Over the course of 175 years, the city of Chicago has defied the odds and emerged as a major player in the global market. From Al Capone to the current President of The United States, from the 1893 Chicago World Fair to this past summer’s NATO convention, Chicago is a global city of past, present and future. Indeed, if one were to speculate at the city’s founding in 1837 that someday Chicago would have a Gross Domestic Product of $5.32 Billion, which is larger than 44 states today, it would have been nothing short of laughable. However, as this article will demonstrate, history is often a very ironic tale. Undoubtedly, Chicago’s success throughout the 19th and 20th centuries was due in no small part to a group of disgruntled egg and butter traders, who would eventually found an exchange in Chicago that would someday evolve into the single largest commodity futures exchange on the planet. So how did a town known as “Shikaakwa” to the Native Americans, which translates into “stinky onion”, become the important global commerce center it is today?
In the 1830’s, Chicago was an undeveloped little town off the coast of a large cold lake. The city was dotted with wild onion and garlic fields, and up until that point it was only famous for a minor skirmish that took place during The War of 1812. For several years, the city’s population hovered below 5,000 individuals, and it seemed that Chicago was fated to be a relatively obscure city. Yet, fate is almost as ironic as history, and as any historian will tell you, perhaps the single largest contributor to a city’s future is the geography of the surrounding area. For example, Rome was founded on the crux of seven hills. Hong Kong was founded on an island just close enough to engage in trade with mainland China, but just far enough that it could not be readily pillaged. When the city of Chicago was founded, by a stroke of luck it happened to be located in exactly the right place at exactly the right time.
In the 19th century, the United States was moving West at an exponential pace. Driven by an ideology known as “Manifest Destiny” and by the prospect of economic prosperity, Americans from the eastern United States headed westward in droves. The development of the railroad system expedited America’s expansion and settlement westward. Fate was kind to Chicago in this respect, as the city was located in the very center of the country, thereby making the city a natural choice for a rail center. By the end of the Civil War, Chicago had numerous major rail lines that ran to every corner of the country, and Chicago’s population ballooned to several hundred thousand. Trains came and went through Chicago from every corner of the country, carrying both goods and people in and out of the city.
In addition to the economic prosperity the city enjoyed due to its positioning as the mid-point between the east and west coasts, Chicago also benefited from its position in between Lake Michigan and the Mississippi River. Throughout the 18th century, settlers and engineers built and improved upon canals to connect the Chicago River to the Des Plaines River and the Des Plaines River to the Mississippi River. These structural changes allowed ships to navigate the industrialized north, the agrarian south and even Central and South America. Further aiding to Chicago’s development as an important commerce center was its location on the shore of Lake Michigan. During the 18th Century massive canal projects, such as The Erie Canal, were undertaken throughout the Great Lakes region that connected these former inland lake regions to ports on The Eastern Seaboard. Cargo ships could now reach Chicago from The Atlantic Ocean, and vice versa. These canal systems throughout the Great Lakes region allowed commodities to both be imported and exported, and when the canal systems were coupled with the rail lines, commodities could be efficiently transported virtually anywhere.
The first commodities to arrive in Chicago in bulk loads were agricultural and livestock from the fertile West of The United States. Large shipments of these grains and livestock (particularly cattle) were unloaded in areas known as stockyards. With the arrival of these goods, entrepreneurial traders recognized an opportunity and began to trade these goods. . As previously discussed in Part I of my blog series, like the Sumerians and the European spice merchants, these traders sought the stability and liquidity that only standardization and future contracts could provide.
In 1848, the Chicago Board of Trade was founded in response to credit concerns and to address the desire for stable prices and standard contracts. This was the beginning of the world’s first official commodity futures exchange. After some disputes and negotiations, the first modern day forward contracts were characterized and placed up for sale. By 1865, standardization had been developed enough to allow for the development of futures contracts, which we know today. Along with these developments, Chicago had established itself as an important transportation, industrial, and recourse collection center. Soon steel smelters, factories, warehouses, mills, and the like sprang up to further refine the raw commodities into standardized contracts. Soon other goods from other parts of the country began to arrive in Chicago, and just like the grain and livestock contracts, these goods were then in turn standardized and traded.
In 1898, a group of butter and egg traders wished to be afforded the same advantages that standardized futures provided, but were frustrated that The CBOT would not agree to step into the relatively small butter and egg market. As a result, the Chicago Butter and Egg Exchange was born, which would later be renamed The Chicago Mercantile Exchange in 1919. As the CME started to slowly expand away from the small egg and butter market, they found themselves in stiff competition with already established exchanges, such as the CBOT. The CME recognized that the most effective way to compete was to take calculated innovative risks in new markets and methods. In 1961, CME started to trade the first frozen contract: frozen pork bellies. On the surface this seems a mundane development, but it was a move that was based on a thought process that would serve CME well for years to come. Recognizing both the feasibly and opportunity in new freezing technology, the CME was able to create a brand new market not only for themselves, but for the industry as a whole. Three years later it would follow up this success with the introduction of the first “live” futures, live cattle. Globalization also played a role in the innovative methods of the CME. Recognizing the emerging global nature of macroeconomics, in 1982 the CME began to offer foreign currency contracts, which was a precursor to the modern day foreign exchange market.
However, the biggest development the CME undertook was pioneering the electronic futures trading system. In 1987, CME began to lay the massive ground work for what would become CME Globex electronic trading platform. The project took half a decade to complete, and in 1992 the first electronic futures trades were made on the CME Globex platform. Twelve years later the billionth contract would be traded through the very same electronic platform. Unquestionably, electronic trading changed everything in the trading industry. Now people could trade with the click of a button from the comfort of their own homes, and brokers could place orders for clients in mere seconds. The formerly complex and arbitrary idea of the market was transformed into a neat X/Y chart on a computer monitor, updated in uniform time increments. It was with electronic trading that the efficiency and success of The CME really took off. CME became the worldwide king in the electronic trading industry, and with the dawn of the information age, electronic trading quickly eclipsed the now obsolete pit trading method of open-outcry.
In 2002 The Chicago Mercantile Exchange became the first United States Exchange to become listed on the New York Stock Exchange as a publically traded company. In 2003, The Chicago Board of Trade recognized that The CME had a competitive advantage in clearing trades, due to CME’s advantage in electronic trade execution, so CBOT began to clear their trades through CME. The result was an increase in efficiency and business for both CME and CBOT. Management in both exchanges recognized the powerhouse they would become if they merged. In 2007, that shared vision became a reality as CME and CBOT officially merged into CME Group, INC. This powerful new company soon acquired the New York Mercantile Exchange (NYMEX). All told, CME Group cleared roughly 90% of US futures market transactions and achieved billions of dollars in yearly revenue.
One cannot but help gain a deep appreciation for the ironies of history when one looks at the development of both commodity futures and Chicago. The origins of the commodity futures market is certainly an unlikely one. What began with a novel idea pursued by Sumerian merchants, eventually inspired egg and butter brokers, and helped to transform a swampy trading post surrounded by stinky onion fields into the international home of commodities and futures trading. The history of the commodities futures market then, is ultimately a story of human innovation, vision and the great fortune provided by the ironies laden within one global city’s historic tale.