WASHINGTON (HedgeWorld.com)--A debate about the common clearing of products at the U.S. futures exchanges has picked up steam of late, and at least one member of the Commodity Futures Trading Commission said that she is paying careful attention.
On Sept. 17, the CFTC's website posted remarks addressed by the new commissioner, Sharon Brown-Hruska, to a luncheon of the Futures Industry Association last week.
Ms. Brown-Hruska, sworn in as a commissioner in August, (Previous HedgeWorld Story), was a staff economist in the CFTC's division of economic analysis in the early 1990s.
After discussing some of the changes in the derivatives markets and its regulatory system since that time, she told the FIA that "the recent debate between the [futures commission merchants] and exchange communities on clearing issues has not escaped my attention." She believes, she added, that the question of competition is a crucial one, but she took no more specific position.
"Personally, I'm looking forward to the opportunity to hear both sides of this debate, to understand all of the issues involved and to working with the FCM community as well as the exchange community to answer the concerns of the industry and develop practical solutions."
The Issues Involved
From the point of view of her hosts, the FIA, the debate is over the need for a separation of clearing and execution, and a common clearinghouse for futures. The FIA anticipates that such a clearinghouse would perform a role analogous to that of the Options Clearing Corp.
On Aug. 1, at a CFTC roundtable, the president of the FIA, John M. Damgard, contended that when Congress reformed the derivatives regulatory system in 2000, it "expected the forces of competition to take the place of the old prescriptive approach to regulation.... This role for competition has not been fully realized yet, and it is going to become more and more important in the coming world of for-profit exchanges."
The OCC, as Mr. Damgard noted, was spun off from the Chicago Board Options Exchange in 1974, and the American Stock Exchange, which was then entering the stock options business, became a joint owner. Other exchanges have joined the OCC in succeeding years.
Will the same model work for the futures exchanges? Mr. Damgard believes that it could work, would stimulate competition for the benefit of the industry as a whole, and that it has not yet taken hold only because the futures exchanges refuse to allow it. "By keeping their clearing operations closed and proprietary, and their products non-fungible, they make it more difficult for another exchange to compete." He went further, and charged that the exchanges are in effect a shared monopoly.
"I can name only one case where an exchange lost a liquid, dominant contract because of competition--and that's the LIFFE Bund contract. Other than that, we have lots of talk, but no successes by new entrants."
Nickolas J. Neubauer, chairman of the Chicago Board of Trade, replied to these contentions in a letter mailed to all of CBOT's members on Sept.10.
"There is so much misinformation in that testimony," he said, "that it would take many pages to discuss it all," but as an example it "shows why we must continually communicate and be sure that our [the exchanges'] message is received and understood" in Washington.
More specifically, he said that there is nothing unique about the LIFFE Bund contract. "There are many instances of contracts going from one exchange to another or being the subject of intense competition, e.g. silver and gold, swaps, agencies, T-Bonds, Five-Year notes, plywood and lumber, Nasdaq 100, CDs, crude oil, to name a few, not to mention the fact that whole new exchanges were set up to compete, e.g., Brokertec, Cantor Exchange, New York Futures Exchange."
Furthermore, he suggested that the FIA arguments are themselves tainted by self-interest.
"The proponents" of common clearing, "want to trade against their customers' orders...and they see fungibility as a way to weaken the exchanges so that they will be unable to enforce rules that ensure the competitive exposure of customer orders."
Other Matters In Letter
Mr. Neubauer's letter to the members addressed a variety of other issues. He said that volume, and as a consequence finances, have improved significantly this year and, as a result, the CBOT is rolling back fee increases instituted in 2000.
"These fee reductions begin in January 2003 and are subject to change in the future if circumstances warrant. But the CBOT is committed to low fees as long as the exchange is financially sound, and I encourage all delegates and non-members to look at the economics of seat purchase."
He also said that he believes preliminary versions of the restructuring plan "provided too much potential to isolate management from membership," and he hopes to present a revised proposal by the end of this year.
The board of directors under the new plan will consist of 12 members and three public directors. The shareholders will be entitled to call special meetings of the holding company, and the members will be entitled to call special meetings of the exchange subsidiary. Furthermore, there will be provisions that will limit the possibility of the loss of control by the members, such as transfer restrictions on the common stock of the holding company.