Betting on exchanges.
“CME to Launch Futures and Options on U.S. Nonfarm Payrolls”
According to a release from CME Group, the new contracts “will allow customers to directly manage their exposure to the government labor number or to offset positions in financial markets.”
The monthly U.S. nonfarm payrolls report is one of the most influential economic indicators globally as it is based on a survey of 375,000 businesses conducted by the U.S. Bureau of Labor Statistics that is usually released on the first Friday of each month.
“The Nonfarm Payroll report is typically the first major economic release of each month and speaks to the condition of employment from the prior month. It is closely followed as a way to gauge how the Federal Open Market Committee perceives economic growth,” the release said.
“There is a strong correlation between the nonfarm payroll report and CME Group financial futures contracts as well as other financial instruments,” said Rick Redding, CME Group’s managing director of products and services.
“Listed futures and options on futures on the nonfarm payroll are a transparent, straightforward and accessible way for our customers to offset unexpected financial market moves that often occur when this number comes out,” Redding added.
On the one hand, I can only applaud this initiative and I will watch with interest to see how successful these contracts become (in terms of volumes and liquidity.) Of course, on the other hand, it begs the question once more as to the logic of US anti-gambling laws and the resulting discrimination against a number of non-US players who could ostensibly compete in offering betting markets in economic outcomes.
Yes betting. The new CME contracts will allow people to bet on the monthly US nonfarm payroll number. Shocking I know… The optimist in me wants to believe that new contracts like these will further expose the latent hypocrisy implicit in the relevant US regulatory and legislative regimes and will ultimately lead to a more lucid and robust rewriting of these over the next several years. The pessimist in me fears that the growing power of the CME, combined with a knee-jerk reaction to anything vaguely associated with (financial) innovation due to the current market crisis, will mean any market innovation will need the explicit or implicit support of the boys in Chicago.
Of course in the world of financial exchanges, the investment banks just may have the lobbying power to face down the CME - their ‘consortium-backed’ futures exchange projects (see here and here) will be interesting to watch. On paper they should have no problem creating (a) compelling alternative(s) to the global oligopoly in listed futures and options; but getting a dozen bulge-bracket investment banks to work together is devilishly tough in the best of times. Like herding cats. In times like these, well we’ll just have to see… Of course a truly level playing field would open the flood-gates in terms of innovation (in technology, business models) and create enormous value for the ultimate consumers of financial exchanges (which is to say, any one with a savings or pension entitlement.) I would love to see this happen and despite the power of the entrenched status quo, I remain optimistic that we will see the levy break in the next few years. I’m sure AT&T seemed just as unassailable (as the CME does now), prior to telecoms deregulation.
In the world of futures and derivatives exchanges, I suspect the vector for regulatory-driven change lies in separating trading from clearing and settlement. It is this vertical integration - most famously practised by the CME and Eurex on each side of the Atlantic respectively - that is the greatest barrier to disruptive and innovative competition in this marketplace. By tying trading of the instruments they list to their own central clearing house, the exchanges create a ‘walled-garden’, locking in their customers. What the world needs is an open architecture - such that any market participant could chose both where to trade and where and how to clear. Indeed, Craig Donahue recently lambasted the investment banks for having continuously resisted clearing derivatives via a central counterparty:
“These problems exist in large part because investment banks traditionally have resisted a more centralised, transparent execution system for these products, preferring to maintain their dealer franchises and proprietary trading profits,” he said. “And they have tended to oppose central counterparty clearing services in these markets, worried that a mutualised risk structure will dissipate their credit and balance sheet advantages.”
While I have much sympathy for this view - he is correct in saying investment banks actively resist any moves to clear OTC derivatives via central counterparty fearing the effect of greater transparency on their margins - the catalyst for his outburst was a DoJ suggestion that the clearing and trading activities of the CME should be separated. A view for which I also have much sympathy. The alternative is to force big clearing houses to open up their platforms, much as telecom and utility regulators have forced the historical monopoly providers to open their infrastructures to competitors.
Disclosure: I have been trading a number of the large publicly listed exchanges (including both the CME and Eurex’s parent Deutsche Borse) from the short side over the last few months (although I closed out all my positions this morning after the big sell-off, but will be looking for opportunities to reset these short positions in the weeks and months ahead.) Unless…
Unless one of these big exchanges can actually kill the sacred cows and grasp the transformational opportunity on offer (before some or some number of upstarts beats them to it.) The thing is, the ‘incumbents’ have many significant advantages. Of course this is generally true in any industry, but it is especially true for exchanges: liquidity is the sine qua non of a successful exchange and for any new entrant, acquiring sufficient liquidity is a daunting (but not impossible) challenge. So the real question (if you are running an exchange) becomes: is it better to hide behind and valiantly defend these protecting barriers or do you leverage your intrinsic advantages, embrace change and re-invent your business model for a digital world?
It shouldn’t come as a surprise that I would favour the latter option, and indeed have a number of ideas as to how one might go about executing such a transformation successfully. All (or most) of which I guess would be anathema to the traditional exchange “seat holders” and admittedly might be very hard for a publicly listed company to effect (short term pain for long term gain.) It is ironic (given their relatively recent emergence as public companies for many) that perhaps the only viable way to transform an ‘incumbent’ exchange would be under private ownership…now I just need the valuations to come down a bit more and then pick a target! (Of course there would also be the small matter of finding a few billion of capital to finance the purchase…) 
