History of futures contracts
In finance , a futures contract sometimes called, futures is a standardized legal agreement to buy or sell something at a predetermined price at a specified time in the future, between parties not known to each other. The asset transacted is usually a commodity or financial instrument. The predetermined price the parties agree to buy and sell the asset for is known as the forward price. The specified time in the future—which is when delivery and payment occur—is known as the delivery date. Because it is a function of an underlying asset, a futures contract is a derivative product. Contracts are negotiated at futures exchanges , which act as a marketplace between buyers and sellers.
Midwest Grain Trade: History of Futures Exchanges
Futures trading can be traced all the way back to BCE in Mesopotamia, located in present-day Iraq. You may have heard of the sixth Babylonian king, Hammurabi. Part of that Code stipulated that goods and assets had to be delivered for an agreed-upon price at a future date. In order for goods and assets to be sold at that price, there needed to be a written and witnessed contract. This part of the code quickly led to a type of active derivatives market.
Ancient Mesopotamians would gather at temples to exchange forward and futures contracts. Ancient Greeks also got involved. Aristotle claims that Thales used his skill in forecasting to become a wealthy man. To make money from that prediction, Thales made agreements with local olive-press owners to deposit his money with them, guaranteeing that he could use their olive presses when the harvest was ready.
Thales was taking a risk. Meanwhile, olive press owners wanted to hedge against the possibility of a poor harvest. They were trading the possibility of a future windfall for the security of a fixed price today. Of course, the next year, harvest-time arrived in Greece. There was a huge increase in the demand for olive presses. Demand outstripped supply, and Thales sold his future-use olive press contracts at a rate of his choosing, making a large quantity of money in the process source.
Some people have compared it more to an option contract after all, Thales was not obliged to use the olive presses if there was a poor harvest. Japan is credited with creating the first futures exchanges in the modern era. The exchange was first established in , which was when the Japanese economy was undergoing an unusual surge in prosperity. In , the rice exchange received an official license from the Shogunate the national government at the time. By , merchants were trading futures contracts based on the perceived future value of rice.
Why was a rice exchange so important in Japan? In fact, the brokers on the Dojima Rice Exchange are credited with introducing and spreading paper money across Japan. The Dojima Rice Exchange became increasingly important starting in the s, when the price of rice plummeted across Japan. At first, this seemed like a good thing for buyers, as it meant rice a food staple was cheaply available.
However, since the entire economy of Japan depended on rice, it wreaked havoc on the economy, which still largely used race as a medium of exchange. Samurai — the people who were paid entirely in rice — began to panic.
Their income had just plummeted, relative to real value. Speculators began playing games with the system to influence the value of rice. Speculators would hold onto vast warehouses of rice, for example. Starving Japanese populations began to riot against these speculators.
Eventually, the Shogunate stepped in and secured a minimum price for rice, bringing at least some security to the economy. However, Japan officially gets credit for the creation of futures markets. Stock market trading in general is linked back to coffee houses in 16th century London. This exchange was responsible for trading copper, lead, and zinc, firmly establishing metals and ores as key commodities on futures markets.
Between the s and , metals like aluminum, nickel, tin, steel, cobalt, and molybdenum would be added. In fact, trading on the LME exceeds world metal production by a factor of Six different types of contracts are available against 13 underlying LME metals. You can learn more about the LME at www. The Chicago Mercantile Exchange was created in the 19th century.
The farmlands and cattle around Illinois are only part of the reason why Chicago was so successful in creating a future exchange. Chicago was also the hub of transportation, distribution, and trading of agricultural production. When agricultural produce prices were high, Chicago was booming. When prices were low, Chicago and its surroundings were in bad shape. The Chicago Mercantile Exchange was a logical way for agricultural companies to hedge their bets in an uncertain industry.
They were able to insulate themselves from the inherent market risks of running an agricultural business. It all started in when Chicago decided to create a way to regulate forward contracts. At the time, forward contracts were standard among agricultural producers: agricultural producers would sell forward contracts.
However, if the price of that commodity varied dramatically by the time the produce was delivered, either the buyer or seller would drop out, making the forward contracts virtually useless. Chicago needed a formal system that enforced the price of futures. The CBOT specialized in the trading of forward contracts. Its first forward contract was a contract for corn. By , the CBOT had created a standardized system for futures contracts.
During the First World War, the exchange suspended activity. This market offered contracts in foreign currencies, including the British pound, Canadian dollar, German Mark, Japanese yen, Mexican peso, and Swiss franc. Born in Bialystok, Poland in , Melamed today serves as an advisor on futures markets to governments around the world. The IMM did more than just allow currency futures trading: it also allowed for interest rate futures trading — including 90 day US Treasury bills and 3-month Eurodollar time deposits.
All CME products fall into one of these three divisions. When it comes to the history of futures trading in America, the story is dominated by the Chicago Mercantile Exchange. The city created its own regional market in , and allowed futures exchanges throughout that market starting in We mentioned above that the Chicago Mercantile Exchange started offering futures trading in foreign currencies starting in with the founding of the International Monetary Market.
A division called the Commodities Exchange also allowed for futures trading in gold, silver, and copper. Platinum and palladium were added later after the US dollar removed itself from the gold standard.
Today, futures trading exchanges can be found all over the world, but America remains the home of the most active futures trading markets. We just mentioned that futures trading expanded rapidly in the s. This expansion can be traced directly back to the breakdown of the Bretton Woods exchange rate system.
We could write an entire history article about the Bretton Woods exchange rate regime, but essentially, the breakdown of this system in the s meant that the US dollar was no longer pegged to the value of gold, which opened the economy to more fluctuations. It led to a system of flexible exchange rates along with side effects like high inflation. The introduction of flexible exchange rates and high inflation presented an opportunity for futures markets.
More uncertainty in the global economy meant that more people would be seeking to hedge their bets in the futures markets. This is when financial futures markets started to grow. Prior to this point, most futures markets particularly in America involved agricultural commodities. Today, agricultural commodities are still frequently traded on futures markets, although financial futures and options are by far the most dominant part of the market.
Modern futures trading is understandably quite different from the commodity-based exchanges of the 19th and early 20th centuries. First, open outcry trading has declined in popularity.
The vast majority of trades are performed electronically. Today, traders can easily speculate on the price of virtually any commodity going up or down in the future. You can speculate on the price of corn, lumber, gold, or even potatoes, for example.
You can speculate on the price of currencies all over the world. Huge numbers of contracts trillions and trillions of dollars every year are traded daily. The history of futures trading is as old as civilization itself. It can be traced back to ancient Babylon and Greece, when merchants exchanged forward contracts.
These merchants all sought the same thing: they wanted to cash in at a fixed price today to avoid the risk of tomorrow. Futures traders, on the other hand, sought to buy at a low fixed price today on the assumption that prices would rise in the future. Your email address will not be published. This site uses Akismet to reduce spam. Learn how your comment data is processed. Modern Futures Trading in Japan Japan is credited with creating the first futures exchanges in the modern era.
The Rice Crisis of the s The Dojima Rice Exchange became increasingly important starting in the s, when the price of rice plummeted across Japan. The Expansion of Futures Trading in the s We mentioned above that the Chicago Mercantile Exchange started offering futures trading in foreign currencies starting in with the founding of the International Monetary Market. This was just one of several major expansions in futures trading that occurred in the s. Modern Futures Trading Modern futures trading is understandably quite different from the commodity-based exchanges of the 19th and early 20th centuries.
Conclusion The history of futures trading is as old as civilization itself. Johnson Hur. After having graduated with a degree in Finance and working for a Fortune company for several years, Johnson decided to follow his passion by embarking on a path to the digital world. He has over 8 years of experience with large companies setting marketing strategy. Leave a Reply Cancel reply Your email address will not be published.
All Right Reserved. Private Policy Disclaimer: When you click on links to various merchants on this site and make a purchase, this can result in this site earning a commission.
The next large market to begin trading futures contracts was the cotton market. Forward contracts in cotton began trading in New York in the. A futures exchange or futures market is a central financial exchange where people can trade standardized futures contracts defined by the exchange. Futures contracts are derivatives contracts to buy or sell specific quantities of The recent history of these exchanges (Aug ) finds the Chicago Mercantile Exchange.
But did you know that futures trading traces back to ancient Greek and Phoenician merchants, who transported their goods for sale around the known world, opening deep and lasting global interconnections based on trade? Modern, electronic, globally traded futures markets have their origins in the Nineteenth-Century United States, as increasing agricultural production and consumption necessitated a central market for delivery, sale, and purchase, and eventually price discovery and payment and quality guarantees. Early Nineteenth-Century U. During this time, storage facilities were primitive, markets were disorganized, and production was unpredictable.
Futures trading can be traced all the way back to BCE in Mesopotamia, located in present-day Iraq. You may have heard of the sixth Babylonian king, Hammurabi.
History of Commodity and Futures Trading. As more farmers and merchants began delivering their wares to Chicago, the first American exchange was set up in
Futures contract
A futures contract generally a short form of " commodity futures contract" is a legally binding agreement transacted on a futures exchange to make or take delivery of a specified commodity or other asset, at a fixed date in the future, at a price agreed upon between buyer and seller at the time of the trade. This contrasts with options trading, in which the option buyer may choose whether or not to exercise the option by the options exercise date. The futures contract itself specifies exactly what is being bought and sold, and the manner in which the transaction takes place. A futures contract defines:. The concept of the futures contract has agricultural roots.
A futures exchange or futures market is a central financial exchange where people can trade standardized futures contracts defined by the exchange. Futures exchanges provides physical or electronic trading venues, details of standardized contracts, market and price data, clearing houses, exchange self-regulations, margin mechanisms, settlement procedures, delivery times, delivery procedures and other services to foster trading in futures contracts. Futures exchanges can be integrated under the same brand name or organization with other types of exchanges, such as stock markets , options markets , and bond markets. For-profit futures exchanges earn most of their revenue from trading and clearing fees. Futures exchanges establishes standardized contracts for trading on their trading venues, and they usually specifies the following: assets to be delivered in the contract, delivery arrangements, delivery months, pricing formula for daily and final settlement, contract size, and price position and limits. Delivery locations accommodate the particular delivery, storage, and marketing needs of the deliverable asset. For example, ICE frozen concentrate orange juice contracts specify delivery locations as exchange-licensed warehouses in Florida, New Jersey, or Delaware, [7] while in the case of CME live cattle contracts, delivery is to exchange-approved livestock yards and slaughter plants in the Midwest. Contract sizes that are too large will dissuade trading and hedging of small positions, while contract sizes that are too small will increase transaction costs since there are costs associated with each contract.
