JOHN E. NYHOFF is Director of Financial Research and Product Development at CME Group. He has lectured extensively in the interest rate derivative product area, and has taught financial futures and options and related courses at DePaul University and several other Chicago-area colleges. Nyhoff is coauthor of two industry-related texts: Trading Options on Futures and Trading Financial Futures (both from Wiley). He holds a master's in financial economics from the University of Rochester, a master's in economics from Northern Illinois University, and a bachelor's degree in economics from DePaul University.

RICHARD CO is Director of Financial Research and Product Development at CME Group. He joined CME in 1999. Dr. Co received a PhD in economics from the University of Chicago in 2000 and is a Chartered Financial Analyst.

PAUL E. PETERSON is Director of Commodity Research and Product Development at CME Group. He joined CME in 1989. Before that, Peterson served as vice president, research, for Brock Associates from 1988 -1989; manager, education and marketing services, for the Chicago Board of Trade from 1986-1988; and manager, market analysis, for the American Farm Bureau Federation from 1983-1986. Peterson holds a PhD in agricultural economics from the University of Illinois and has authored a number of articles in professional journals and business/trade publications.

CME Group is an international marketplace that brings together buyers and sellers on its trading floors and CME Globex around-the-clock electronic trading platform. CME Group operates leading derivatives exchanges including CME, Chicago Board of Trade, and NYMEX, offering futures contracts and options on futures, in diverse product areas including interest rates, stock indexes, foreign exchange, agricultural, energy, and metals.

Foreword by Leo Melamed ix

Prologue by Terry Duffy xiii

Acknowledgments xv

Introduction by Craig S. Donohue xvii

CHAPTER 1 Futures Market Fundamentals 1

What Is a Futures Contract? 2

Overview of Popular Financial Futures Contracts 21

Anatomy of a Futures Transaction 35

Conclusion 41

Notes 42

CHAPTER 2 Order Entry and Execution Methodologies 43

Open Outcry/Pit Trading 44

Introduction of the CME Globex Platform 46

Trade Matching Algorithms 50

About Options Markets 69

Ex-Pit Trading 73

Conclusion 78

Notes 79

CHAPTER 3 Role of the Clearinghouse 80

Financial Safeguards 81

Financial Surveillance 89

Default by a Clearing Member 91

Resources Backing CME Group Clearing System 95

Customer Protection 95

Disaster Recovery and Business Continuity 96

Rule Enforcement 96

Financial and Regulatory Information Sharing 99

Conclusion 100

CHAPTER 4 Currency Futures: The First Financial Futures 101

Evolution of Foreign ExchangeMarketplace 101

Over-the-Counter Currency Trading Vehicles 106

Exchange-Traded Currency Futures and Options 115

Foreign Exchange Market Growth and Trends 130

Conclusion 135

Notes 136

CHAPTER 5 Stock Index Futures: The First Financial Futures 137

Mechanics of Stock Index Futures 137

E-Minis versus Exchange-Traded Funds 142

Pricing Stock Index Futures 147

Spreading Stock Index Futures 152

Hedging with Stock Index Futures 158

Portable Alpha Strategies 163

Conclusion 167

Notes 168

CHAPTER 6 Eurodollar Futures: Interest Rate Market Building Blocks 169

Eurodollar Futures Market 169

Speculating on Shape of Yield Curve 180

Term Treasury/Eurodollar (TED) Spreads with

Futures and Options 184

Interest Rate Swap Market 194

Growing Up Together 202

Pricing Relationship 205

Hedging Techniques 208

Conclusion 215

Technical Appendix: Complications and Shortcuts

for Pricing and Hedging Swaps 216

Notes 229

CHAPTER 7 Understanding U.S. Treasury Futures 231

Coupon-Bearing Treasury Securities 231

Treasury Futures Delivery Practices 238

Measuring Risk of Coupon-Bearing Securities 252

Risk Management with Treasury Futures 254

Macro Hedging with Treasury Futures 262

Hedging Corporates with Treasury Futures 266

Trading the Yield Curve with Treasury Futures 269

Conclusion 276

Notes 277

CHAPTER 8 Commodities: Backbone of the Futures Industry 279

What Are Commodities? 280

Grain Markets 293

Livestock Markets 299

Energy Products 315

Precious Metals 327

The Forward Curve 331

Intermarket Commodity Spreading 342

ClearPort Over-the-Counter Clearing Facility 347

Conclusion 350

Appendix: Major Commodity Market Specifications 351

CHAPTER 9 Alternative Investment Market Fundamentals 368

Weather 369

Residential Housing Futures 379

Economic Indicators 397

Conclusion 399

Notes 400

CHAPTER 10 Fundamental Market Indicators 401

Why These Indicators? 402

Trading Volumes 404

Volatility: Daily Net Change 407

Volatility: Daily High-Low Range 408

Conclusions 412

Appendix: Economic Indicator Descriptions 412

Notes 414

CHAPTER 11 Technical Analysis Primer 416

Why Technical Analysis? 416

Interpreting Charts 422

Elliott Wave Theory 443

Intraday Trading Techniques 455

Trend-Following Systems 459

Conclusion 471

CHAPTER 12 Fundamentals of Option Markets 472

What Is an Option? 472

Mathematical Option Pricing Models 481

Historic and Implied Volatilities 494

Measuring Option Performance 504

Conclusion 513

CHAPTER 13 Option Trading Strategies 515

Option Spreads 515

Horizontal Spreads 526

Diagonal Spreads 532

Comparing Verticals, Horizontals, and Diagonals 537

Weighted Spreads 538

Volatility-Driven Strategies 544

Specialty Option Strategies 560

Matching Strategy and Forecast 565

Conclusion 566

CHAPTER 14 Hedging with Options 568

Baseline Futures Hedge 568

Buying Protection with Puts 569

Yield Enhancement with Calls 572

In- and Out-of-the-Money Options 575

Matching Strategy with Forecast 577

Collar Strategy 578

Delta-Neutral Hedge 579

Conclusion 581

About the Authors and Contributors 583

Index 587