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Page last updated
February 15, 2003

ISSN No:1470-5494 All rights reserved. No part or portion of this publication may be reproduced or transmitted in any form without the express, prior and written permission of the publisher. Whilst every effort has been made to ensure accuracy, the publisher accepts no responsibility for any person acting as a result of the content herein.



CME transforms business model to meet customer needs in a new Century


The Chicago Mercantile Exchange (CME) is poised is to complete the most significant transformation in its 102-year history-converting from a member-owned, not-for-profit institution to a for-profit public corporation. This transformation comes at one of the most dynamic times for financial markets in general and for exchanges in particular. Almost daily, we read of new entrants, mergers or shakeouts among traditional exchanges and their nascent, for-profit electronic competitors.

The institutions that form the traditional exchanges' historic customer base are joining together to form ECNs or other partnerships in order to conduct their trading businesses more efficiently, at lower cost and with a focus on the goal of becoming a profit centre for the institutions themselves. At the same time, trading volume on many traditional exchanges, including the Chicago Mercantile Exchange, is at all-time record high levels. Customers are turning to us more than ever before for the liquidity, transparency and safety our open outcry and electronic markets provide.

Yet we believe the paradigm of a membership organisation is no longer the one best suited to serve our customers and stakeholders going forward. A profit-driven business model, putting customers first and aligning the success of our members/shareholders, other equity holders and staff with the success of our enterprise is the optimal model to propel the CME to further innovation in financial services and risk management. Our members will have the opportunity to approve this "demutualisation" by a vote on June 6, and we are confident they will embrace this new corporate structure for the CME.

U.S. Exchanges Move to For-Profit Structure
The CME was the first major U.S. exchange to announce a concrete plan last October for transforming from a member institution into a public, for-profit corporation. And, we will be the first to have a vote on the issue. But we are hardly alone. All the major exchanges in the United States are contemplating such a move. Why now?

Exchanges everywhere are recognising that the "members only" committee-governed environment does not provide the speed, flexibility and agility needed to compete in an age of Internet-speed movement and decision making in financial markets. Rather than possessing near monopolistic franchises in flagship products, U.S. exchanges now face significant competition from both overseas competitors and OTC markets.

More specifically, we are seeing monumental changes take place in the two main drivers of our business: technology and regulation. As technological developments continue to impact the way we and our customers can do business, and as we enter an increasingly deregulated environment, we must prepare ourselves for an atmosphere of continuous change and immediacy the likes of which we have not seen in our history. What's more, these technological and regulatory changes are exponentially increasing the number and types of competitors we will face.

All of us have experienced the positive impact technology can have on our lives. At the CME, we recognise that we can never stop investing in technology. We can continue to put in place the most user-friendly, state-of-the-art systems, but the reality is that what is state-of-the-art today is standard tomorrow and potentially outmoded next week. In order to provide superior service to our customers, we must ensure that we are always on the cutting edge of technology development.

That commitment requires a governance structure conducive to fast decision making, a corporate structure that allows us to access capital and the ability to partner with those who can provide what we may not have. In short, our new for-profit structure will enable us to do just that.

Already, connecting to the CME grows ever easier as Independent Software Vendors (ISVs) provide front-end interfaces with the CME's GLOBEX2 electronic trading system, and as firms take advantage of the system's open architecture by writing to the CME FIX API (Application Programming Interface), the latest generation of electronic APIs supporting connections to the CME's order routing and order management systems in addition to GLOBEX2.

Regulatory Reform
In the United States, we stand on the verge of possibly unprecedented reform to regulation of exchange traded derivatives. Soon, we may experience deregulation not unlike that experienced in the banking, airline and telecommunications industries. Never before have so many of the interested parties-exchanges, Congress, over-the-counter market participants and the regulators themselves-seemed to be so close to a compromise that could transform financial regulation in the United States. The possibility exists for the regulatory function to become more one of oversight than of micro-management of every minor rule change or tweak of a product specification. That will be good for customers because it should enable us to bring products to market quickly and ensure that we can compete in a way that provides the greatest cost efficiencies for our clearing firms and end-users.

Single-stock futures, prohibited for 18 years in the United States but effectively traded on the options exchanges and in the OTC market, may finally be one of the tools we can offer our end-users as a complement to our extensive selection of equity index futures and options.

In the end, we believe market forces, rather than regulatory barriers, should determine which products succeed. By levelling the playing field for domestic exchanges, overseas markets and OTC markets, Congress can take a significant step in the direction of making regulation more equitable across the board. Customer protection, naturally, will take the highest priority, and no one has greater interest in protecting customers and preserving the integrity of the markets than exchanges and their clearing organisations. Products will be successful where markets provide the best prices, most transparency and greatest safety at the lowest cost.

Relationship with the Global Banking Community
The global banking community has long been vital to the success of the CME. The futures brokerage firms that are our members include principally major banks - many based outside the United States. We have a significant banking customer base that relies on our interest rate, stock index and foreign currency futures and options to manage their risk, allocate their assets and serve their clients.

At the same time, thanks to consolidation in the industry and the rapid proliferation of OTC products, we've seen that our members are also our customers and even our competitors. That concept of "competition" brings both challenges and opportunities. So how can we make the most of this new business environment?

Intense Customer Focus
First of all, we believe the CME must be one of the most disciplined, intensely customer focused, user-friendly exchanges. "Customers come first" is at the heart of our mission statement, and customer demand, along with a prudent financial decision-making model, have become the basic principles moving us forward to new levels of service, new products and new innovation. Our history as one of the most innovative markets has provided customers with countless risk management tools now taken for granted by many market participants.

At the same time, we know that customers are demanding a what-you-see-is-what-you-get trading environment. That is, when they place an order, they want immediate confirmation that it has been received, immediate execution and immediate confirmation of the fill. They want breadth of product and around-the-clock access from anywhere in the world. And if we don't provide it, they will go elsewhere.

We are providing the market transparency, liquidity and creditworthiness that market participants look for, both in our electronic and our floor trading environments. In more and more products, customers have the choice of either a floor-traded or an electronically traded variant of a product. Customer choice will drive the products we offer and the trading environments-whether electronic on the floor-in which they are offered.

We recognise that the way we will best create shareholder value is through successfully meeting our customers' needs.

Access and Efficiencies
As the creator of financial futures in 1972 in the form of foreign currency futures, the Chicago Mercantile Exchange was one of the first truly global financial institutions. As the creator of GLOBEX, the world's first global electronic trading system initially trading after the open outcry market closed for the day and recognising the importance of trading in the European and Asian time zones, the CME was the first exchange to foresee the 24-7 trend now sweeping the world.

Now we must take the concept of global access to even newer and greater heights.

One of the ways we are able to increase our distribution, product breadth and access to our markets, along with cost efficiencies is through the formation of global alliances.

The GLOBEX Alliance we formed last year with exchanges in Paris, Singapore, Montreal and Brazil will provide customers with electronic access to the financial products of these global exchanges. In addition, cross-margining agreements will provide firms with capital savings in instances where positions on one exchange may offset the risk of positions on another.

Additionally, the CME's partnership with LIFFE-the London International Financial Futures and Options Exchange-offers customers convenient electronic access to the two most actively traded short-term interest rate products in the world, CME's Eurodollar and LIFFE's Euribor, along with cross-margining of these products. The agreement also provides for cross-exchange access to the electronically traded products of both exchanges.

Financial Safeguards and Clearing
Key to the CME's success-and to the trust customers continue to place in the institution-is the unique set of financial safeguards protecting every transaction on the exchange. Serving as buyer to every seller and seller to every buyer on the CME, the Clearing House eliminates counterparty risk for participants in CME markets. Sixty-six of the world's largest banks and brokerages are members of our Clearing House. The financial safeguards administered by the Clearing House have ensured that no customer trading any of the more than 2.4 billion futures and options changing hands since the exchange was founded has suffered a loss due to the default of a clearing member firm.

On an average day, our Clearing House Division acts as custodian for nearly $20 billion in performance bond assets backing market positions taken by customers, members and member firms. Each day, the CME Clearing House moves an average of $970 million through the system, as trades representing an underlying value of $471 billion take place each day in our markets. In 1999, the dollar volume of contracts traded was $138.3 trillion-more than seven times greater than the gross national product of the world's five largest economies.

The CME, a leading innovator in financial markets and risk management for more than four decades, will shape changes in global financial markets in the new century. With a new, agile corporate structure, new partnerships and new products that expand the horizons of traditional exchange parameters, we look forward to serving a growing customer base of institutions and individuals who expect the highest standards of integrity, openness and responsiveness to their risk management and investment needs.

Scott Gordon
Chairman of the Board
Chicago Mercantile Exchange





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