The moves come as the exchange continues its process of “demutualizing” its structure to become a for-profit, shareholder corporation.
Actions taken by the CME Board include: expanding direct electronic access for all customers to products traded on the exchange’s GLOBEX®2 system; removing limitations on customer access to bids and offers in GLOBEX2 products; eliminating restrictions on the number of GLOBEX2 workstations that members and customers can have; and expanding customers’ trade execution choices through the adoption of new exchange-for-physical (EFP) and block trading facilities in key CME products.
Other actions approved include a major overhaul and down-sizing of the exchange’s committee structure and expense reductions designed to enhance operating performance.
Said CME Chairman Scott Gordon: “I am extremely pleased with the Board’s continued commitment to accelerating changes that will create shareholder value by embracing the concept of intense customer focus. These far-reaching changes further position the CME as the momentum player in global exchange-traded derivatives markets.”
“Today is a watershed day for customers of the Chicago Mercantile Exchange,” said CME President and CEO Jim McNulty. “We have made great strides in meeting customer needs and opening access to our markets. These changes will help us fulfill our mission of serving and empowering our customers by providing focused technology, unsurpassed clearing services, innovative products and fair, transparent and efficient markets.”
Electronic Trading Access
The CME Board voted to allow unlimited, direct access to its GLOBEX2 electronic trading system for all market participants. Previously, only members, clearing members or those with the exchange’s Electronic Trading Hours (ETH) Permit could have direct access to the system.
As a result of the Board’s actions, the ETH Permit Program will be phased out, obviating the need for non-members to meet the exchange’s qualification requirements and pay ETH application fees. Generally, institutional customers were not permitted to participate in the permit program. Going forward, any individual or institutional customer guaranteed by a clearing member of the exchange will be able to obtain direct access to GLOBEX2.
As part of these changes, all market participants will have access to “the book,” i.e., the ability to view bids and offers in the market.
The exchange also eliminated restrictions on the number of GLOBEX2 workstations individuals or firms can have. The Board’s actions are expected to facilitate the development and growth of trading rooms and arcades by enhancing the ability of introducing brokers and non-clearing futures commission merchants (FCMs) to offer their customers direct access to GLOBEX2, McNulty said.
The GLOBEX2 access changes will become effective immediately upon receipt of regulatory approval by the Commodity Futures Trading Commission (CFTC).
Other Electronic Trading Enhancements
Separately, the Board voted to eliminate current restrictions on the number of E-mini S&P 500, E-mini currency and E-mini lean hog futures contracts that can be entered electronically on GLOBEX2. Currently, orders of greater than 30 contracts must be placed as “all-or-none” orders via open outcry.
This move follows similar changes adopted for the E-mini Nasdaq 100 Index futures contract. No such restriction will exist for the FORTUNE e-50TM Index futures that will begin trading Sept. 5. “We are demonstrating our commitment to expanding customers’ trading opportunities on GLOBEX2,” said Gordon.
This change, also subject to CFTC approval, will be implemented later this year after the completion of systems changes.
Alternative Order Execution Initiatives
The Board also voted to expand significantly the range of customer choices for alternative execution procedures such as exchange-for-physicals (EFPs) and block trading rules. “These actions are designed to provide customers with enhanced transaction efficiencies and far greater flexibility in using the exchange’s products and services,” McNulty said. “We believe they will address our customers’ needs while also fostering growth and enhancing our revenue streams as a for-profit company.”
Specific actions taken include: eliminating the restriction against using EFPs in the back months of Eurodollar futures, as well as in Eurodollar packs and bundles; ermitting block trading for individual instruments and recognized spreads or combinations in the first four quarterly and serial Eurodollar futures and in Eurodollar options with a minimum order size of 2,000 contracts; permitting block trading for individual instruments and recognized spreads or combinations of stock index options with a minimum order size of 250 contracts; permitting block trading of futures contracts for individual instruments and recognized spreads or combinations on the FORTUNE e-50, Russell 2000, Nikkei 225, S&P Mid-Cap, and S&P/Barra Growth and Value indexes – with a minimum order size of 50 contracts; eliminating restrictions pertaining to EFPs involving the FORTUNE e-50 contract; and permitting block trading for individual instruments or recognized spreads or combinations of currency options with a minimum order of 250 contracts.
An EFP is an exchange of an underlying cash position for futures by private negotiation between two parties. Current CME rules allow for EFPs against substantially similar “spot” items in many markets but impose restrictions on others.
A block trade is a privately negotiated futures or options transaction that takes place outside of the pit. Such transactions can occur only among those parties considered by the CFTC to be “eligible participants,” including banks, insurance companies, commodity pools, futures commission merchants, large broker-dealers and high net worth retail traders. Block trading fees will be the same as those applicable to EFP transactions.
The new EFP and block trading facilities will be implemented upon receipt of CFTC approval.
Committee Structure
Streamlining the governance and decision-making structure of the exchange has been one of the stated goals of demutualization. As part of that plan, the Board of Directors will be reduced in size over a two-year period from 39 members to 19 members.
The Board’s action abolished the current structure of dozens of committees and replaced it with 14 streamlined and consolidated committees. As part of the exchange’s self-regulatory responsibilities, pit committees for active floor-traded products will be retained to provide real-time oversight of trading activity, price quote corrections and enforcement of pit decorum rules.
All told, the Board approved an 85 percent reduction in the number of existing committees. In many cases, staff of the exchange will assume decision-making responsibilities previously handled by committees, at times with an advisory role by members of the exchange.
Three of the committees have been composed and chartered to reflect the anticipated new public company status of the organization. The new committees include an Audit Committee, a Board Nominating Committee and a Compensation Committee. The Audit Committee will review the results and scope of internal and independent audits and oversee the exchange’s accounting and internal control procedures. The Board Nominating Committee will review qualifications for the Board and propose nominees for the at-large directors to be elected by Class A and Class B shareholders under the demutualized structure. The Compensation Committee will oversee the salary, bonus and other compensation arrangements and benefit plans of the Exchange.
Expense Reductions and Pricing Changes
The exchange will reduce expenses by approximately $7 million this year. “These changes are part of the ongoing process of improving operating performance and creating shareholder value that is constantly at the centerpiece of the strategy of all highly successful for-profit companies,” McNulty said.
Background on CME Demutualization
Members of the exchange voted overwhelmingly June 6 to transform the 102-year-old institution into a shareholder corporation, with a 98.3 percent favorable vote – the highest margin of approval in the history of the CME. The vote was the first of its kind for a major U.S. financial exchange. The CFTC approved the applicable rule changes for the transaction on June 15.
All that remains to turn members of the CME into shareholders with an equity stake in the company is a favorable tax ruling from the Internal Revenue Service (IRS) and the final preparation and filing of various corporate documents. The IRS ruling would confirm that the conversion of memberships into shares of a for-profit corporation will qualify as a tax-free reorganization for federal income tax purposes.
The CME was the first major U.S. exchange to announce a plan to demutualize – the result of a year-long strategic planning initiative and vote of its Board of Directors in October 1999. The exchange first filed a registration statement with the U.S. Securities and Exchange Commission (SEC) on Jan. 28, and the SEC declaration of the effectiveness of that statement, as amended, on April 25, paved the way for the June 6 vote.
The Chicago Mercantile Exchange trades futures and options on interest rates, stock indexes, foreign currencies and agricultural commodities.
Further information regarding the demutualization plan of the CME can be obtained from the CME’s proxy statement and other materials available on the CME Web site.