CME E-micro Currency Futures Now Physically Delivered

The Chicago Mercantile Exchange announced earlier in the summer that following the expiry of the September 2010 contracts, e-micro currency futures contracts would change to being physically delivered:

CME FX will be migrating the E-micro Forex futures contracts from being cash settled to physically delivered. The December contract will be listed for trading on Sunday, July 25 (trade date Monday, July 26). This will enable active traders to carry larger positions in the E-micros and easily offset them with our standard size FX contracts – potentially generating more liquidity and tighter spreads in the E-micro Forex futures contracts.

Most of those September contracts expire today (USD/CAD does so tomorrow), and so from now on all e-micro currency futures contracts will involve physical delivery instead of cash settlement. CME explain the difference between cash settlement and physical delivery as follows:

With cash settlement, there is no obligation to make or take delivery of currency. At the expiration of trading there is one final mark to market, which results in a profit or loss to be credited or debited from a trader’s account. With physical delivery there are currency flows at delivery and traders make and receive deliveries of currencies. However, prior to expiration, traders either need to roll their positions to the next quarterly contract or offset their positions (if they are “short,” by buying an equal number of contracts in the same currency and contract month, or if they are “long,” by selling an equal number of contracts).

Amongst other things it looks as though following the recent introduction of the new CFTC regulations on retail foreign exchange the CME are trying to make currency futures more attractive to retail forex traders, so let's see how they're doing. If we take a quick look at the EUR/USD e-micro contract (M6E in CME speak) we'll be able to see how it compares to spot FX, and whether the prospect of physical delivery has in fact made their spreads more appetising. At the moment CME is quoting "spot equivalent" prices of 1.2807/1.2809. If 2 pips with 4 decimal places doesn't seem too bad let's take a look at leverage too. The EUR/USD e-micro contract specifications tell us that one long contract held to expiry will result in the physical delivery of 12,500 euros (roughly $16,250 according to CME). The CME margin requirements tell us that currently our brokerage account needs to contain at least $405 "initial margin" in order to be able to open that long position, so leverage is roughly 40 to 1 at the moment. Finally we mustn't forget that CME charge commission for the privilege of trading on their exchange, and your own broker will want to make some money by charging their own commission too. Having seen the numbers do you fancy moving from OTC forex to on-exchange currency futures? According to CME here are the advantages of doing so:

Deep liquidity

Equal access to prices and fully disclosed costs

Transparent, anonymous trading

Consistently tight bid/ask spreads

Centralized CME Clearing ensures the safety and soundness of all trades

CME Group is regulated by the Commodity Futures Trading Commission (CFTC) ensuring integrity and openness in CME Group markets

CME also state that:

At CME Group, transactions are reasonably priced.

Do you agree? Whether you do or not, you might nonetheless be interested to read the views expressed on CME's own blog concerning what they call "regulatory arbitrage":

While the government reaction is to clamp down on derivatives and over-the-counter (OTC) instruments, it may simply force market participants to abandon the United States for more agreeable regulatory regimes. The largest market participants have global operations and so have the needed infrastructure in place to support these activities in more than one country. Unless they literally can’t trade it somewhere else, they will tend to trade it where costs are lowest.