The derivatives industry is very old - you can find references to it in the works of Aristotle and the Bible - yet very young. The concept of options and futures was first embraced by speculators (such as olive squeeze described by Aristotle or the tulip craze in the 17th century) but then adapted to the commodity markets. The need to lay off risk very soon became clear, but the lack of standardisation, storage, proper transportation and so on made it very difficult. Most of the very early efforts to trade such products failed because they mainly worried about buying and selling and failed to take into consideration the practical requirements just mentioned.
It was the establishment of the Chicago Board of Trade in 1848 that set the stage as those founders realised they needed to offer the market participants the 'whole package'. The early success led fairly quickly to the foundation of other markets and soon the trade could lay off its risk in a wide array of products - wheat, corn, butter, live cattle, coffee or sugar - you name it, someone offered a contract on it. This development was concentrated, however, in the US, where obviously the need to hedge commodity transactions was bigger than in Europe given the size of the US market and the fragmentation of the European markets.
The early part of the 20th century showed maturity of those markets, and many went under, but during and after the depression and the World War the need to hedge was subdued, and with the market controls of the Bretton Woods system their importance was limited. This of course made many of the markets suffer, as the lack of volatility or price movements also reduced the need for hedging.
This led many exchanges to search for new products - and with the commodities field covered they had to look elsewhere. In the late sixties Dr Richard Sandor started to work on his interest rate futures for the Chicago Board of Trade, but it took some time to clear all hurdles. At the same time, work started on the design of stock options, and Milton Friedman and Leo Melamed worked on currency futures. Some of these plans were not only novel due to the products, but also one must not forget: options had been illegal in the United States since the Depression and in Europe they were mostly unknown, as in most European countries they were subject to the gambling laws. Switzerland was an exception (gambling being illegal) and had a fairly efficient forward and options market on its stocks as far back as the late 19th century.
Fate helped the developers of the new products in the United States: as they were getting on with the design of their products and laying the legal groundwork, President Nixon abolished the Gold/Dollar standard on August 15, 1971. With one fell swoop the dollar lost close to 10%. This highlighted the need for hedging - a lot of companies, merchants and manufacturers realised that their non-hedged positions were suffering badly.... The CME launched its FX products less than a year later, first trading seven currency pairs on its newly founded International Money Market (IMM). Apparently this did not suit everyone. One New York bank foreign exchange dealer was quoted in the Wall Street Journal as saying:
“I am amazed that a bunch of crapshooters in pork bellies had the temerity to think that they can beat some of the world's most sophisticated traders at their own game.”
Well, they must have done something right…
Stock options were finally introduced on April 26, 1973 when the CBOE (a subsidiary formed by the Chicago Board of Trade) traded for the first time - 16 stocks were listed and 911 options traded during the whole day! Interestingly only calls were allowed to be traded initially and there were still discussions whether the Black-Scholes formula was really a valid way to price options! This must have been a market-makers' nightmare: no formula, no puts…. It was not until 1977 that the SEC allowed trading in puts!
The Chicago Board of Trade was finally able to launch its interest rate products in 1975, launching Ginnie Mae Futures. With that the door was pushed wide open for a rapid launch of new products and the foundation of new markets. Energy Futures were started in the late 70s, and with the launch of index futures in the early 80s the idea of cash settlement was born. EOE opened the first European options exchange in 1978 and Simex followed in 1986 to start derivatives in Asia.
At the same time, inflation was raging widely throughout the world and trading commodities was the name of the game for many investors and speculators who thought owning goods was better than sitting on paper. Volumes exploded as lots of people wanted to get in on the action. With that came a growing need for oversight and regulation. The CFTC was formed in 1974 and quickly started to establish a regulatory framework to handle this growing business.
The big developments were followed by some consolidation but with the introduction of electronic trading in the second half of the 80s the real frenzy began (and is still going on).
This happens to span the same time period as the Swiss Futures and Options Association (SFOA) has been in existence and the Bürgenstock conference has taken place. SFOA was formed in 1979 at the suggestion of the CFTC, the American Embassy in Berne and the brokerage community in Switzerland, as in those days it was for various reasons one of the most important European centres for commodity trading. The CFTC was finding it difficult communicating with the European brokerage community; don't forget, this was in the days before internet and e-mail, even before the fax - and sending regulations via telex was not feasible. So everything went by post, which, if sent via regular mail, as was usual, meant going by boat - which took four to six weeks, often too late to answer calls and requests by the regulators. Since the exchanges were also looking for a quick link to the various brokers, it was decided to create an organisation to act as liaison. The first name was the Swiss Commodity Futures Association, reflecting the importance of the commodity aspect.
As behoves any international organisation, of course, an annual conference was soon instigated. Ours has always been (with one exception when a hotel was rebuilt) on the beautiful Bürgenstock resort, high above Lake Lucerne in the central part of Switzerland. You may wonder how this conference found its way to Bürgenstock rather than being held in Zürich, Geneva or Lugano, where all important brokerage houses had their subsidiaries back then.
Since Switzerland was politically correct already in those days it was not to be that the Association was led by a representative of one of the big brokers. Further, meetings were not to be held in those big centres where these brokers were located. Ferdinand Prisi, who had been elected chairman, came up with the idea (having visited the place a short time earlier during one of his annual military stints) of going up to the Bürgenstock to meet in a 'neutral' place. Well, as they say, the rest is history. The Bürgenstock meeting has become one of the most important gatherings for the derivatives industry during the 26 years of its existence.
These conferences, of course, are not just for networking and socialising, but also fit in some work and paneling. For our 25th anniversary in 2004 we published a book 'An intangible commodity', and part of it was a listing of all the panels that took place during all these years. It gives an interesting look-back at the development of the industry in those years - and how quickly people's priorities changed during that time….
Let's take a look at some of the developments and topics discussed:
- For its first couple of years the conference was just a gathering for the annual assembly, with no formal panel discussions. These started in 1982 and were mainly a beauty contest by the exchanges followed by an outlook on the various product areas. Also covered were 'Legal and regulatory problems', including a discussion on the problematics of two regulators in the US – one that is still taking place…
- A topic in 1983 was the internationalisation of markets; there was also a panel on 'new products' with 11 exchange presidents and chairmen present - I wonder how much of a discussion that was?! Additionally a workshop took place discussing crude oil and its place in our industry. Actually quite forward-looking considering the fact that at that time Nymex was still somewhat belittled for trading those products that seemed to be under the control of the oil giants. 1984 saw a discussion on 'links between IMM and SIMEX - an alternative to 24-hour trading'. Again very innovative - and surprising such co-operations did not get set up more often!
- 1985 had some discussions that looking back are a bit surprising. Bill Brodsky, then president of the CME, led a discussion on competition between futures and stock exchanges. Competition? Only together can they work, as experience has shown. This was followed by a huge panel discussing the 'co-existence' between exchange- and OTC-traded options. It's quite interesting that this topic was already a central discussion point at such an early stage.
- International harmonisation on regulation was a big topic in 1987 (and still the dream of many today!) as well as self-regulation versus state regulation, again a topic still current. The following year saw a discussion on 'proliferation of futures and options exchanges - beneficial or detrimental to the development of the industry'! Hard to believe that such discussions took place but obviously the question was of great concern to many.
- Interestingly 1989 showed extensive discussion on commodities, although they were not really very popular at that time with investors. No doubt the fact that Clayton Yeutter, then US Secretary of Agriculture, came back up to Bürgenstock (he was a regular while working at the CME) and gave a keynote speech was significant. Also 'open outcry vs electronic; exchange vs OTC' was a discussion point (remember, first experiences of electronic trading could be shared at that time; but interestingly the panel consisted mostly of users rather than exchanges). 'International legal and economic obstacles to a further development of futures and options' was discussed again. It is interesting that many of the obstacles still remain and yet the derivatives industry has greatly increased its volumes and product ranges, and is now reaching client segments that dared not even include the word derivatives in its vocabulary at that time.
- 1990 saw some forward-looking discussion such as globalisation and the implications of EC directives on investment services (yes – in 1990!), but also covered advantages and risks related to mutual funds investing in options and futures - today a routine operation, but in those days still a fringe activity. Also eagerly discussed was the Asia Pacific Area in general and Japan in particular, and the expected developments in that area - Japan was of course very much in the news at that time, although the rest of the Pacific Area was still a sleeper.
- Brazil put the stamp on the 1991 issue with a Samba party that apparently (I was not there, but a lot of stories went around….) lasted until the small hours. But obviously it was not just all about fun and dance: besides discussions on the Brazilian Economy, energy was again of interest (even Dr Subroto, then Secretary General of OPEC, participated), plus one topic that some should probably have attended: ‘Management of risk in the dealing room'. I did not find anyone from Barings on the attendance list!
- The use of options in equity fund management was discussed in 1992 (hard to imagine today, but again showing the rocky road derivatives had on their way to acceptance) along with the development of managed futures in Europe. An interesting debate took place in the same year: ‘Who's afraid of the ECU'? Somehow sounds strange - 1992 is not that long ago and not only has the ECU gone but the euro come!
- 1993 brought up again 'Can exchange clearers assist OTC markets?' Of course, they can, as we have learned! This was followed by a no-doubt interesting debate in 1994 on 'Systemic risk - fact or fiction?' A most esteemed panel was chaired by Lord Healy and included Pat Arbor (Chairman CBoT), Nic Durlacher (Chairman Liffe), Raj Bagri (Chairman LME), Gerard Pfauwadel (Chairman Matif), and Elisabeth Sam (Chairwoman Simex). Another very forward-looking panel took place the same year: 'Ecology, marketing and ethics' –be a topic for any conference this year!
- This was followed by a theme still very current: 'International and cross-market risk management - the role of exchanges and clearing systems' and, being on top of current themes, Metallgesellschaft, Orange County and Barings were discussed as well. Flex options were topical again vertical vs horizontal clearing… In 1996 Otto Graf Lambsdorff led off with a fascinating discussion on ‘The quest for exchange rate stability - realistic or quixotic?'. The thoughts of a single European currency led to many debates such as 'A political dream, economic necessity or a psychological/cultural nightmare?', ‘Will the introduction of the single European currency be the first step toward a single European Electronic Market?' or ‘Will the single European currency force Switzerland to join the EU?'. Well, stability? Would be nice…. Single market - a lot of people are still waiting for it, although the euro is well-established. And no, Switzerland has not joined the EU yet and it does not appear to be going to in the near future…. A keynote speech was given on 'Considering the diverging economic conditions of the EU members the currency will not be introduced'. Well, that is what makes debates interesting - not everyone can win! The conference was closed with a forward-looking debate: 'Internet - a threat to traditional markets and intermediaries' – maybe a bit ahead of its time but now very timely!
- 1997 saw extended discussions on the purpose of exchanges. Should the exchanges be responsible for ensuring that the entire transaction processing cycle is efficient, or should they just aim at maintaining a low-cost market? What is the best governance structure? Non-profit or for-profit? Member-owned or shareholder-owned? I do not know what the outcome of the discussion was - but I could imagine that it would run a bit differently today – less than 10 years later. The developments in China after Hong Kong was handed back were assessed and, to conclude, various discussions took place on hedge funds. Considering the fact that hedge funds have only been the rage for the last few years what was discussed almost ten years ago was quite revolutionary: 'How will the explosive growth in hedge fund products affect the complexion of the industry and money flows?' ‘The possible case for altering the scope of regulation to achieve wider coverage of hedge funds: what might costs and benefits be?' It is amazing - these discussions are still ongoing today. The virtual markets occupied much of the next convention which had as a highlight the pin-point parachutists that landed in the middle of the Friday night reception and stirred up the drinks!
- Interestingly 1999 had no discussion of the millennium issues (probably most people could not bear to hear the word anymore…). Instead it was the liberalisation of the European Energy Markets and the growing need for international regulation of derivatives (will anyone listen?). It would be good to get this going, so we could stop discussing it….). The big E-word was central to the Millennium convention - ECN as competition to the exchanges, regulating e-networks and online brokerage were among the chosen topics. It was not until 2001 that Commodities were raised again - a bit late but still very timely as not many were yet ready to bet on a commodity revival. Horizontal vs vertical clearing was an issue - but that will probably continue for quite some time and will not be the focus for discussion anymore as it is like discussing religion - there can be no winners.
- 2003 saw Warren Buffet's comments on derivatives as tools of mass destruction, but it was tough finding many followers of that opinion; however an interesting discussion was had. The introduction of a panel on Sports Trading was considered very controversial, but developments since then proved us correct - these exchanges are still growing at extremely rapid rates. They may not be choice products for many investors, but the basic idea is the same - buy low, sell high!
So much for looking back. It is actually quite interesting to follow the development of our industry this way - it has been incredibly fast and furious. From the narrow-based commodity world about 30 years ago, with very clearly focused clienteles and actually not too many markets, we have not only grown exponentially in products but also in exchanges. With the break-out from the commodity world into the financials, then energy and now ecology, our industry has changed from a narrow, almost special interest, industry into one that has become central to the entire investment spectrum. How will this development go on? No doubt an interesting topic for a panel!
Looking back over these 25 years it is quite interesting to see that many issues still with us today have been discussed all through that period as have many products that have only come into their own in the recent past. And others have come and established themselves very quickly. Still, looking at the developments of our industry and the discussions on our panels I believe shows that we have had a pretty good hand at selecting the topics!
So it really is worthwhile to take some time out of your hectic workdays to attend conventions like these - be it Bürgenstock, Boca, IDW in London or others - to share ideas and opinions, network and meet the people in and around the industry!
