After Russia’s ruinous 2010 drought, Leo Melamed read a newspaper story that quoted Vladimir Putin saying he wished there had been a way to insure the wheat harvest. “I said, ‘Wait, I know how to insure a crop,’ ” recalls Melamed, chairman emeritus of CME Group (CME), the world’s largest futures exchange. That was the beginning of CME’s 18-month effort to develop its first futures contract on an Eastern European crop.
When negotiations with Russian officials stalled, CME Group shifted its efforts to Ukraine. In May 2011, the exchange signed memorandums of understanding with the Ukrainian government and the Ukraine Futures Exchange. “The Ukrainians wanted to be first, they were ready to move,” Melamed says. On June 6, CME Group will start trading in a Black Sea wheat contract on its electronic network, giving investors, producers, and companies that buy grain a chance to lock in prices or speculate on them.
With the new wheat contract, CME Group, the company whose predecessors introduced commodity futures to the world in 1848, is expanding its reach and playing some defense against its much younger rival, Intercontinental Exchange (ICE), the nation’s second-largest futures market. Intercontinental, known as ICE, began trading corn, wheat, soybeans, and soy oil contracts on May 14. While it might seem a quixotic effort—CME Group accounts for 98 percent of all U.S. futures trading—ICE has beat daunting odds before. In 2006 it took 30 percent of the U.S. oil futures market from the New York Mercantile Exchange. CME Group bought Nymex in 2008. “We think we’re in as good a position as any to be successful,” says Benjamin Jackson, chief operating officer of ICE Futures U.S., ICE’s New York exchange, where the grain contracts trade. “At a minimum we’re responding to what our customers want, and if it doesn’t work, they owe us one.”
CME Group is not dismissing the challenge. “We take everything seriously as a competitive issue, even though I don’t think they will succeed,” says Melamed, who adds a note of skepticism: “This is a little crazy.”
Photograph by Liu Jiansheng/Xinhua Press/Corbis
Melamed has a long history in the Black Sea region, starting with fleeing the Nazis with his parents across the Soviet Union in 1939. Fifty years later, in 1990, he got a call from Mikhail Gorbachev, during the waning days of the Soviet Union. The leader persuaded Melamed to help the Russians set up the Moscow Commodity Exchange, which was meant to show the world that the country was changing. After Melamed cut the ribbon to open the market, the first trade was 1 million Marlboro cigarettes in exchange for a computer, he recalls. “It was not free-market at all, it was just a prearranged trade, which I explained to them is not exactly what I had in mind,” he says. “We laughed all the way home.”
Ukraine will export 23 million tons of wheat and other grain in the 12 months through June. So CME Group’s interest in a futures contract is understandable, says Rodion Rybchinsky, head of business projects at agriculture consulting firm APK-Inform in Dnipropetrovsk in Ukraine. Yet he wonders whether it will take hold. “There are very few market players who are familiar with futures” in the region, he says. Producers and traders will be wary of futures because local corruption could block possession of grain bought via the contracts, according to two grain merchants in Ukraine who asked not to be named for fear of government reprisal. Ukraine also has a long history of government intervention in the grain industry, which discourages customers, says Terry Reilly, an analyst at Citigroup Global Markets in Chicago. “How it starts out will determine if it’s going to be successful,” he says. “Is there going be enough trading volume? Are investors willing to bear risks that local government could intervene and set export restrictions?”
To reassure customers, CME Group is planning as many as four delivery points. When contracts expire, customers who wish to take delivery will be able to pick up their grain in Russia, Ukraine, and Romania, CME Group has said. And it may add a port in Varna, Bulgaria, according to David Lehman, the managing director of commodity research and product development, who spent the last year and a half traveling monthly to Ukraine to set up the contract. “There’s always a risk when you design a new contract,” he says.
The expansion to the Black Sea also fits with CME Group’s larger strategy of partnering with international markets in Brazil and China. “The potential is enormous, and that includes Russia and it includes Kazakhstan” as well as Poland, Melamed says. “They all want to become important market economies, and we are part of that.”