How supporters of the CBOT's off-hours electronic trading system forced it to rethink its link with LIFFE.

By Margaret Elliott

The Chinese say be careful of what you wish for, because you just might get it. That's exactly what's happening at the Chicago Board of Trade. It wanted an international contract for its open outcry pits and a successful off-hours electronic trading system. With the opening of the CBOT's long-awaited link with the London International Financial Futures Exchange (LIFFE) due on May 9, it looked like the CBOT could have both wishes.

It should be cause for celebration. But the CBOT got more fireworks than it expected-and not all of the celebratory kind. The original LIFFE link, negotiated in 1994, gave the CBOT a surefire shot at establishing an international contract-LIFFE's German Bund contract-on its own floor. At the time the CBOT didn't look like it was giving up much for the privilege-just three hours or so of trading in the U.S. 30-year bond contract in the early morning hours, Chicago time.

But that was before the CBOT's second wish came true. Project A, the exchange's off-hours electronic trading platform, after a long gestation, has finally turned into something of a hit, with a 359-percent increase in contract volume in 1996 over 1995.

So what's the problem?

Project A operates a short afternoon session immediately after the pits close. But it also operates an overnight session, from 10:30 p.m. to 6:45 a.m. Chicago time, which includes the key 4 a.m.­7 a.m. Chicago time slot when LIFFE is set to trade the flagship U.S. bond contract in the pits in London. On May 9, Project A was due to shut down for trading the U.S. 30-year bond contract during two of those three hours.

For the growing band of Project A users, cutting off trading during those hours would have destroyed a good portion of Project A's value. As it turns out, this is a powerful group of members. In late January, the board of directors of the CBOT voted to renegotiate the CBOT/LIFFE link agreement to allow complete parallel trading in the pits and on the exchanges' electronic platforms-CBOT's Project A and LIFFE's APT system. "There has always been some overlap and there are people at LIFFE who think a complete overlap will provide more liquidity," says Daniel Hudson, chairman of LIFFE. "It is being discussed by a senior group of directors at LIFFE and we expect the board to make a decision soon, before the link opens in May." Once a new agreement between the two exchanges is reached, it must be voted on by CBOT members. A vote of LIFFE members is not necessary.

It's a victory for the supporters of Project A. "The LIFFE link in its present form would be a disaster for the CBOT," says Ray Cahnman, chairman of Transmarket, a Chicago-based market-maker that has the largest installation of Project A terminals. "We need to keep Project A up throughout the night so we can find out which one will attract the volume. I know which one will work better-Project A. But we wouldn't know unless they go head-to-head."

He argues that it's critically important to keep the momentum of Project A, which is growing faster than any other electronic exchange in the world. "Having Project A and APT running at the same time as the open outcry trading in London and Chicago is the only plausible solution," says Peter Todebush of Jackson Associates. Angelo Russo, CBOT's senior marketing manager for Project A, would be satisfied with this outcome, but is unable to comment further until the membership has voted to accept the renegotiation.

Tug of War

It is tempting to see the push to get complete overlap between Project A and the LIFFE link as a tussle between young and old. To an extent, it's true. The users of Project A are young, often 20-something clerks who work the floor during the day, but trade for their own accounts via the relatively affordable Project A terminals at night. The management of the CBOT, by contrast, is filled with seasoned pit professionals who fill the floor during the day, and choose to sleep during key Project A hours.

But this would be a naive interpretation, because both the LIFFE link and Project A have greater implications for the future of the CBOT. The CBOT, in fact, is made of several constituencies. For the purpose of the Project A-LIFFE link conflict, the two key groups are the local firms, which trade only in Chicago-and the international firms that already have trading operations in place in London, New York, Tokyo and other cities. For the international firms, it makes little difference whether they trade the bond contract in Chicago or London. For the local firms that have embraced Project A most completely, trading or executing the bond contract for clients in London would be prohibitively expensive.

The CBOT, for all that it seems to be bowing to pressure from Project A users, is not throwing over open outcry. "You must remember that the CBOT is committed to open outcry markets," says Russo. "We're not in the business of building an electronic market to supersede our pit. We wouldn't be investing $182 million in a new trading floor."

Project A supporters, however, argue that volumes are too thin in the overnight markets to support an open outcry pit on the U.S. contracts alone-either in Chicago or London. "Project A is the way to go with the overnight markets, because you don't need to be alert absolutely every second," says Cahnman.

Some Chicago locals are also suspicious of the CBOT's unwillingness to market and upgrade Project A. "If the CBOT had promoted Project A properly, the LIFFE link wouldn't have a chance," says one Chicago market-maker. "It would be irrelevant." They believe that if Project A were available worldwide via dial-up connection (see box), it would have many more users and massive volume.

Project A fans aren't willing to have their system turned off without a fight. To this end, Cahnman for one is preparing to lobby the membership to vote for overlap when the issue comes up later this year. The problem will have to be resolved one way or another before the LIFFE link begins trading in May. The CBOT's Russo maintains that the conflict is a mirage. "The CBOT is committed to its member firms and their customers, and expects both to expand Project A and provide a variety of new products on the floor for additional trading opportunities," says Russo.

For Ray Cahnman, Project A "beats Super Mario and any Nintendo game ever made." And unlike the kiddy games, it's making its players real money. Cahnman, in fact, once constructed bunk beds in a corner of his trading office to allow ambitious young traders who clerk during the day to catch a few hours of sleep in the evening before starting their night-time shifts on Project A.

Traders like Project A because its rules allow for big trades, growing liquidity and enough challenges to spark plenty of competitive games.

Cahnman attributes the success of the system to its unique trading allocation algorithms, which more closely reflect an open outcry environment. Unlike other electronic trading systems-like Sydney's SYCOM and the CME's GLOBEX-Project A does not use a strict first-in, first-out allocation system. Instead, trades are filled proportionally.

But Project A grants a special privilege to the first bid or offer that narrows the spread. This trader is rewarded by having all of his or her contracts filled or sold when the first opposite bid or offer appears. Traders know they're first in line because a letter "T" appears on their screen, but no one else knows they have this special priority. Thus traders, particularly locals, are encouraged to log on early, bid and offer aggressively, and stay on the system.

Access to Project A, however, remains a problem. Traders must use a proprietary and expensive Project A terminal. There are only 160 terminals in operation worldwide, mainly in Chicago and New York, though work-station access is being tested in London. With traders clamoring for screens, particularly at home, the obvious upgrade to Project A is to provide dial-up PC access, so traders can bypass the CBOT's Project A hardware. That is due by the end of the year, though, says Patricia Jurka, senior systems instructor at the CBOT, a date hasn't been set.

The software is also being improved. New enhancements allow all participants more flexibility to look at order history by different variables. The CBOT has also added programmable quote pages, screens for filled orders and better order-entry procedures.

The CBOT is updating Project A from a system written for a local area network to one written in Java that can be used with little alteration on multiple platforms. This change will come up concurrent with the dial-up connection but will be invisible to the traders.

As far as Project A fans are concerned, dial-up access can't happen soon enough.