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Good Derivatives: A Story of Financial and Environmental Innovation

Book Description

Through the eyes of an inventor of new markets, Good Derivatives: A Story of Financial and Environmental Innovation tells the story of how financial innovation – a concept that is misunderstood and under attack - has been a positive force in the last four decades. If properly designed and regulated, these "good derivatives" can open vast possibilities to address a variety of global problems. Filled with provocative ideas, fascinating stories, and valuable lessons, it will provide both an insightful interpretation of the last forty years in capital and environmental markets and a vision of world finance for the next forty years.

As a young economist at the Chicago Board of Trade, Richard Sandor helped create interest rate futures, a development that revolutionized worldwide finance. Later, he pioneered the use of emissions trading to reduce acid rain, one of the most successful environmental programs ever. He will provide unique insights into the process of creating these new financial products. Covering successes and failures, the story describes the tireless process of inventing, educating and creating support for these new inventions in places like Chicago, New York, London, Paris and how it is unfolding today in Mumbai, Shanghai and Beijing.

The book will tell the story of the creation of the Chicago Climate Exchange and its affiliated exchanges (European Climate Exchange, Chicago Climate Futures Exchange and Tianjin Climate Exchange, located in China). The lessons learned in these markets can play a critical role in effectively addressing global climate change and other pressing environmental issues. The author argues that market-based trading systems are a far more effective means of reducing pollutants than "command-and-control". Environmental markets may ultimately help to find solutions to issues such as rainforest destruction, water problems and biodiversity threats.

Written in an engaging, narrative style, Good Derivatives will be of interest to both practitioners and general readers who want to better understand the creative process of financial innovation. In the middle of so much distrust of markets, it is also a recipe of how transparent, well-regulated markets can be a force for good in the environmental, health, and social areas.

Table of Contents

  1. Cover Page
  2. Title Page
  3. Copyright
  4. Dedication
  5. Contents
  6. Foreword
  7. Preface
  8. Acknowledgments
  9. Chapter 1: The Early Years
    1. The House of Sandor and Mirner
    2. Bobby Fischer and My Days at School
    3. Discovering Economics in Brooklyn
    4. On to Minnesota
    5. Berkeley Beckons
  10. Chapter 2: Trying to Change the World
    1. A Different Structure for a Different Kind of Exchange
    2. Chicago—My Kind of Town
    3. Structuring the Exchange
    4. Talking to Regulators
    5. The Dream Is Dashed
  11. Chapter 3: The Berkeley Years
    1. A New Direction
    2. Plywood Futures—Learning How Others Create a Good Derivative
    3. Grain Markets and Mortgages
    4. Mortgage Interest Rate Futures—Creating Good Derivatives
    5. Chicago Calls
  12. Chapter 4: The Chicago Board of Trade Years
    1. Mentors and Leaders
    2. Trading with the Soviets
    3. An Explosion in Grain Prices
    4. Iron Men in Wooden Pits
    5. The Gulf Wheat Futures Contract
    6. Contract Improvement—The Brooklyn Farmer in Iowa
    7. The Relationship between Futures Prices and Spot Prices
    8. The Gold Futures Contract
  13. Chapter 5: The Chicago Board of Trade Years
    1. How GNMAs Work
    2. Drafting GNMA Futures
    3. Selling the Concept to Financial Institutions
    4. Enabling Legislation and Regulation for GNMA Futures
    5. Transparent Markets—Greetings from the Grim Reaper
    6. The GNMA Contract: Simple in Concept, Complex in Detail
    7. The First Financial Good Derivative—GNMA Mortgage Interest Rate Futures
    8. Contracts without Lawyers
    9. Her Name was Ginnie Mae
    10. The Economic Benefits of GNMA Futures
    11. Moving On
  14. Chapter 6: Educating Users and Building the Market
    1. Adapting at Conti
    2. Travels with Charlie O. Finley
    3. Finding Early Adopters
    4. The Relationship between Prices in Different Months
    5. Disseminating Prices
    6. The Gordian Knot of Building a New Market
  15. Chapter 7: Treasury Bond and Note Futures
    1. Trading a Notional Bond
    2. Marketing Treasury Bond Futures
    3. Educating Users
    4. New Interest Rate Contracts
    5. Ten-Year Treasury Note Futures
    6. Innovation by Competition
    7. Commoditizing Stocks
  16. Chapter 8: The Decade of the Eighties
    1. Exchange-Making in London
    2. Three Men and a Market—MATIF
    3. The Tale of Two Cities
    4. On to Drexel
    5. Once a Teacher, Always a Teacher
    6. Drexel Grows
    7. Drexel Becomes More International
    8. Eurodollar and Stock Index Futures Contracts
    9. The CBOT Options on Bond Futures
  17. Chapter 9: Globalizing Chicago Exchanges
    1. The Secret Ingredient of the CME
    2. Financing Entrepreneurs
    3. Catering to a Global Market with Night Trading
    4. The Attack on Equity Derivatives—Wet Sidewalks Cause Rain
    5. The Demise of Drexel
  18. Chapter 10: Environmental Finance
    1. The Acid Rain Problem in the United States
    2. The Clean Air Act Amendment of 1990
    3. Starting Over
    4. Jack Welch and Kidder, Peabody
    5. The CBOT's Role in the EPA Acid Rain Program
    6. The First EPA Annual SO 2 Auction
  19. Chapter 11: Blame It on Rio
    1. In Search of Trees—Commoditizing CO2
    2. Caipirinhas and Climate Change
    3. A New Academic Field
  20. Chapter 12: The Beginning of the Entrepreneurial Years
    1. Commoditizing Catastrophes
    2. Selling Catastrophe Futures
    3. Entering the Insurance Space as an Entrepreneur
    4. SO 2 Emissions Trading at Centre Financial Products
    5. Creating New Insurance Products
    6. Crop Insurance
    7. Charlie O. Finley's Death
    8. Exiting the Insurance Space
    9. Postmortem
  21. Chapter 13: You're Gonna Trade What?
    1. The G-77 Meeting at Glen Cove
    2. The Global Warming Emissions Trading Program (GETS)
    3. Preserving Rainforests through Markets
    4. The Policy Forum on Greenhouse Gas Emissions Trading
    5. The White House Conference on Climate Change
    6. The Kyoto Protocol
    7. The Demise of GETS
  22. Chapter 14: From the Pit to the Box
    1. A Civilization Gone with the Wind
    2. Stock Index Futures—A Postscript
    3. The Battle of CME and CBOT
    4. Battery Ventures
    5. Unlocking Liffe
    6. The Wagner Patent—Good Ideas Never Die
  23. Chapter 15: Conceiving a New Kind of Exchange
    1. The Largest Voluntary CO2 Offset Trade in History
    2. The Dow Jones Sustainability Index6
    3. Sustainable Forestry and Climate Change—A Case Study of Failure
    4. A Chance Encounter—The Beginning of the Chicago Climate Exchange
  24. Chapter 16: The Twenty-First-Century Lighthouse
    1. Spreading the Light
    2. Ramping Up
    3. Preliminary Market Architecture
    4. Educational Outreach
    5. Refining the Preliminary Market Architecture
    6. Recruiting Members to Design the CCX
    7. Finalizing the Preliminary Market Architecture
  25. Chapter 17: CCX Market Architecture
    1. “If You're Not at the Table, You're on the Menu”
    2. The First Meeting for the Utility Technical Committee
    3. The First Meeting for the Industry Technical Committee
    4. Consensus Building
    5. The End of the Day
    6. The Chicago Accord
    7. Seeking Investors
  26. Chapter 18: Chicago Climate Exchange
    1. Recruiting the First Members—Voluntary Participation versus Legislative Mandate
    2. Exchange Governance, Structure, and Regulation
    3. The Electronic Trading Platform
    4. The Registry, Clearing, and CCX Rulebook
    5. The Auction
    6. The Rocket Takes Off
    7. Financing an Exchange
  27. Chapter 19: The Rise of the Chicago Climate Exchange
    1. Recruiting the A-Team
    2. The CCX University
    3. Educating, Marketing, and Sales
    4. Building Demand
    5. Building Liquidity
    6. Building Supply
    7. Corporate Restructuring
    8. Extending the CCX Program
    9. Market Highlights
  28. Chapter 20: The Fall of the Chicago Climate Exchange
    1. Engaging the U.S. Congress
    2. Waxman-Markey—The Beginning of the End
    3. Falling into a Coma
    4. A Post-Mortem
    5. Looking West
    6. The CCX Legacy
  29. Chapter 21: The Chicago Climate Futures Exchange
    1. Setting Up Shop
    2. Launching Sulfur Futures
    3. Designing the Contract
    4. The Rise
    5. Sell, Sell, and More Sell
    6. The RGGI Battle
    7. Benefits of CCFE
    8. The Fall
    9. Closing Thoughts
  30. Chapter 22: The European Climate Exchange
    1. Tapping into the European Psyche
    2. ICE and CCX Collaborate
    3. Establishing ECX
    4. ECX Moves On
    5. The Economic Value of an Exchange
    6. Reflections on the Success of ECX
    7. Letting Go
  31. Chapter 23: India
    1. Brahmins and Katyas
    2. Building Interest for Offsets
    3. ICX Is Conceived
    4. The Andhyodaya—A Chain Reaction of Innovation
    5. Holy Cows and Sacred Forests
    6. The Tata Motors Auction
    7. Moving On
  32. Chapter 24: Opening New Markets in China
    1. First Encounter with China
    2. Satellite Broadcasts
    3. An Opportunity Arises
    4. Returning to China
    5. In Search of the Perfect Exchange Partner
    6. A Turn of Fortune
    7. The Birth of the Tianjin Climate Exchange
    8. Raising TCX
    9. The Opening of TCX
    10. The World Is Getting Flatter!
    11. The People's Bank of China
    12. A Postscript on China
  33. Chapter 25: Good Derivatives
    1. The Past 40 Years
    2. Laying Out the Construct for a Good Derivative
    3. The Next Forty Years
    4. Chicago, My Kind of Town
  34. Appendixes
    1. Appendix A: Commodity Exchange Operating System, 1969
    2. Appendix B: GNMA Advisory Committee
    3. Appendix C: CBOT Financial Instruments Committee, 1975
    4. Appendix D: CBOT Financial Instruments Committee, 1977
    5. Appendix E: CBOT Financial Instruments Committee, 1982
    6. Appendix F: CCX Committees
    7. Appendix G: CCX Subcommittees
    8. Appendix H: CCX Members
  35. Acronyms
    1. Exchanges
    2. Environmental
    3. Others
  36. Glossary
  37. Index