, identity protects L. & the the main office, direct wires wires connect & Co. Co. with customer. From the connect L. the customer. office, direct all the they are are members. The customers' teleof which they customers' man teleall the exchanges exchanges of of the to members. the floor of the exchange booths are leased to phones to leased where are floor booths to the exchange phones of L. & Co., booth, takes the L. & at that that firm's takes down the An attendant attendant of firm's booth, Co., standing standing at order to rubber. Brown's Brown's name is not mentioned mentioned-he has he has order to sell sell 10 10 May is not May rubber. a number. number. L. floor broker, broker, who receives receives the the selling order. L. & Co.'s Co.'s floor become a order, selling not know for for what customer's customer's account it to be executed. does not it is is to does executed. ring, brokers brokers are are shouting shouting their bids and offers rubber for their bids At the the ring, offers of of rubber for various delivery months. broker of L. & Co. listens for a bid for The broker L. months. of Co. various listens for bid a for delivery the activity for the time being is centered in other May rubber. Since the for the rubber. Since is in centered other activity being May he hears hears no bids bids for for May, May, he glances up at the blackboard at the months and he blackboard glances up which extends wall of of the the exchange floor. This blackboard is across one wall extends across floor. blackboard is exchange all the into fifteen prices of transactions divided in which prices fifteen columns in of all the day's divided into transactions day's the head of each column is one of are recorded. recorded. At the of each the name of is the of one are of the the is made at at the calendar months. months. As each each transaction transaction is the ring, ring, the the price price calendar the number of the board board under under the of contracts sold are are indicated indicated on the contracts sold and the the in. Attendants, Attendants, with telephone telephone headpieces headpieces and earphones traded in. month traded earphones that their their wearers wearers can walk back and forth bridge in in so attached that forth on a a bridge so attached front of board, receive receive the the price price and number of trades of lots of the the board, lots as as fast fast as as trades front reported from the the ring. ring. The broker broker looks the May to find are at the looks at are reported find May column to in order the price price at at which the the last last May May sale sale was made in order to to ascertain ascertain at at the what price price to to make his his own offer to sell Brown's account. He then offer to sell for for account. then His offer is countered offers at 20.20. His offer is by a bid of 20.10 10 May at countered bid of 20.20. from 20.10 offers 10 by May the ring, ring, but he continues to call his offer, across the call out continues to out his to make across offer, hoping hoping to thus obtain the highest highest possible possible price price for his cuseushis sale at 20.20 obtain the sale at 20.20 and thus for his his

0 19 igo

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

at the tom er. Having Having instructions instructions to to sell receiving the market, sell at tomer. however, and receiving market, however, at 20.10. 20.10. no bid bid at 20.20, he he finally sells the the ten ten lots lots at at 20.20, no finally sells to buy sell must be rules provide provide that that every buy or offer to or sell The exchange exchange rules every offer it. all of offers closed with the broker first accepts all or any part of it. No offers or first who closed with the broker any part accepts of or none" none" are permitted. If the broker's broker's offer offer had been accepted If the are permitted. "all or of "all accepted simultaneously by several brokers, the question of priority probthe of would several brokers, priority probsimultaneously by question ably have been settled immediately among the brokers themselves. The themselves. the brokers been settled immediately among ably Hoor is always present and is rule on the quesis empowered to committee is floor committee quesalways present empowered to rule tion of precedence in in case case the the brokers brokers are to reach reach an amicable are unable to tion of precedence agreement. agreement. L. broker made the the sale sale to broker representing a broker L. & Co's Go's broker to a Co., representing H. & Co., in another exchange firm. firm. Each broker broker carries printed and ruled in carries cards cards printed another exchange is noted red one side black on the the other. other. Each sale sale on the the floor Hoor is noted in black side and in red on one on the the side ruled in red, and each purchase is the side is recorded on the side in red, side ruled each purchase in are printed and ruled in black. sides are printed exactly the same black. The two sides the ruled printed exactly printed date line, except the top top of of the the red red side side of the date line, of the before the at the the card, that at card, before except that for the word "sold" the for recording the name of the column the of the and the "sold" appears the recording appears the other broker broker is headed "to," whereas on the black side the words are black are the side whereas other is headed "to," "bought" "from." "bought" and "from." Co.'s broker side printed printed in in red, red, L. & Coo's broker notes 20.10." L. & On the the side notes "H., 10, May "H., 10, May 20.10." Across the ring the the broker broker of & Co. noted on the has noted the side of his his card card of H. & Co. has side of Across the ring printed in black, "L, May 20.10." Later in the day the two brokers brokers in the in black, 20.10." Later "L, 10, 10, May day the printed will compare their their cards cards to to make sure sure that that their to quantity, their notations as to notations as will compare quantity, are in in accord. accord. L. the attend. price, and month are L. & & Co's Go's broker broker now instructs instructs the attendprice, ant at the telephone telephone booth booth to to report report to to his his office price at at which the office the ant the at the the price sale was was made. made. L. & Co. Co. immediately immediately notify Brown by telephone that that L. & sale by telephone notify they have for his his account lots of May at 20.10. All All this 10 lots at 20.10. of May this activity sold for account 10 have sold activity they required much less less time time than than is may have is necessary to it norhave required describe it-nornecessary to describe may of the mally 30 to 40 seconds the Hoor of the exchange. 40 the floor 30 to seconds on mally exchange. What Brown Sold. Sold. When Brown receives receives notification notification that that his his sale sale he knows that that he he is is now under contract to deliver to aa has been made, made, he has been contract to deliver to he does not probably never will know, 224,000 purchaser, not and know never whom he does will know, 224,000 probably purchaser, at his pounds (100 long tons) tons) some time time at his option in the the month of of May option in pounds (100 long May its own standard at 20.10 20.10 cents cents per per pound. pound. Every Every exchange at standard contract contract exchange has its unit in of which all all transactions transactions are made. Each rubber rubber contract contract unit in terms are made. terms of calls for the the delivery delivery of pounds (10 tons) , and Brown has sold 10 calls for of 22,400 has 10 sold 22,400 pounds (10 tons) contracts. contracts. Confirming the Sale. Sale. Trading exchange at the the ring continues at of the the exchange ring of Trading continues Confirming the until the closing gong sounds at three o'clock. Then tables are brought at until o'clock. the closing gong sounds three tables are brought floor broker L. & Co. out on the the floor Hoor and the the Hoor broker for for L. joins other Co. joins out other brokers, brokers, who sit to exchange exchange contract contract slips slips confirming all trades of the day. all sit down to trades of the confirming day. of these these slips is filled filled in in with with the the particulars particulars of One of of Brown's Brown's sale as follows: sale as follows: slips is ,

Typical Exchange Transaction on the the Exchange Typical Transaction

191

York, January 2 New York, January 2

SELLER ...................................... L. Co. . .................................................. . L. & &: Co. Co..................................................... . BUYER .......•.............................. H. H. & Co

Subject to the the Rules Rules and By-Laws Subject to By-Laws of of

Commodity Exchange, Inc. Inc. Commodity Exchange, Number of of Contracts of Rubber Contracts of 10 10

Delivery in in Delivery

Price Price

May May

20.10 20.10

L. L. Se & Co. Co. By .......................... .. BY

Attorney Attorney L. Co.'s broker broker hands this this slip to H. & Co.'s broker and receives a Co.'s broker receives a L. & Co/s slip to these slips they constisimilar slip him. When these constisimilar signed, they slips have been signed, slip from him. for the L. & tute binding contract the sale sale of of rubber by a binding contract for of 224,000 of tute a 224,000 pounds by L. pounds Co. to & Co. at the the contract price to of to be delivered delivered in in the the month of contract price Co. Co. at to H. & of the May. Neither knows the the customer customer of the other. other. May. Neither L. & at the of the Clearing the Trade. X., L. & Co's broker, at the day the Go's the close close of X., broker, Clearing day H. takes his slips slips (among (among them the the one signed by & Co.'s broker) to & Co/s takes his signed by broker) to his office. L. & Co.'s report to to the clearing house house is up from L. 8c the clearing is made up his office. Co/s daily daily report these slips. report, as soon as it is completed, is sent to the clearing as it is soon as is sent to The the these completed, report, slips. clearing house. & Co. Co. meanwhile have have been engaged in making out a similar in a out house. H. & similar engaged making report. Messengers Messengers of of these these two firms firms will will take take the the reports reports to to the the clearing report. clearing house, carrying carrying with with them checks for original margin requirements checks for house, original margin requirements on their respective net net purchases purchases and sales. sales. After After their their reports their respective checks reports and checks have been delivered to the the clearing L. & Co. delivered to Co. and H. & Co. Co. no house, L. clearing house, longer have any relationship with each other on Brown's sale, although Brown's each have with sale, longer any relationship although L. & Brown still remains aa customer of has now still remains of L. & Co. Co. The clearing clearing house has been substituted for H. & Co. as purchaser purchaser of May rubber and 10 May Co. as of Brown's 10 substituted for been 10 May for L. as seller seller of Brown's 10 May rubber. rubber. In other words, L. Co. of Brown's other words, L. & Co. for Co. as L. & Co. have aa contract contract of to the the clearing house, and H. & Co. have aa of sale sale to & Co. now have have clearing house, contract of purchase purchase from the the clearing clearing house house for the account of their for the of their contract of respective customers. customers. respective Brown's Margin Margin with L. L. &Co. Brown is old customer of L. & Co. Brown's is an old of L. & Co. Co. He has, with them them-enough to take the take care care of of the has, say, $10,000, on deposit enough to deposit with say, $10,000, original margin requirement and to cover subsequent small fluctuations to cover small fluctuations subsequent original margin requirement in price. Brown has has already already been notified notified by by telephone the execution in price. of the execution telephone of of his order, order, but but aa written written confirmat,ion to him before confirmation is is mailed to before L. L. & & Co.'s of his Co/s office closes the day. The commission houses send confirmations, one for the houses office closes for confirmations, day. of purchase and the other of sale, to their respective customers, as follows: of the other of purchase sale, to their respective customers, as follows:

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading CONFIRMATION OF PURCHASE Sir: Dear Sir:As indicated below, we have this this day day BOUGHT for risk, for your indicated below, your account and risk, and Customs, as existing or subject to the By-Laws, Rules, Regulations, as now to the Customs, existing or By-Laws, Rules, Regulations, subject of the hereafter amended or or adopted, adopted, of the Exchange Exchange where the was made the purchase hereafter purchase and its House, and subject to all all applicable State laws laws and its Clearing Federal and State Clearing House, subject to applicable Federal Government to the regulations of any agency having authority with respect of with to the regulations agency having authority any respect

thereto: thereto: Date, Date,

Account Account

A. A. B. B. Customer

Quantity Quantity Ten (10) (10)

Commodity Commodity Rubber

Price Price

January 2, 2, 1947 1947 January Remarks

Extension Extension

20.1O~ 20.10<

per lb. Ib. per for future of commodities for future delivery All the purchase purchase of are received received for the orders for All orders delivery are is contemplated and actual delivery and executed with the the understanding understanding that that actual executed with delivery is contemplated the party party giving the order order so understands and agrees. the right so understands reserve the to the agrees. We reserve right to giving the in our judgment are insufclose out out contract contract (s) (s) without without notice notice when margins margins in judgment are insufclose as and when authorized ficient. Contract will be be closed closed out by by us or required will us as authorized or Contract (s) ficient. (s) required if you fail by the Exchange made; or, if fail to give instructions can be be to which where instructions the made; or, give you Exchange by the contract shall close close out the contract (s) prevailing conditions, conditions, we shall or executed or executed under prevailing (s) of the take delivery delivery and dispose of the commodity by any feasible method and upon feasible take commodity by any upon dispose any terms terms which we may may see see fit. fit. Against Against aa "long" in the the near near month, month, "long" position position in any have liquidating liquidating instructions, instructions, or or we must be placed placed in in sufficient funds sufficient funds we must have first the notice of said to delivery at at least five days before the first notice day of said month, before and least five to take take delivery month, days day in default thereof we reserve reserve the the right, right, without without demand or notice, to close close in default thereof notice, to of the out the the contract (s) or to to take take delivery delivery and dispose the commodity upon any contract (s) out commodity upon dispose of any feasible. terms and by by any any method which may may be feasible. terms Yours respectfully, respectfully, Yours H. & Be Co.

By By ....................................... . CONFIRMATION OF SALE

Dear Sir:Sir: for your As indicated indicated below, below, we have have this this day risk, subject As your account and risk, day SOLD for subject as now existing to the By-Laws, By-Laws, Rules, Regulations, and Customs, hereafter to the Customs, as Rules, Regulations, existing or hereafter or adopted, of the the Exchange Exchange where the the sale was made and its its Clearing sale was amended or Clearing adopted, of to the House, and and subject subject to to all all applicable Federal and State laws and to regulaState laws the regulaHouse, applicable Federal tions of any Government agency having authority with respect respect thereto: thereto: of any tions authority with agency having

Date, Date,

Account Account Robert Brown Robert

Quantity Quantity Ten (10) (10)

Commodity Commodity Rubber

Pirce Pirce

January 1947 2, 1947 January 2, Remarks

Extension Extension

20.1O~ 20.10^

per lb. Ib. per for future delivery are received All orders orders for for the the sale sale of of commodities for received and All delivery are is contemplated and the executed with the the understanding understanding that that actual actual delivery the executed with delivery is contemplated

Typical Transaction Exchange Transaction on the the Exchange Typical

193

party giving giving the the order understands and agrees. reserve the right to to close dose so understands order so the right agrees. We reserve party out the contract (s) without notice, margins in our judgment are insufwithout in out the contract when are insufnotice, margins (s) judgment will us as as and when authorized ficient. Contract (s) will be be closed dosed out by by us or required ficient. Contract authorized or (s) required where if the fail by the Exchange made; or, if you fail to give instructions which can -to instructions which can made; or, Exchange you by give be executed executed under prevailing prevailing conditions, we shall dose out contract (s) or shall close out contract or conditions, (s) feasible method and upon delivery by by any which we may make delivery terms which any feasible any terms may upon any position in in the the current month, we must have instrucsee fit. Against Against aa "short" position see fit. current month, have instruc,tions to close close out, out, or all all necessary necessary delivery delivery documents must be in in our at tions to our hands at last trading least 55 days days before before the the last trading day of said month, and in default thereof least of said in default thereof month, day reserve the right without demand or or notice notice to to dose the contract or we reserve the right close out out the contract (s) (s) or the for actual procure the actual commodity for delivery upon any terms and by any method terms procure commodity delivery upon any by any may be be feasible_ which may feasible. Respectfully yours, yours, Respectfully

L. & Co. L. Co.

By By ....................................... .

Commissions. For executing executing Brown's Brown's order, L. & receive aa com& Co. Co. receive Commissions. For order, L. minimum for purchase mission of $200.00. prevailing commission for purchase The mission of $200.00. prevailing or sale exchange is is $20.00 $20.00 for the sale purchase of or for the sale or or purchase of one contract, sale on the the exchange contract, contracts. If If he were and Brown has has sold sold ten ten contracts. were a member of the exchange, of the exchange, the commission commission charged by L. L. & Co. Co. would be be half the above amount the half of of the charged by in all,1 -$10.00 per contract, contract, or or $100.00 all. 1 $100.00 in $10.00 per the course course of of rubber rubber prices prices in the newspapers in the follows daily Brown follows daily the newspapers and is interested reader reader of all statistical statistical matter matter and news which have have of all is an interested of course of prices bearing on rubber. rubber. Will Will the the course his anticipation? aa bearing follow his prices follow anticipation? it not. As weeks weeks go by he finds that it does not. Instead of going the he finds that Instead of down, the go by going down, price of May rubber advances. By February 1, a after he rubber advances. made of a he month after By February 1, May price his price is is up up to to 21.10. 21.10. At this this stage has an unliquidated unliquidated his sale, the price sale, the stage Brown has on his paper loss of 1 per pound his sale, and, if he were at this time 1 cent cent if loss of at this time he were sale, and, per pound paper out his his trade trade by by aa corresponding corresponding purchase, he actually to would to close close out actually purchase, 10 contracts and immediately immediately sustain this loss. loss. Since has sold sold 10 sustain this contracts (224,000 Since he has (224,000 pounds), his his paper paper loss to $2,240. loss amounts to $2,240. pounds) Variation Margins. The price price of of May May rubber rubber having having advanced 11 Variation Margins. cent a pound, L. Co., in addition to the original have paid paid & in L. addition to a the cent Co., original deposit, deposit, have pound, to the the clearing clearing house house $2,240 variation or market-difference margin. as variation or market-difference to $2,240 as margin. As it to L. & Co. pay this to the the clearing clearing house, house, which credits to the the account credits it L. & this sum to Co. pay debit the of subject to to their their draft, draft, L. L. & the & Co. Co. simultaneously of H. & fc Co., Co., subject simultaneously debit account of of Brown correspondingly. account correspondingly. Switching. price change change of Before occurs. Before of any further price any moment occurs. Switching. No further until May arrives, L. & Co. reminds that he has until May 25 (the last has that 25 Brown L. & reminds Co. May (the last May arrives, close either to of two things delivery for May rubber) to to do one of things-either to close delivery day day for May rubber) fulfill it it by to fulfill out his by aa purchase purchase of of 10 Mayor else to by the the or else 10 May out his contract contract by ,

1 For current current iFor

VIII. see Chapter commission rates rates on on commodity commodity exchanges, commission exchanges, see Chapter VIII.

194 194

Commodity Exchanges and Futures Futures Trading Commodity Exchanges Trading

of rubber of of a grade delivery of of 224,000 pounds of tenderable on the the 224,000 pounds grade tenderable delivery cover. Nevertheless, exchange contract. decides to to cover. Nevertheless, despite fact the fact contract. Brown decides despite the exchange

that price of of rubber rubber has has advanced advanced 11 cent per pound cent per his sale, since his that the the price sale, pound since not yet yet convinced convinced that that his his judgment judgment of the longer-term trend of is of the trend of is not longer-term therefore, to to get his unprofitable unprofitable prices was wrong. wrong. He decides, of his decides, therefore, get out of prices 10 May short sale, but still to remain short 10 contracts of rubber. Accordof but to short contracts short still remain rubber. sale, May 10 the ingly, he directs L. & Co. to buy 10 May rubber at the preva:iling L. to at & Co. rubber directs he buy May ingly, prevailing market price, but but to October simultaneously the market. His purchase purchase 10 October to sell at the sell 10 market. His price, simultaneously at of offsets the sale he in January leaves with of 10 10 May the him offsets sale which in with he and made leaves May January no obligation to a to deliver rubber the May contract, but he has a deliver has rubber now on the but he obligation May contract, of $2,240. May contract is bought bought back back on the floor liquidated loss loss of the floor contract is $2,240. The May liquidated of at the at 2 I.l 0, and a short sale is entered into by of the the exchange a into new short is entered sale 21.10, exchange by the sale of 10 October at, say, 21.90. has simply switched his short sale of 10 21.90. Brown short has simply switched his at, say, position from aa near near month to to aa more distant he now has has distant position, but he position position, but a a liquidated liquidated loss loss of of $2,240 to overcome. overcome. $2,240 to Brown's Trade Closed. Before October judgment Closed. Before Brown's October arrives, Brown's judgment arrives, Brown's 16.10 may be be vindicated. vindicated. The price price of rubber declines to, say, of October rubber declines to, say, 16.10 may per pound. pound. Brown now has has aa paper profit of 5.8 cents per pound, cents per of cents 5.8 cents paper profit per pound, amounting to $12,992 his sale sale of of October rubber. rubber. Deducting Deducting the $2,240 the $2,240 $12,992 on his amounting to which he he lost the sale sale of of May rubber, he he still a net profit of net profit of $10,752, still has has a which lost on the $10,752, May rubber, less commissions to L. & Co. for the the two two lots 10 contracts L. & Co. for lots of of 10 contracts each. less commissions to each. Brown & Co. to buy buy 10 buying order the L. & Co. to 10 October. follows the now instructs instructs L. October. The buying order follows same course that his his original original selling selling orders and, the conconorders pursued, the course that when and, pursued, is closed firmation notice of & Co. Co. reaches reaches him, him, his of L. L. & his trading firmation notice closed and he trading is L. of his receives aa statement & Co. Co. of together statement from L. & receives his profits profits and charges, charges, together wi th aa check. check. with If been bullish bullish on the the rubber rubber market market and, If Brown had been of sellsellinstead of and, instead ing short, had ordered L. & Co. to buy for his account, the operations ordered L. & Co. to buy for his account, the operations ing short, the same except that Brown would have made money money have been been the would have except that on his his first first and lost his second transaction. lost on his second transaction. Protective Sale. Sale. Differing Differing widely widely in of transaction the sale in type sale transaction is is the A Protective type of in crude rubber. rubber. Since the primary primary of Mr. Black, aa merchant merchant who deals deals in Since the of Mr. Black, rubber are abroad, Black Black is touch with with merchants markets for for rubber in constant constant touch is in are abroad, markets 1 he is in receipt of offers in Singapore, is in offers in Batavia, and Colombo. On April April 1 receipt of Singapore, Batavia, he rubber for April shipment shipment from exporters with whom deals, to sell with to sell rubber for April deals, exporters and he 50 tons tons offered offered by by aa merchant in price of in Singapore at a price of he accepts Singapore at accepts 50 18 cents aa pound, pound, c.i.f. c.i.f. New York, York, for 18 cents for April shipment. The Singapore Singapore April shipment. merchant will will prepare prepare immediately to ship the rubber, which will be the to will be which rubber, immediately ship en route by the the middle middle of of April. April. Not desiring to speculate on this transto this transroute by desiring speculate action, Black Black wishes wishes to to make certain that he will will not the if the not lose certain that lose money, action, money, if 18 price declines 18 cents. His shipment will probably arrive in below cents. in His will arrive declines shipment probably price at moment the June he has at the immediate buyer for the specific has no he and for the buyer specific June he he

Typical Exchange Transaction on the the Exchange Typical Transaction

195 195

is long of grade the physical physical market. market. He now is 50 tons the physical physical tons of of the long of 50 grade on the rubber, but to to protect protect himself himself from market risks risks he he can sell June sell 5 5 June rubber, but contracts (50 tons) tons) on the the exchange. contracts (50 exchange. to make the April I1 he he instructs instructs L. L. & Co. to the sale. his sale. They On April execute his They execute the exchange order at, at, say, per pound pound on the for June June delivery. cents per floor for 19 cents order exchange floor say, 19 delivery. 18 cents of 18 the c.i.f. c.i.f. price price of the price price of difference between the cents and the The difference the of the interest exchange future is represented by interest charges, weighing, trucking, is future represented by charges, weighing, trucking, exchange other incidental Black has has now bought bought at 18 cents at 18 and other incidental expenses. cents and expenses. Black in sold exchange for for delivery in June at 19 cents per pound. the the exchange 19 cents sold on the at delivery June per pound. By By the 1 arrives the for I arrives the price of rubber for immediate delivery has time June time of June price delivery declined, to 17 per pound. pound. cents per 17 cents declined, say, say, to If were not not for his sale the exchange, Black would be be compelled sale on the If it it were for his exchange, Black compelled at a to find find aa purchaser purchaser on the loss to the physical physical market at a loss to himself. himself. But he to sold the has no such problem. problem. When he he sold the 55 June June futures, futures, he had thereby has thereby if he decided to a procured a purchaser of his physical rubber, if to deliver of his deliver on rubber, purchaser procured physical the exchange. exchange. It only necessary necessary for to make delivery in accordfor him to the It is is now only accorddelivery in with his his contract, contract, if if it it is is more profitable Black ance ance with for him to to do so. so. Black profitable for in a a declining declining market through through his his protective protective sale. has avoided aa loss has loss in sale. He it at a reasonable has been enabled enabled to to buy buy the the rubber rubber and hedge reasonable profit profit has at a hedge it when, without such protection and unable unable to to sell sell it it immediately to such protection when, without immediately to an actual user, he he might might have have deemed it it unsafe unsafe to purchase. to purchase. actual user, the shipment inspected, arrives from Singapore, When the it is is sampled, Singapore, it sampled, inspected, shipment arrives weighed, and certified as to to quality. rubber is grade tendertendercertified as Since the the rubber is of a grade of a quality. Since weighed, L. & the exchange contract, instructs L. & Co. to issue transferable able on the instructs able he Co. to issue transferable contract, exchange has sold contracts, each representing representing 10 tons, and his his notices. He has 5 contracts, 10 long sold 5 notices. long tons, L. & Co. accordingly tons. L. & Co. issue 55 transferable purchase abroad was 50 tons. transferable accordingly issue purchase for each contract. notices to the clearing clearing house, house, one for house to the contract. The clearing notices clearing house that H. & Co. are among the many clearing members who are long notes & Co. are among the many clearing notes that are long rubber; accordingly, the transferable transferable notices notices are them. are sent sent to to them. on June accordingly, the June rubber; in which to H. & Co. have have a half half hour in to decide to do with the the transtransdecide what to 8c Co. the they wish wish the physical physical rubber for customer, they they ferable notices. notices. If for a a customer, If they ferable that is, they will retain-the notices accept delivery. Having will stop-that retain the notices and will will is, accept delivery. Having they stop their customer, customer, however, however, not to accept instructions not to instructions from their of the the delivery of accept delivery rubber, they send the the notices notices immediately the exchange, where their to the their rubber, they immediately to exchange, where floor broker broker sells in the the ring ring as contracts. Each succeeding as 5 5 June sells them in contracts. floor June succeeding or transferee into whose hands hands the notices come has has this this same time buyer or transferee into the notices time buyer limit half hour hour for for disposing them; otherwise, he must take take deliva half of them; of a delivlimit of otherwise, he disposing of ery. time of transfer and the endorsement of each buying the of endorsement The time of transfer member buying ery. for that in the are placed on the the notices notices in the space provided for that purpose. are placed space provided purpose. The notices finally the hands hands of broker acting of a a broker for a purchaser into the notices acting for purchaser finally come into him. notices are by him. The delivery take delivery. delivery. The notices to take are stopped wishes to who wishes stopped by delivery transferable notice notice is is aa fixed fixed business business day the date day on aa transferable date day succeeding succeeding the day

196

Commodity Exchanges and Futures Futures Trading Trading Commodity Exchanges

& Co. the buyer buyer must meantime maintain Co. and the their positions with the the clearing house; that that is, is, they they must adjust their positions clearing house; adjust margins margins to the transferable notice notice price, price, based based on the the settlement price established established settlement price the transferable to by the house at the end of of each day. will do this this until at the until the clearing day. They clearing house They will by his Black payment for the rubber has has been made. When the buyer gives his the buyer for the gives payment check in exchange for the delivery the documents, both notify the in exchange for the of the check documents, both notify the delivery of clearing house. Black's transaction then is completed. transaction is house. Black's then clearing completed. More likely, however, Black Black will will prefer prefer to to sell his physical physical rubber on sell his likely, however, arrival to a tire tire manufacturer and close close out his by an offoffarrival to a his exchange sale by exchange sale setting purchase. By doing this is likely to make an extra profit, this to extra he is likely profit, setting purchase. By doing for may obtain obtain aa small premium for for the grade on the the physical physical small premium the specific for he may specific grade market-a premium higher higher than than the the price price which he 'Would marketa premium would get delivery by delivery get by contracts. suffer the exchange contracts. In any case, by such action he will not suffer action on the will case, by exchange any any loss. loss. any Central Market Place. The Central Place. In In these these two transactions transactions the the work of of the exchange exchange as as aa great place has been briefly illustrated. The market illustrated. has been the great place briefly exchange has been likened likened to to aa telephone telephone switchboard and the the itself has exchange itself mechanism. trading ring to the board's The sale of Brown, the specuto the board's of the sale Brown, trading ring speculator, may may find find aa buyer buyer in in the the manufacturer manufacturer who wishes wishes to to make sure sure lator, of rubber at at the the price price on which he had based his a sale sale his cost cost estimates for a of rubber estimates for of manufactured goods. Black, the who sells to protect himself the merchant sells to of goods. Black, protect against the the risk risk of of price price change change while while his his rubber is is en route route from against Singapore, may have his offering taken up by a floor speculator, who, his taken have floor offering up by Singapore, may speculator, who, before the the day's trading closes, sells the contract again to a tire before the manusells contract to a tire day's trading closes, again facturer, who in in turn turn is is protecting protecting aa sale tires for sale of of tires for forward delivery. facturer, delivery. The commercial needs needs of of merchants merchants and manufacturers, manufacturers, the the judgment judgment floor all of the shrewd buying and selling of floor traders all and of traders of speculators, the speculators, buying selling contribute to make the the market liquid broad. Enough has been contribute to Enough has liquid and broad. to indicate indicate the shown to the impossibility impossibility of any single exchange transof labeling labeling any single exchange transaction as wholly wholly speculative or wholly commercial, unless one or action as unless knows commercial, speculative wholly every step through which each contract contract passes. passes. A speculator the every may be the step through speculator may maker of of the the price price which the the merchant needs for protection, whereas whereas for his his protection, it possible for the hedging hedging merchant may may in in turn turn make it the speculator the for the to speculator to possible back his his own judgment judgment of trends at risk of a loss for a mere at the of market trends risk loss for the of chance of profit. of a profit.

of the notice. Both L. L. of the notice.

[

CHAPTER

CHAPTER

XI I ) X

Hedging Hedging

trade and commerce was chiefly In days local and commodities commodities days when trade chiefly local more passed directly and quickly producer to distri,butor and from from to distributor directly quickly passed producer merchant to relatively little credit risk or hazard of substanto consumer, little credit risk or hazard of substanconsumer, relatively tial price tial price change, change, based on time, time, was involved. involved. Under modern condiconditions of tions of mass production prod