Illinois Basin Coal Futures Trade North America s Fastest Growing Production Basin Customize Coal Deliveries with EFPs December 2, 2014 CME GROUP
Disclaimer Futures trading is not suitable for all investors, and involves the risk of loss. Futures are a leveraged investment, and because only a percentage of a contract s value is required to trade, it is possible to lose more than the amount of money deposited for a futures position. Therefore, traders should only use funds that they can afford to lose without affecting their lifestyles. And only a portion of those funds should be devoted to any one trade because they cannot expect to profit on every trade. All references to options refer to options on futures. Swaps trading is not suitable for all investors, involves the risk of loss and should only be undertaken by investors who are ECPs within the meaning of section 1(a)12 of the Commodity Exchange Act. Swaps are a leveraged investment, and because only a percentage of a contract s value is required to trade, it is possible to lose more than the amount of money deposited for a swaps position. Therefore, traders should only use funds that they can afford to lose without affecting their lifestyles. And only a portion of those funds should be devoted to any one trade because they cannot expect to profit on every trade. Any research views expressed are those of the individual author and do not necessarily represent the views of the CME Group or its affiliates. CME Group is a trademark of CME Group Inc. The Globe Logo, CME, Globex and Chicago Mercantile Exchange are trademarks of Chicago Mercantile Exchange Inc. CBOT and the Chicago Board of Trade are trademarks of the Board of Trade of the City of Chicago, Inc. NYMEX, New York Mercantile Exchange and ClearPort are registered trademarks of New York Mercantile Exchange, Inc. COMEX is a trademark of Commodity Exchange, Inc. KCBOT, KCBT and Kansas City Board of Trade are trademarks of The Board of Trade of Kansas City, Missouri, Inc. All other trademarks are the property of their respective owners. The information within this presentation has been compiled by CME Group for general purposes only. CME Group assumes no responsibility for any errors or omissions. Additionally, all examples in this presentation are hypothetical situations, used for explanation purposes only, and should not be considered investment advice or the results of actual market experience. All matters pertaining to rules and specifications herein are made subject to and are superseded by official Exchange rules. Current rules should be consulted in all cases concerning contract specifications. Copyright CME GROUP
Agenda CME Group Overview CME s Global Coal Complex Illinois Basin Coal Futures EFP Basics and Examples How to Trade Appendix CME GROUP
CME Group is the World s Leading, Most Diverse Derivatives Marketplace Deep liquidity in futures and options, low execution costs Strong record of growth, both organically and through acquisitions Merger of Chicago Mercantile Exchange (CME) and the Chicago Board of Trade (CBOT) (2007) NYMEX and COMEX acquisition(2008) Kansas City Board of Trade acquisition (2012) Launch of CME Europe (April 2014) Diverse product line covering 8 asset classes and commodities Diverse customer base serving customers worldwide in more than 150 countries Proven CME Clearing Listed futures and options Access to OTC clearing services via CME ClearPort Launched CME Clearing Europe (2011) Strong record of innovation and customer service Competition - Drives lower cost and Innovation CME GROUP
CME Group asset classes
CME s Global Coal Complex Futures and Options in North America, Europe, Asia, Africa and Australia Powder River Basin Futures Options API 2 (NW Europe) Futures Options Quarterly Option Calendar Option API 8 (South China) Futures Illinois Basin Futures (physical) Central App Futures (physical) Options Quarterly Options Calendar Options CSX Futures Options API 4 (Richard s Bay) Futures Options Quarterly Option Calendar Option Indonesian Coal Futures Futures, 6,000 kcal API 5 (Australia) Futures API 6 (Australia) Futures CME GROUP 6
Millions of Short Tons Benefits of Illinois Basin Futures (ILB) Hedging a Growing Production Basin Standardized tool for managing IL Basin price risk 250 EIA s Production Forecast - Producers lock in prices by selling ILB - Buyers lock in prices by buying ILB Ability for physical delivery 200 - Standardized delivery process, governed by CME Group 150 Illinois Basin - Ability to customize delivery process, if both buyer and seller agree (EFP or ADP) Growing importance of IL Basin - Relatively inexpensive coal, with access to river barge transportation - Easily transportable to Gulf for international export 100 50 Illinois Basin to surpass Central App in 2014 Central App 0 Source: EIA's Annual Energy Outlook CME GROUP 7
Contract Specs 11,500 btu/lb standard; 11,100 btu/lb min Weight: 1,750 tons Sulfur: 3.15% max Ash: 12% max Moisture: 14% max Volatile Matter: 30% min Grindability: 50 Hardgrove Index min Chlorine: 0.35% max Ash Fusion Temperature: 1,850 F min. initial deformation temperature, reducing atmosphere * All Tested to A.S.T.M. Standards CME GROUP 8
CME GROUP
ILB Spreads Margin Offsets Available North American Coal Spreads ILB vs. Coal Central Appalachian CSX Power River Basin API 2 4 ILB 1,750 Tons 7 QX 1,000 Tons ILB vs. Gas Henry Hub suite ILB vs. Power MISO Indiana Hub MISO Illinois Hub 4 ILB 1,750 Tons 7 QP 1,000 Tons CME GROUP 10
EFP Basics What is an EFP? Buyers and sellers may privately negotiate to settle their open futures positions through a customizable delivery process, called Exchange for Physical (EFP) EFPs allow market participants to exchange their positions in the Futures market for a position in the physical market, plus a differential which can be positive or negative EFPs can be used to liquidate a futures position - Customers have credit and performance guarantee of the Exchange for the futures - The Exchange does not guarantee the physical positions held by the two participants EFPs can also be used to establish a futures position All futures and options on futures are eligible for execution via EFP EFR (Exchange for Risk) EOO (Exchange of Options) EFP (Exchange for Physical) EFPs are one type of Exchange for Related Position (EFRP). To learn more about EFRPs, see Appendix. CME GROUP 11
CME Group Utility Miner EFP Example Miner and Utility have Existing Futures Positions, Liquidate with EFP Motivation Starting Point EFP Result January 2 March ILB @ $43/ton January 9 March ILB @ $39/ton February 16 March ILB @ $40/ton Wants to sell 17,500 tons of physical coal that will be ready to ship in March. Sells futures to protect against risk of falling prices Long Physical: 17,500 tons of coal unsold. Short Futures: Sells 10 March ILB futures @ $43/ton (Jan 2) EFP may be brokered Jan 2 Futures: Sold 10 March ILBs +$43 Feb 16 Physical: Sold 17,500 tons +$40 Futures: Bought 10 March ILBs -$40 Physical sale at $43/ton Needs 17,500 tons of physical ILB for March, buys futures to protect against possibility of rising prices. Short Physical: Needs 17,500 tons of coal Long Futures: Buys 10 March ILB futures @ $39/ton (Jan 9) Jan 9 Futures: Bought 10 March ILBs -$39 Feb 16 Physical: Bought 17,500 tons -$40 Futures: Sold 10 March ILBs +$40.Physical purchase locked a -$39/ton Miner and utility have credit and performance guarantee of the Exchange for the futures position EFPs are submitted to clearinghouse No price slippage, because EFPs are privately negotiated The Exchange does not guarantee the physical positions held by the two participants who will now be exposed to each other s credit and performance Note: Ignores margin and fees CME GROUP
CME Group Utility Merch. Coal Trader EFP Example Utility Transfers Futures Position to Merchant Coal Trader Motivation Starting Point EFP Result January 5 March ILB @ $38/ton February 16 March ILB @ $40/ton February 23 March ILB @ $45 Believes ILB prices will rise, so wants to keep exposure to floating prices. Wants to sell 17,500 tons of physical coal. Long Physical: 17,500 tons of coal unsold. Coal is low sulfur and trades at a $3 premium to ILB EFP may be brokered Feb 16 Physical (Inc. Dif): Sold 17,500 tons +$43 Futures: Bought 10 March ILBs -$40 Feb 23 Futures: Sells 10 March ILBs +$45 Physical sale at $48/ton Needs 17,500 tons of physical ILB for March, afraid prices will rise so wants to lock in prices with futures. Short Physical: Needs 17,500 tons of coal Long Futures: Buys 10 March ILB futures @ $38/ton Jan 5 Futures: Bought 10 March ILBs -$38 Feb 16 Physical (Inc. Dif): Bought 17,500 tons -$43 Futures: Sold 10 March ILBs +$40.Physical purchase locked a -$41/ton Utility has credit and performance guarantee of the Exchange for the futures position EFPs are submitted to clearinghouse No price slippage, because EFPs are privately negotiated The Exchange does not guarantee the physical positions held by the two participants who will now be exposed to each other s credit and performance Note: Ignores margin and fees CME GROUP
CME Group Power Plant Coal Producer EFP Example Power Plant Initiates Futures Position with EFP, Producer Liquidates Futures Position with EFP Motivation Starting Point EFP Result January 5 March ILB @ $38/ton February 16 March ILB @ $40/ton Has hedged stockpile of physical coal, which it wants to sell. Won t want to keep futures once sells coal. Long Physical: 17,500 tons of coal unsold. Coal is high chlorine and trades at a $1 discount. Short Futures: Sells 10 March ILB futures @ $38/ton EFP may be brokered Jan 5 Futures: Sold 10 March ILBs +$38 Feb 16 Physical (Inc. Dif.): Sold 17,500 tons +$39 Futures: Bought 10 March ILBs -$40 Physical delivery sale fixed at +$37/ton Liquidated a physical position with EFP Initially, has no coal and no futures position. Wants to buy coal and hedge that position with futures. Short Physical: Needs 17,500 tons of coal Feb 16 Physical (Inc. Dif): Bought 17,500 tons -$39 Futures: Sold 10 March ILBs +$40 Bought physical coal, and hedged +$1/ton Established a physical position with EFP Utility has the credit and performance guarantee of the Exchange for the futures position EFPs are submitted to clearinghouse No price slippage, because EFPs are privately negotiated The Exchange does not guarantee the physical positions held by the two participants who will now be exposed to each other s credit and performance Note: Ignores margin and fees CME GROUP
How to Trade Illinois Basin Futures Accessing CME Group Markets CME Group Central Counterparty Clearing CME Clearport a complementary Service to the OTC Domain CME GROUP 15
How to Trade Illinois Basin Futures How to Register for CME Clearport Establish an account with a NYMEX Clearing Member Visit cmegroup.com/clearport and complete the online Exchange User License Agreement, whether you are a broker or a trader. Once you have received your credentials from the CME Clearport operations team, your Clearing Member will establish your market permissioning, credit and which OTC brokers should be allowed to enter trades on your behalf. CME GROUP 16
CME ClearPort Submitting a trade for Clearing through CME Clearport In a typical CME ClearPort transaction, trader A and trader B reach a deal, often through the inter-dealer broker market, or via phone or IM. Once a deal is reached, the traders have three options for reporting the trade for clearing through CME ClearPort. 1. Directly submit their trades to CME ClearPort 2. Have trades submitted for them by voice brokers who are registered and authorized to submit such trades. 3. Over the phone to the CME ClearPort Facilitation Desk CME GROUP 17
Benefits of Clearing Coal through CME Clearport Comprehensive slate of products Trade execution in the OTC market with clearing through CME ClearPort Straight-through-processing capability from broker screens 24-hour access from around the globe with more than 17,000 registered users Competitive fee schedule Margin offsets across other energy products $8 billion CME Clearing financial safeguards package and more than 100 years of experience in clearing, settlement and risk management CME GROUP 18
Thank You! Bernard Muich, Client Development & Sales Bernard.Muich@cmegroup.com (312) 648-3621 Desiree Schwartz, Research and Product Development Desiree.Schwartz@cmegroup.com (212) 299-2928 CME GROUP 19
Appendix Compliance, Recordkeeping and Tools
EFRP Overview and Changes
Exchange for Related Positions Overview General Information CME, CBOT, NYMEX and COMEX Rule 538 governs Exchange for Related Positions (EFRP) transactions. All futures and options on futures contracts are eligible for execution via EFRP. EFRPs do not have minimum quantity thresholds. EFRPs do not have price reporting requirements to the marketplace. The futures or options on futures portion of an EFRP must be submitted to CME Clearing within a prescribed period of time after execution. The Exchange futures or options on futures contract portion of an EFRP may be executed at any commercially reasonable price which conforms to the standard minimum tick increment for the product. Three types of Permitted EFRPs Exchange of Futures for Physical (EFP) Exchange of Futures for Risk (EFR) Exchange of Options for Options (EOO) 22
Significant Changes in EFRP Rules AUG 2014 4 Revisions to Rule 538 became effective Aug 4, 2014 Market Regulation Advisory Notice Link http://www.cmegroup.com/rulebook/files/ra1311-5rr-rule538.pdf Areas of Focus 1 2 3 4 5 1. Banning of transitory EFRPs in Energy, Metals and FX products 2. Allowance for Immediately Offsetting FX EFPs 3. Enhanced recordkeeping requirements 4. Enhanced focus on submission requirements to CME Clearing 5. Other key EFRP topics 23
1 Prohibition on Transitory EFRPs Beginning August 4, 2014, transitory EFRPs in NYMEX and COMEX energy and metals products and CME FX products will be prohibited. Prior to August 4, 2014, such transactions were expressly permitted under the rules. Definition: EFRPs in which the execution of an EFRP is contingent upon the execution of another EFRP or related position transaction between the parties and where the transactions result in the offset of the related positions without material market risk. For ClearPort transactions, historically known as: Contingent EFS; Transitory EFS, ClearPort EFS While time between transactions is a factor in determining whether the EFRP was transitory, transactions will be evaluated based on whether they have integrity as independent transactions exposed to material market risk. 24
2 Immediately Offsetting EFPs in FX Futures Permitted Beginning August 4, 2014, CME will permit Immediately Offsetting EFPs in FX Futures. Definition EFPs in FX futures in which the parties immediately offset a cash transaction* Key Requirements Standard confirmation statements issued by the bank/foreign exchange dealer party must be created - Should indicate, by name, the identity of the counter party - When counterparty is a CTA or other person acting on behalf of third party, confirmation must identify third party s Carrying Clearing Member and account number (third party name not required) If the futures leg fails to clear, the EFP transaction is void and counterparties are left with the standalone offsetting physical transaction on the same side of the market as the futures leg of the failed EFP. Parties must then demonstrate the booking of the cash transaction Non-deliverable forwards in FX are swaps under CFTC regulations and therefore ineligible as the related position component of an immediately offsetting EFP in FX futures. Non-member CTAs should contact CME FX Team for a Compliant Workflow. *These transactions are permissible only as EFPs in FX futures and not in any other asset class, or as EFRs or EOOs in FX futures. 25
3 Enhanced Recordkeeping is Required Parties must maintain all records relevant to - The Exchange contract - The corresponding related position component Records must be produced upon request by the Market Regulation Department, and clearing members are responsible for obtaining EFRP records from clients. FCMs must accurately identify EFRP transactions as such on all customer statements. Records requested by CME Market Regulation may include: Order tickets, trade blotters, emails, IMs, telephone records Cash confirmations and signed contracts for cash or derivative leg For EFPs, 3 rd party proof of payment for physical commodity Futures account statements showing confirmation of EFRP Internal firm records showing booking of cash or derivative transaction 26
4 Enhanced Focus on Timing of Submissions Relevant terms of EFRPs are considered to have been determined at the time the price and quantity of the Exchange contract and the corresponding related position component of the transaction are agreed upon by the parties to the EFRP. - Where the actual delivery quantity may not be precisely determined by the parties until the time of delivery, the parties may contractually agree to submit following the time at which actual delivery quantities are determined Time of execution must be submitted for all EFRPs, regardless of the method of submitting the EFRP to CME Clearing. When a broker/fcm acts as agent on behalf of the principals to an EFRP transaction, the time of execution is when the broker(s)/fcm(s) confirm relevant terms. Exchange futures positions executed as part of an EFRP are subject to position limits from the time of execution, regardless of the time the transaction is submitted. EFRPs must be submitted within 1 hour of relevant terms being decided during hours defined by each exchange: CME/CBOT: 6AM 6PM Central NYMEX/COMEX: 7AM 5:45PM Eastern All exchanges, outside of above hours: no later than 7AM Central/8AM Eastern 27
5 Other Key Topics: Multi-Legged EFRPs EFRPs may incorporate multiple Exchange components provided that all the components have the same market bias (long or short). - EFRPs with multiple Exchange components with different biases are permitted ONLY where the Exchange components are legs of a recognized intercommodity spread involving a product and its by-products. Crack Spread vs Crack Spread Swap Soybean Crush Spread vs Soybean Crush Swap EFRPs with multiple related position components are permissible provided that the net exposure of the related position components is approximately equivalent to the quantity of futures exchange, or, for EOOs, the net delta-adjusted quantity of the OTC option components is approximately equivalent to the delta-adjusted quantity of the Exchangelisted option. It is impermissible to structure two EFRPs for purposes of rolling futures contracts from one month to another month. Such transactions constitute multi-bias EFRPs which are impermissible under Rule 538. 28
5 Other Key Topics: Account Requirements The opposing accounts in an EFRP must be: a) Independently controlled accounts with different beneficial ownership; or b) Independently controlled accounts of separate legal entities with common beneficial ownership; or c) Independently controlled accounts of the same legal entity provided that the account controllers operate in separate business units. Where the EFRP is between affiliates meeting b) or c) above, the movement of the related position component must be bona fide and documented appropriately. In certain instances, transferring open positions pursuant to Rule 853 may be an alternative to affiliated accounts transacting EFRPs opposite one another provided that the transfer complies with the requirements of Rule 853. 29
5 Other Key Topics: Additional Information Futures for Futures The related position component of an EFRP may not be a futures contract or an options on futures contract. - For example, contracts currently identified by LME as futures are not permissible as the related position component of an EFRP. EFRP Types If the related position component is a physical transaction, a forward contract not otherwise defined as a swap under federal regulations, an Exchange Traded Fund (ETF) or an Exchange Traded Note (ETN), the transaction should be identified as an EFP. Any swap traded on or subject to the rules of a DCM or SEF is ineligible to serve as the related position to an EFR or EOO. This exclusion does not apply to swaps which are bilaterally negotiated and submitted for clearing-only to a DCO. EFPs for Inventory Financing EFPs for purposes of inventory financing in agricultural, metals and energy commodities are permitted. The party providing financing may, through the execution of an EFP, purchase the commodity and sell the equivalent quantity of futures to the counterparty, while simultaneously granting to the counterparty the non-transferable right, but not the obligation, to execute a second EFP that reverses the original EFP during a specified time in the future.
Tools to Help Adapt
ClearPort UI Selections Changing Three types of Permitted EFRPs Exchange of Futures for Physical Exchange of Futures for Risk Exchange of Options for Options EFS are a subcategory of EFR. Effective August 4 th, all EFS should be submitted using EFR designation. It is market participants responsibility to ensure any EFS comply with the rules of the applicable market. Current State Future State, effective August 4th
Single-Sided Trade Entry Facilitates Compliance with Timing Requirements Easy to Use All firms are autoregistered to use single-sided Enter trade details Allege Counterparty Click Submit Benefits Complies with submission requirements Only firm must be alleged, not trader
CME Group Crossing Solutions CME offers two solutions today for executing a privately negotiated trade on Globex via a Cross Globex Cross Agency Cross 1 1 Trader 1 Pre-Ex Trader 2 Trader 1 FCM Trader 2 FCM Trader 1 (Aggressor) Trader 1 FCM Pre-Ex Trader 2 Trader 2 FCM Broker Broker FCM Give-up 7 ilink Broker ilink RFQ 2 ilink 5 RFC RFQ 2 5 6 Wait 3 6 Match Wait 3 LMT FAK 7 Match Globex CLOB Trader 3 Quotes Trader 4 4 Globex CLOB Trader 3 Quotes Trader 4 4 Transactions executed this way are not EFRPs; they are central order book futures executions All Cross Trades are governed by CME Rule 539, Pre-Execution Communications Globex Cross available for all asset classes except Ag Futures. Agency Cross is available for select Energy and Metals contracts at this time. 34
CME Group Agency Cross Use Case: Traditional ClearPort, brokered workflow, sub-block, previously conducted as an EFS Pre-requisites: Broker leverages CME Direct. Broker does NOT need to have a Give-up account. Trader FCM s must enable Agency Cross per existing ClearPort workflow and credit lines. Workflow: 1. Pre-ex negotiation and agreement on Product, Price, Qty, Accounts Trader 1 (Aggressor) Trader 1 FCM 1 Pre-Ex Trader 2 Trader 2 FCM 2. Initial RFQ to sent by Broker ObO Trader1 ilink Broker ilink 3. Market has opportunity to submit quotes 4. A wait time of at least 5 secs is required 5. LMT order sent by Broker ObO Trader1 6. Instantly (1mm sec), FAK order submitted by Broker ObO Trader2 7. Match occurs within CLOB based on best price. No Give ups required RFQ Wait 2 3 5 LMT Globex CLOB Trader 3 Trader 4 4 Quotes 6 FAK 7 Match *If the product being crossed has not been quoted in past few weeks, an initiating RFQ is sent first upon submission of User Defined Spread 35
Standard CME Direct Block Ticket WTI American Sept 14 105 / 107 CS Price =.50 Qty = 25 Lots Note: Minimum Block Qty for WTI American is 100 Lots 36
Block Minimum Alert Provided on Pre-Confirm User is Alerted Qty of 25 does not meet block minimum Can Submit as Cross 37
Cross Ticket is Auto-Opened & Pre-Populated Market re-entered as a cross on electronic market (Globex) Terms, Participants, Legs, filled in Broker can see live market quotes in real time If screen is dark, can easily submit the cross for execution 38
Upon Submission RFQ Sent to Market Upon Submit Cross RFQ is sent to the market Countdown begins to allow market to develop and reply 5 Sec (fut) to 15 Sec (opt) wait as defined by rules At any point during the 5 15 sec wait OR up until 30 seconds after, broker can decide what to do: Cancel Cross or Submit Cross 39
Execution Reports Provided Upon Completion Broker will see exactly how much is executed for each side of the transaction Fills are displayed in CME Direct Fills window as well 40
Agency Cross Next Steps Broker Trader FCM 1. Install CME Direct, if not already on. 2. Speak with customers and let them know you can support Agency Cross. 3. Coordinate an indepth training of Agency Cross ahead of your go live date. 1. Speak with your brokers and confirm they are able to support Agency Cross 2. Request your FCM to permission your broker(s) to support your accounts, similar to existing ClearPort process 1. Create Agency Cross session specifically to handle these trades 2. Confirm existing RAV credit & broker permissions still apply to each Trader / Broker 3. Confirm support with Trader / Broker and schedule a go live date. Questions / Training? Contact CMEDirectSales@cmegroup.com 41
CME Group Contacts Joe Hawrysz Bob Sniegowski Chris Reinhardt Executive Director Market Regulation MarketRegOutreach@cmegroup.com Senior Director Market Regulation MarketRegOutreach@cmegroup.com Senior Director Market Regulation MarketRegOutreach@cmegroup.com Ryne Toscano Bill Lange Anish Sampat Director Market Regulation MarketRegOutreach@cmegroup.com Director Market Regulation MarketRegOutreach@cmegroup.com Senior Director CME ClearPort & CME Direct Product Management anish.sampat@cmegroup.com Simon Burnham Senior Director FX Products simon.burnham@cmegroup.com Kelly Hartman Senior Director Energy Products kelly.hartman@cmegroup.com