CME CME -0.86% Group Inc. has criticized crypto exchange FTX’s plan to cut out middlemen in the futures markets. Now the Chicago stock exchange giant is taking a step in the same direction.
In August, CME filed documentation a futures commission dealer, or FCM — essentially a brokerage firm that would allow investors to buy and sell futures on CME’s marketplace. If the application is approved and CME enters the brokerage business, investors could bypass existing brokers and connect directly to the exchange operator for futures trading.
The move could save money for investors who pay fees to trade futures. But it will likely draw complaints from other FCMs who could lose revenue if CME undercuts them on fees. Clearing futures trades is big business for Wall Street banks — where FCM entities are an important part of their prime brokerage division — as well as specialist firms like Advantage Futures and RJ O’Brien & Associates LLC.
“I wouldn’t expect the CME to go down the path where they compete directly with FCMs for customers,” said Joseph Guinan, chairman and CEO of Advantage Futures. “However, if they took that path, it would be a game changer for the FCM industry and a dramatic problem for any FCM.”
A spokeswoman for CME said, “Our commitment to the FCM model and the significant risk management benefits it offers to all industry participants remains steadfast.”
FCMs play a key role in the futures industry. Futures are contracts that allow traders to bet on whether markets like oil, wheat or the S&P 500 will rise or fall. Traders wishing to buy or sell futures are required to deposit cash collateral, known as margin, with an FCM. The FCM deposits more money into the dealer’s account if their bet pays off, or asks the dealer for more margin in the event of a losing bet. A failure of a major trader can potentially result in losses for an FCM.
In addition to charging fees, FCMs make money by charging interest on their customers’ cash balances — a revenue stream that’s likely to grow as the Federal Reserve hikes interest rates in the coming months.
CME chief executive Terrence Duffy said at a congressional hearing in May that FTX’s plan to eliminate middlemen in the futures markets “would significantly increase market risk.”
Photo: Christopher Goodney/Bloomberg News
CME’s move comes after the company attacked a similar plan by FTX, the fast-growing crypto exchange led by 30-year-old billionaire Sam Bankman-Fried.
Earlier this year, FTX suggested that traders should be allowed to deposit margin directly to their US bitcoin futures exchange without using an FCM. The plan sparked intense debate, with financial heavyweights in Washington campaigning both for and against. At a congressional hearing in May, CME chief executive Terrence Duffy said the FTX plan “would significantly increase market risk,” while Mr. Bankman-Fried defended the proposal as a long-overdue refresh of the assets behind futures markets.
The Commodity Futures Trading Commission is weighing whether to approve FTX’s plan and could make a decision in the coming months.
CME’s move is likely in response to FTX’s plan, said Craig Pirrong, a finance professor at the University of Houston. By establishing its own FCM, the company could lay the groundwork for a regulatory decision that shakes the traditional relationship between futures exchanges and brokers, he said.
“From a philosophical point of view, they would prefer not to do this,” Mr. Pirrong said. “But in the event that the CFTC approves the FTX model from a competitive standpoint, they may feel they have to do so.”
Mr. Duffy said during the May hearing that if the CFTC approved it, he would be “forced” to adopt FTX’s model due to competitive pressures.
Other crypto exchanges have also tried to cut out intermediaries as they launched bitcoin derivatives platforms. Coinbase Global Inc. acquired a derivatives exchange in January and is in the process of applying for an FCM license. Bitnomial Inc., a small bitcoin derivatives exchange, received an FCM license in September.
CME made no public announcement when it applied the new entity, and the application drew little attention. The CME spokeswoman confirmed to The Wall Street Journal this week that CME made the request.
The website of the National Futures Association, an industry regulator, shows that a firm called F&O Financial LLC applied for membership on August 17 and is seeking to become an FCM. The company has the same phone number and address as CME, and the person listed as President has the same name as a CME employee.
Write to Alexander Osipovich at [email protected]
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