FUTURE TRADING OPERATIONS IN GRAIN.

CHAPTER I.

NATURE AND EXTENT OF FUTURE TRADING IN THE
UNITED STATES.

The present chapter is an introductory survey and description of futures markets with regard to the objects of trading and the extent of operations. This first section contains a brief consideration of the nature of the future contract. But technical details regarding it are dealt with in the succeeding chapter on Contracts and Facilities. The uses, incidents, and results of future trading are to be discussed analytically, upon the basis of detailed statistics of trading and of prices, in a later volume of this report, which will contain also certain conclusions and recommendations. In that connection, also, will be discussed the economic theory of future trading— there rather than here, because the theory should be developed and evaluated in the light of all the facts covering among other things the relation of speculation to prices.

Section 1.-The nature and prerequisites of future trading.

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THE FUTURE DESCRIBED.-A future may be defined as an agreement on the part of the seller to deliver, and of the buyer to receive and pay a certain price for, a certain kind and quantity of a commodity at some specified future time, under conditions prescribed by an exchange or understood in the trade. It will be noted that the actual transfer of the property is made at a date more or less forward from the date of the bargain and of the fixing of the price. Payment for the grain as well as delivery is postponed. The seller may or may not have the grain, for example, in his possession at the time of making the sale. The buyer may not want the kind of grain he has bought; a miller, for example, preferring to obtain most of his grain from the country while using the futures market as a hedge. Such illustrations lead into the consideration of uses of the futures market. It suffices for present purposes to make clear the fact that future trades are not the same, as regards the nature of the obligations they impose and the uses to which they are put, as ordinary contracts of sale. In particular none of the ordinary purchase and sale responsibilities is incurred immediately.

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Trading prior to the possession, or even to the existence, of the commodities to be delivered is an incident of commercialized industry, of which examples are to be found in the oldest and simplest of the socalled "trades" or crafts, and, of course, on a greater scale under modern methods of manufacture. A tailor sells a suit before he makes it, and often before he buys the material. A building contractor might be said figuratively to sell houses" short." Many lines of manufacture produce chiefly under orders from customers. But these cases serve to illustrate the distinctiveness of future trades instead of their similarity to other commercial transactions. Future contracts are not agreements to produce and deliver a specified and identified article, while the house, or the suit, is "built " for a specific customer, according to a specified design. In the case of a manufacturer of standardized goods making and selling on order, specifications for the commodity to be delivered are detailed. Furthermore, the principals on the contract are and normally remain the same and identified throughout its life.

THE FUTURES MARKET.—In future trading on the speculative exchanges the specifications as to the commodity to be delivered are a matter settled by the rules of the exchange and not directly by the individuals concerned. This condition naturally results from the desirability of a continuous volume of comparable trades large enough to constitute a serviceable market. Such uniformity of terms and conditions is of general commercial advantage, but is also a special need, and an indispensable feature, of a futures market. In the case of futures a further step in the direction of detachment from specific commodities and individuals is taken in the practice of "substitution of principals," by which the identity of the person responsible to make or take delivery on a particular contract is merged in a mass of such contractual obligations under a protective guaranty. The results of the process of evolution indicated are not involved in the definition of the future contract, but are necessary to an understanding of how it works.

The "grain trade" with active futures markets as a part of its machinery is something different from, or more than, the mere trade in grain. This statement does not mean that the added machinery is economically superfluous or undesirable. It does mean that future trading is to some extent a thing apart and properly a subject of special study, of course, with due regard to its foundations in, and connections with, the cash grain trade. The character of the connection between the market for future contracts and the market for actual grain is an important subject for later consideration.

PREREQUISITES OF FUTURE TRADING.-A prerequisite to the development of future trading as above described is homogeneity in the commodity dealt in, such that commercial units are interchangeable. A

further requisite is the durability, or minimum degree of perishability, of the commodity, which in effect permits a physical exchange from present to future. Included in this second requisite is ample provision of storage facilities at terminal markets.

As regards durability and storage, whatever is lacking under natural conditions for the keeping of grain has been supplied by the development of elevator warehouses, often of individual capacity running into millions of bushels. But there are differences of degree between grains, at least in the condition in which they are actually marketed, as regards keeping qualities.

Grain as handled in bulk is in its nature fairly homogeneous in kind and quality. For commercial purposes, however, a system of grading much increases the availability of grain in this respect for future trading. Moreover, the practice of handling and storing in bulk tends to promote the needed uniformity of quality or grade by washing out slight differences in quality through the mixture that is inevitable in the process of bulk handling, supplemented by the intentional mixture for the purpose of reducing variant grades that is practiced while the grain is in storage. Not only is the grain in store interchangeable, but the warehouse receipts, which are the evidences of ownership, are also interchangeable, i. e., are negotiable instruments. This fact has an important bearing on the availability of warehouse receipts as collateral for loans. Thus, in effect the entire stock of grain in public storage at a given market becomes a single deliverable supply in a sense that is seldom approximated in ordinary commercial dealings. Grain stored in private elevators also can easily be put into public storage for delivery on future contracts, and in fact at Chicago most of the grain in public store has been through the hands of such elevator merchandisers.

Another requirement of future trading that relates to its basis in cash or spot trading is the need of an adequate supply of the actual commodity and a fairly constant supply from year to year, flowing to or through the terminal market where the futures market is established. This, in turn, supposes adequate physical facilities for receiving and storing the commodity. Without such a condition, the proper connection of the futures market with the cash market by way of deliveries on future contracts can not be maintained. For similar reasons, a grain in which there is a small and variable crop is not well adapted to future trading. Rye and barley futures established prior to 1917 did not work satisfactorily and were discontinued, it is said, for this reason.

Volume of trading and the implied continuous trading activity is sometimes mentioned as a prerequisite of future trading. Large volume is obviously not such a prerequisite, but is essential to the highest efficiency of a futures market. Because of this need, and

because of the possibility of concentrating future trading, regardless of the location of the trader, many active grain exchanges are not able to maintain futures markets, and the quotations of those that are found are in many cases "nominal," or, if their quotations represent actual transactions, the prices are based upon quotations received over the wires from Chicago. The grain futures market is concentrated at Chicago to a degree in nowise explained by the importance of Chicago as a cash grain market.

Of the five principal cereals, wheat probably qualifies for future trading in the highest degree. Dry wheat is not surpassed in durability, but it is not superior in this respect to rye and oats. On the other hand, in number of natural varieties used in commerce and in the importance of their differences in relation to commercial utilization, wheat departs from the ideal requirements for future trading more than any other of the five, with the possible exception of barley. In variations of quality or grade for a given variety, barley probably shows the greatest range. As regards keeping qualities, corn is uncertain, though careful selection for grade and condition will reduce the risk.

COMMODITIES SUBJECT TO FUTURE TRADING.-Commodities traded in by way of futures in the United States, in addition to cereals, are cotton, coffee, sugar, flaxseed, grass seed, pork products (mess pork, lard, and short ribs), cotton oil, and certain metals (tin, copper, spelter, or zinc, lead, and probably others). All these meet the requirements of the above list of prerequisites. In some cases the transactions are more nearly "to arrive" in nature than strictly futures. It is said there was at one time a futures market in petroleum at Oil City, Pa. This list is probably not complete and the distinction between the future contract and other contracts may not always be exact. Often the trading is by the "call" method and does not take on the character of a full-fledged futures market.

Other commodities that appear to meet the requirements, but for which there does not appear ever to have been an organized market for future trading, are tobacco, vegetable fibers (sisal, jute), coal, and possibly other raw materials that are largely of uniform quality and are produced and transported in great volume-supposing, of course, a system of grading in each case, doubtless the establishment of separate futures for different varieties, and due recognition, as regards coal, of the different prepared sizes.

Though future trades are in general quite different from ordinary sales, it is not always possible to draw the line exactly between the two. If there is delay in the transfer or conveyance of title, and corresponding postponement of payment, such a trade or contract may be called a "future" without doing great violence to the idea.