By Leo Melamed
Fred Arditti Innovation Award
to Leo Melamed
April 20, 2006
Four Seasons Hotel, Chicago
award is more meaningful to me than any others I have ever
received. It recognizes innovation and bears the name of Fred
Arditti. In 1980 I had the good fortune to bring Fred Arditti
to the CME. He was much more to me than a superb economist
and innovator. To say that we became close friends does not
begin to explain the bond between us. From the very first day,
there was a chemistry, a trust, an intellectual love affair
that never wavered and lasted until his death. He was the only
sounding board I ever needed. The only opinion I valued more
than my own. While his tenure at the Merc was intermittent,
at no juncture, in the many difficult twists and turns of CME
history, was it ever necessary to bring him up to speed. From
near or far, he instinctively understood, and always, always
provided inspiration, encouragement, and advice. It is a unique
privilege to accept an award bearing Fred Aditti’s
American philosopher and historian Thomas Samuel Kuhn argued
that scientific change occurs through “revolutions” in
which one idea is overtaken by another. These revolutions
can be triggered by conceptual breakthroughs, such as the
invention of calculus which allowed the laws of motion to
be formulated, or by technological breakthroughs, such as
the construction of the first telescope which overturned
Aristotle’s postulate of a finite, spherical universe,
with the earth at its center.
such revolutions occur many decades if not centuries apart.
Futures markets, or what are today loosely referred
to as derivatives markets, have in the short span of 30 years
experienced both a conceptual revolution as well as a technological
one. As remarkable as that may be, we “ain’t
seen nothing yet.” While the full potential of both
revolutions is far from exhausted, I believe futures markets
have the unique opportunity of capitalizing on yet another
revolution in the making.
would argue with the fact that the launch of financial futures
in 1972 was a conceptual revolution. It proved that the traditional
idea about use of futures markets in risk management of physical
commodities was applicable to finance. In the decade that
followed the currency launch, this revolution was validated
by the successful launch of interest rate futures in 1976
and stock index futures six years later. Nearly all successful
financial contracts that followed at the CME and elsewhere
were built on this foundation. Presently, the enormous potential
of CME’s reach into yet-untested arenas makes it clear
that the building blocks of our conceptual breakthrough have
not reached their limitation.
about the same time as this conceptual revolution began,
another revolution was brewing: computer technology. It started
to seriously flex its muscles in the early 1980s and ultimately,
as we all know, influenced every aspect of life. In financial
markets computer technology gave birth to the idea of electronic
transaction systems. At the CME this culminated in 1987 with
the Globex idea. In the following decade, electronic trading
platforms were launched by every futures exchange in the
world. The technological breakthrough produced the remarkable
consequences futures markets are currently experiencing:
global distribution, speed of execution, growth of transactional
volume, and computerized algorithmic applications.
me very briefly to put the effect of these two revolutions
into perspective: In 1971, the year just prior to the launch
of the International Monetary Market, the IMM, there were
14.6 million contracts traded on U.S. futures exchanges—there
were no futures exchanges of consequence outside the U.S.
Last year’s total global volume reached nearly 10 billion
contracts, of which 3.5 billion transactions occurred on
U.S. futures exchanges. There are some 35 futures exchanges
in foreign domiciles today.
the CME, in 1971 we had a whopping operating budget of $3,158,590.
Our pretax income was all of $192,945. Fast forward to 2005:
CME expenses were $412 million and our net income was $307
million—that’s more than $1 million per
business day. Even more striking is the volume comparison.
In 1971 CME transaction volume was 3.2 million contracts.
That number in 2005 is over 1 billion contracts. I will let
Myron Scholes figure out what percentage of growth this represents.
But whatever it is, I doubt if there is any other institution
in the world that can equal, let alone surpass, this record.
It represented a notional value of $638 trillion.
two revolutionary transformations in our markets were coincident
with a much broader trend, one that in my mind exemplifies
the twentieth century. I have often spoken of the fact that,
during the last century, the scientific world moved from
the big to the little, from the vast to the infinitesimal.
From General Relativity to quantum physics, from individual
cells to gene engineering.
dominated the first half of the century. The first understanding
of the atom was simply as a solid central nucleus surrounded
by tiny electrons. With new technology came a much
clearer understanding of the complexity of the atom with
its subatomic particles of electrons, protons, and neutrons
and a nucleus containing intricate combinations of quarks.
Physicists had decoded nature’s age-old secrets, bestowing
upon the world perhaps the single greatest achievement of
the human mind—the atomic theory and quantum mechanics.
In the second half of the century, biology took center stage.
Technological advancements taught us that cells, originally
thought to be simple repositories of chemicals, are more
like high-tech factories in which complex chemical reactions
produce substances that travel via networks of fibers. In
short, parallel advances in physics, biology, and other sciences
made it possible to probe the fundamental components of nature.
financial markets, the evolution from the big to the little
was strikingly similar. Just as in physical science technology
brought us to subatomic particles, just as in biological
science technology brought us to molecules, so in investment
science technology brought us to the basic components of
financial risk. The most complicated risk management structure—from
alimony to Z-bonds—could suddenly be broken down into its
fundamental components. Financial engineers disaggregated,
repackaged, and redistributed risks and their corresponding
rewards, exchanging one set of risks and rewards for another
that responded better to an investors’ preferences.
Financial futures and OTC derivatives became the financial
counterparts to particle physics and molecular biology. Charles
Sanford, the former chairman of Bankers Trust, dubbed it “particle
finance.” One might even say that the Scottish-cloned
“Dolly” was the biological equivalent to a “new issue swap.”
process is far from over. Just as futures markets are still
expanding the boundaries of the conceptual revolution, so
are our markets far from exhausting the potential of the
technological revolution. The new technologies offer us the
ability to consider risk management applications never before
attempted on a global, national, and individual level. For
instance, we have the potential to devise instruments dealing
with global warming, long-range economic trends, or geographic
transformations; we can design instruments for managing the
national budget, trade deficits, or foreign currency reserves;
we can provide risk management tools for health coverage,
Social Security, or retirement. I could go on and on.
is of course impossible to predict the future. Nor can anyone
even predict the next invention or innovation of consequence.
Nor its effect on growth of futures markets or the CME. For
instance, there was no one anywhere in the world who predicted
the effects of the Internet on commerce and trade, and that
was only a decade ago. It is particularly foolish to make
a prediction at the beginning of a new century when it may
yet be decades before the innovation that will define it
has occurred. Remember, it wasn’t until the middle
of the nineteenth century that Karl Marx published the Communist
Manifesto which served to dominate political thought
in much of Europe and Asia for most of the twentieth century.
Or remember that the lynch-pin of the technological revolution,
one that gave rise to the computer and all that followed,
did not occur until December 23, 1947, smack dab in the middle
of the twentieth century, when John Bardeen, Walter Brattain,
and William Shockley invented the transistor. We are not
even a full six years into the twenty-first century.
some things seem clear. The technological revolution has
speeded up and computer technology is on the threshold of
yet another breakthrough. Computer scientists believe that
in the next decade or two, a scientific revolution of similar
proportions to the last one will be unleashed. Recently,
some 34 of the world’s leading biologists, physicists,
chemists, Earth, and computer scientists spent some eight
months trying to understand how future developments in computer
science might influence life as a whole. Their report concluded
that computing no longer merely helps scientists with their
work. Instead, its concepts, tools, and theorems have become
integrated into the fabric of science itself. Computers will
soon play a role in formulating scientific hypotheses, designing
and running experiments to test them, then analyzing and
interpreting the results. It would represent a paradigm shift
in scientific methodology.
believe that millions or billions of tiny computers will
be embedded into the fabric of the real world. Twenty-four
hours a day, year in, year out, nanocomputers will be measuring
the effects of everything—from an ecosystem, to private
sector interactions, to the human condition. The consequential
results could then automatically be applied to risk management
instruments dealing with employment, inflation, productivity,
gross national product, federal legislation, or personal
health. The list is endless. It would represent a utopian
nirvana for financial engineers.
impact on our markets from this technological revolution is
impossible to fathom. Nor is it for us tonight to attempt a
moral judgment on the radical consequences of these changes.
Suffice it to say, it would represent a condition beyond Aldous
Huxley’s Brave New World.
Or as Ralph Cramden might say to Ed Norton, “I don’t
even know what I am talking about.”
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