By Allison Holland and Anne Fremault Vila of the Bank’s Markets and Trading Systems Division.
Futures contracts are among the oldest actively traded derivative instruments. They are legal agreements between two parties under which one party agrees to deliver to the other a certain standardised quantity of an asset at a fixed price at some specified point in the future. The Chicago Board of Trade is thought to be the oldest futures exchange, though there are other claimants to this title. It was established in 1848 to trade agricultural commodities. Trading in corn forward contracts began in 1851 and led the way for the introduction of futures contracts in 1865, enabling farmers to agree a price for their crop in advance of the harvest. It is also generally accepted that futures in financial assets were first introduced in 1972 by the Chicago Mercantile Exchange. The trading volume of financial futures contracts now substantially outstrips that of commodity futures. The financial futures market has grown rapidly during the last decade, mainly because of the huge increase in demand for financial derivatives. But exchanges have also tried to increase their share of the market through product innovation, improvements in trading technology and, more recently, by creating alliances with other markets.
In this article, we explore the question of why some futures contracts fail (ie are withdrawn because of insufficient demand) but others succeed (ie establish and maintain viable levels of interest and continue to trade). To do so, we look at 16 interest rate and index futures contracts created by LIFFE between 1982 and 1994, five of which were withdrawn. It is important to recognise that contract failure is a normal feature of futures markets and that this success rate is comparable to the performance of other exchanges. For example, the Chicago Board of Trade created 26 different financial futures contracts between 1987 and 1996, only 17 of which were still traded in 1996.