The Trading Future
New electronics are threatening the old-style open outcry system of buying and selling
By Margaret Price
Margaret Price is a regular contributor to Newsday.
October 27, 2002
Kerry Catanzano used to thrive on being a commodity futures trader. He made a good living in the energy futures rings of the New York Mercantile Exchange, standing shoulder to shoulder with scores of others, barking out bids and offers for contracts in a frantic process that verges on being a contact sport.
"Every day is different. Every day brings an opportunity to learn something ... and to make money," Catanzano said.
Unfortunately, the demanding open outcry system can also take a toll on traders - from voice and throat problems to the sort of stress-related illness that ended 40-year-old Catanzano's career. In April 2000, the Glen Cove resident suffered a massive heart attack.
"Three different doctors told me to find a new profession because of the mental and physical stress that trading put on my body," said Catanzano who suffered a second heart attack this past January.
Traders say voice, back and neck problems are common but they "know what they're getting themselves into," when they choose the profession, according to Stefan Greenberg, managing director of Cowan Financial Group, an estate and financial planning firm in New York.
Greenberg said traders find the job attractive for its earnings potential, the excitement of the trading pits, and the fact that "they don't need a college education to trade on the floor."
And despite the hazards of the job, outcry practitioners are among the first to defend the 150-year-old process in face of a global push to make trading an all-electronic affair.
"When large orders come into the ring and prices start moving, there's electricity there, and an adrenaline rush. You don't get that feeling" through screen-based electronic trading, said Thomas Butler of Butler Brokerage Corp, who trades in frozen concentrated orange juice and cotton at the New York Board of Trade.
But it seems traders, some who learned the outcry system from their fathers, are fighting a losing battle in many exchanges.
The tide of events is working against open outcry as the cost advantages and efficiencies of electronic futures trading spread. Proponents insist electronic trading is faster, less prone to error, and as its usage grows even more, it will become much less expensive on a per transaction basis.
In 2000, experts point out, Frankfurt, Germany- based Eurex, an electronic financial futures and options exchange, replaced the Chicago Board of Trade as the futures exchange with the highest trading volume. Today, America, with spirited trading in Chicago and at the New York Board of Trade and New York Mercantile Exchanges among others, remains the major holdout of open outcry. But even in the United States, most, if not all, new futures exchanges and products are electronically traded.
"Ten years ago, virtually all futures contracts were trading in New York or Chicago," said John Damgard, president of the Futures Industry Association. "Since then, not unlike autos after World War II, Europeans and Asians have created fine futures exchanges, but virtually all are electronic. As a consequence, the cost of this trading is much lower outside the U.S."
The bottom-line savings have prompted a flurry of electronic trading developments recently in the United States. For example, BrokerTec Futures Exchange, based in Jersey City, N.J., was launched Nov. 30, 2001, as all-electronic exchange. It offers the same three U.S. Treasury futures contracts that also trade, side by side, electronically and via open outcry, at the Chicago Board of Trade.
And on Nov. 8, two new electronic exchanges expect to debut: OneChicago and Nasdaq Liffe Markets.
OneChicago, formed as a joint venture of the Chicago Board of Trade, the Chicago Board Options Exchange and the Chicago Mercantile Exchange Inc., plans to offer electronic trading of futures on single stocks and narrow-based stock indexes. New York-headquartered Nasdaq Liffe Markets, created as a joint venture between the Nasdaq Stock Market and the London International Financial Futures and Options Exchange, will provide futures trading of exchange-traded funds and single stocks.
What's more, so far, two exchanges, the New York Mercantile and the Chicago Mercantile Exchange, have demutualized. In addition, the Chicago Merc has announced plans for an initial public offering. By converting from a nonprofit membership structure to a for-profit, shareholder-owned organization, pressure could be increased to switch to electronic trading if it made economic sense to shareholders , Damgard said.
In June, the New York Merc - a staunch supporter of open outcry trading - in partnership with the Chicago Merc rolled out two electronically traded "e-miNY" futures contracts: in natural gas and in crude oil. (The New York Merc also has been offering after-hours electronic trading since 1993).
However, these contracts which are about 40 percent of the size of the New York Merc's standard crude oil and natural gas futures contracts, "were designed for retail customers, who we hadn't appealed to in the past and who have been disappointed by the stock market," explained New York Merc spokeswoman Nachamah Jacobovits. "They were not meant to replace open outcry trading."
Indeed, in New York, the Merc and the NYBOT remain bastions of open outcry, with about 1700 traders battling in the pits. For customers the system's attractions include its ability to handle complex trading strategies, and its structure ensures trading volume through the presence of local traders in the pits. And today, having weathered a major threat from Internet-based trading strategies, people are hurrying back to the Merc, Jacobovits said.
As evidence, she cites a 29 percent rise in that exchange's overall trading volumes this year and sky-high prices for seats. Indeed, on Sept. 25, a seat on the New York Mercantile Exchange's NYMEX division, where energy futures trade, sold for $1.11 million, "the highest price at any U.S. futures exchange," Jacobovits said.
To energy trader David Greenberg, the swelling value of a spot in NYMEX is no short-term fluke driven by talk of war with Iraq.
"Before the Iraqi issue came to a head, NYMEX seat prices were rising because many of the electronic trading platforms, including EnronOnLine [a natural gas trading system run by Enron Corp.] folded, and people realized they need a reliable place to lay off energy counterparty credit risk [risk that one party in a trade will default]," said Greenberg, who is president of Sterling Commodities Corp. in New York, and a member of the board of directors at the Merc.
Such factors "have further strengthened the Merc's attractions as a premier trading center," he said.
"I feel secure that the New York Merc [and its open outcry system] will be around for some time. I am only 38, and I have a lot farther to go in my career. I own a seat on the exchange and my company owns multiple seats, and we have no intention of selling any of them."
Jacobovits said the support for open outcry was intense at the Merc.
"Over the last 10 years, every candidate running for the [New York Mercantile Exchange's] board of directors has campaigned on the platform of saving open outcry," she said, adding that traders "believe this is the way they are going to be able to maintain their ability to do business."
In fact, the Merc and NYBOT are evidently taking steps to fortify open outcry at their exchanges - in many cases, through the use of electronic tools. For instance, "At the moment, the NYBOT is working on electronic order routing, order book management systems and the automated trading card," said Patrick Gambaro, the NYBOT's interim chief operating officer.
The OBMS and ATC are hand-held electronic devices already in use by some traders. They're meant to make the open-outcry system more efficient and faster, and further "enhance the way brokers service their clients," Gambaro said.
Gambaro acknowledges that automated and overnight futures trading might work for some kinds of contracts, such as those on financial instruments. "But in our commodities," specifically, coffee, sugar, cocoa, cotton and frozen concentrated orange juice, "we are not in the position to move toward an automated environment" because the hedgers - investors who try to reduce risk by betting on future price movements - that use the NYBOT want the knowledge and services of floor brokers, he said. "They can't get those services from a computer."
These customers also depend on open outcry and its traders to make markets, said Butler of Butler Brokerage. "In the smaller agricultural futures markets," trading relies on the "human element," he said. "It would suffer without the locals who provide liquidity and brokers who advise clients on market conditions."
The argument is being made daily by traders and their clients to preserve open outcry, although broadly, Damgard of the Futures Industry Association expects "quite a migration to electronic trading" in the next five years.
But, "I can't predict the agricultural markets will ever completely abandon open outcry," Damgard said. In that arena, "there may not be enough incentive for someone to make those markets electronic."
Opening Cries
In the open-outcry system, brokers and "local" traders shout out bids and offers for futures contracts as they stand in trading rings, or "pits." It looks like organized chaos, and that's the way traders like it.
The loud, vigorous world of commodity futures trading has its roots in the time when producers lined up next to each other to sell their wares. Some large exchanges, such as the New York Stock Exchange, maintain elements of open-outcry. But its specialist system, where each stock is assigned to a specialist or auctioneer, ensures there's usually just bids and offers made in a normal speaking voice. It's at commodity futures exchanges where outcry continues.
The first recorded futures trading began with rice trading in Japan in the 17th century. But in America, the practice began in the mid-1800s, following the 1848 creation of the Chicago Board of Trade. Initially, the CBOT was a cash exchange where grain farmers brought their produce to sell in an organized fashion where buyers and sellers could agree on a price. The grain's purity could be determined by holding it up in the sunlight and that would help determine price. Use of the exchange also helped
farmers determine how much product to bring to market. Prior to the CBOT's existence, farmers often dumped the excess supply from their marketing missions in the Chicago River.
By 1865, futures trading appeared at the CBOT, evolving out of earlier "to arrive" and "forward" contracts for future delivery of grain. And futures trading spread with the creation of other exchanges, including the New York Cotton Exchange, New York's first futures exchange. In 1872, dairy merchants created the Butter and Cheese Exchange, now known as the New York Mercantile Exchange.
According to the CBOT, futures trading became more formalized by the late 1870s, and speculators began appearing on the trading scene. But for much of the next century, futures trading largely centered on agricultural products, until new kinds of futures contracts, including those on financial instruments, made their debut.
- Margaret Price
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