Photographs By Joshua Roberts
John Damgard has been leading the Futures Industry Association (FIA) since 1982, witnessing some of the most dramatic changes in the industry. He was there as the Shad-Johnson agreement freed up the possibility of futures on stock indexes; as electronic trading was launched and became the primary tool of execution; during the consistent and ongoing consolidation of brokers and exchanges, and the myriad of shocks and scandals that tested the industry.
Damgard, who grew up in Ottawa, Ill., came to Washington as a volunteer for President Richard Nixon. Following President Nixon’s resignation, he went to work for the U.S. Department of Agriculture (USDA). He would become the point man at the USDA on the creation of the Commodity Futures Trading Commission (CFTC).
After the 1976 election, he left government and was hired by A.C. (Ace) Israel to run the Washington office of commodity firm ACLI International. He was a representative to the FIA when he was at ACLI and would later be recruited to run the organization after its move from New York to Washington.
Damgard recently announced that he would be stepping down as president of the FIA after nearly 30 years. We spoke to him regarding the enormous changes to the industry during his tenure and the challenges the industry faces.
Futures Magazine: What were the goals of the FIA when you joined in 1982?
John Damgard: Common clearing was always a goal. Anything that created efficiencies in the market was a goal. The other thing that was important to the firms is that they were concerned that exchanges were being run exclusively for the floor members who owned the place and the customers weren’t always getting a fair shake. They saw a real opportunity for the industry to grow much more quickly if the image of the exchanges could be improved, so we worked long and hard on that.
It [was about] best practices, standards and improving the reputation of the exchanges. For instance one of the first rules was never have a conference in Las Vegas, because we had been criticized as being nothing but a gambling pit. A conference in Las Vegas would send the wrong message.
FM: At times the relationship between the FIA and its members and the exchanges has been strained, talk about how that dynamic has evolved and what you see as the role of the FIA.
JD: One of the biggest issues we have had over the years was electronic trading. I remember John Conheeney, a former FIA chairman who was an outside director of the Chicago Board of Trade [CBOT] at the time, making a speech where he forecast that sometime in the distant future a black box might be the way orders were managed. They summarily kicked him off the [CBOT] board on the spot because they saw that as a threat to their livelihood. It was open outcry forever in those days. The fact that the firms believed that that there were ways for making the markets work better for the customers clashed with the self interests of a lot of the floor traders.
Leo [Melamed] accomplished a marvelous thing by convincing the Merc that there was a need for Globex. There was a gradual realization that as other parts of the world came here to learn how futures worked, many of them bypassed open outcry and believed in electronic [trading]. Exchanges like DTB (Deutsche Terminborse, the predecessor of Eurex) said we think we can match trades with computers. It was the competition from Europe that really sped the Chicago exchanges to seriously reflect on electronic [trading].
FM: What is your opinion on the position limit rule just passed by the CFTC?
JD: You can read our comment letters, but we don’t believe that position limits make a lot of sense for markets that exist outside the United States. They can be a tool for regulators in the ag markets with physical deliveries where there can be congestion in delivery months. [Though] surveillance and jawboning has worked well in preventing manipulation in the stressful times in the market. But when there is a decent supply in the market, when the CFTC has ample opportunity to see positions, arbitrary position limits set today can be very restrictive tomorrow. And my real concern is markets outside the United States that don’t have position limits. Why would any global traders bother to run the risk of trading a market in any of these products where 24-hours a day, offices spread all over the world are doing business.
The CFTC has bitten off of a tough one here. They may end up failing to achieve what the people who have pushed this expect to happen. People that think this is going to reduce the price of buying corn for corn flakes or oil may find that by reducing liquidity, they are increasing volatility. They may very well end up seeing prices increase as a result of this.
FM: I know we don’t have all the facts yet but what is your take on what happened at MF Global?
JD: It’s been less than a week since the firm collapsed, and at this point it’s impossible to know for sure what happened. What I can say is that this is an extremely unfortunate turn of events for everyone involved. MF Global played a very important role in our industry, not just here in the U.S., but in many markets around the world, and it’s a real shame to see it come to such a sad end. The absolute cornerstone of financial integrity in our markets has always been and will continue to be the protection of customer funds. This principle should never be violated.
FM: Can you compare this to other FCM bankruptcies and perhaps rogue trader scandals that have occurred since you've led the FIA?
JD: I think we need to wait for the authorities to reach their verdict before we render judgment, but one thing stands out immediately. When Lehman Brothers collapsed in 2008, we were able to move all of the customer positions and collateral out of Lehman in less than a week (in the United States). The process with MF Global has been far less smooth, and that should be a matter of considerable concern for all of us in the industry. Since the news broke on Monday morning [Oct. 31], everyone has been working very long hours to transfer customer positions and collateral out of MF Global. I have been on a number of conference calls with member firms and the clearinghouses, and I know everyone is doing their best to sort this out. When the dust settles, I think it behooves us all to take a long look at what happened here and determine what steps need to be taken to improve the handling of customer funds both before and after bankruptcy.
FM: You have led the FIA through some dramatic changes in the industry. I am going to mention a few, give me your immediate thoughts:
The launch of the S&P 500 futures and the Shad-Johnson accord
JD: That was a great moment for the Futures industry. The agricultural community sat back and beat themselves on the chest saying, ‘products that long served the agricultural industry for the purpose of managing risk are now being discovered by another world. Futures contracts can work extremely well for the equities world as well as energy producers.' At the beginning of the S&P, [it started] a period where all sort of new products in the financial arena became profitable.
Black Monday 1987
JD: I remember the finger pointing. I remember Richard Breeden coming into the SEC in 1989 and blaming the futures markets. He said, ‘This never used to happen, but now we have these wild cowboys trading futures contracts on equity products.’ We couldn’t let this go unanswered, so we explained to the press at the time that the SEC failed to see how important it was that these markets be linked. The upshot of that was the SEC took on a new commissioner who had some knowledge of how the derivatives market worked and Ronald Reagan nominated Mary Schapiro.
The Stotler bankruptcy
JD: Cash Mahlman was the chairman of Stotler, and Cash was devoting all his energy to being chairman of the CBOT. It was a huge problem and other firms learned from that. That was the beginning of a lot of consolidation. A lot of the smaller Chicago firms couldn’t believe that one of their own could be shut down and run out of capital. When I took over the FIA, there were 100 FCMs who were my members. Conservatively, the business has grown 7,000% on my watch, [but] the number of FCMs members has declined from 100 to 34.
JD: We were watching the plane dive towards the Pentagon. We saw the airplane when it was making the turn. We were blocked by a building but could see the mushroom cloud when it hit. It was a scary moment. We did everything we could in the aftermath to maintain communication between the exchanges and the firms. We had conference calls going on every two hour on a 24-hour basis. We helped people find out what other people’s plans were, what they intended to do and what their timing would be for their ability to get back up.
Barings Bank failure
JD: Mary Schapiro was the chair of the CFTC at that time. I remember the knee-jerk reaction was to shut everything down, and fortunately Mary made sure that did not happen. After Barings failed, the margin calls from the Singapore exchange [SIMEX] were viewed with suspicion in some quarters, and a number of large market participants considered ignoring the calls for fear that the money would be used to prop up the exchange. Mary Schapiro got on the phone with the Monetary Authority of Singapore and that allowed her to assure the clearing members that margins would be used for the purposes for which they were intended. Consequently, no default took place. It is often the case that it is the things that did not happen, the things that we prevented from happening, that don’t get the credit they deserve. That was certainly true of Barings and Mary Schapiro’s role in preventing that from becoming a total disaster.
I’ll give you another example. There was a congressman from Iowa named Berkley Bedell who offered a amendment that said if you don’t own cattle, you can’t go short the cattle market. Thanks to our efforts, that failed by one vote. I doubt anyone remembers it now, but we certainly would have rued the day if that had passed.
The Commodity Futures Modernization Act
JD: The CFMA has been very badly maligned. The CFMA did a terrific job of freeing the industry to make decisions that [it was] best equipped to make. Somebody should expose the myth that if we all paid attention to Brooksley Born and Michael Greenberger that all future problems would have been avoided. I represent the listed derivatives market, [but] in defense of the swaps markets, currency swaps, equity swaps, fixed income swaps and agricultural swaps all were working just fine and providing risk management opportunities for commercials, and we are paying one heck of a price for credit default swaps, which did not exist when Ms. Born was saying all swaps must come under the CFTC.
The emergence of electronic trading
JD: Probably the most important thing that ever happened to the industry. The globalization of the industry and electronic trading, the advent of technology replacing the open outcry [pits] was responsible for a huge surge in volume because people who had been reluctant to use the markets because what they regarded as “the traders’ edge” pretty much disappeared with the advent of the screen. There was no longer the traders’ edge in the way that it was interpreted in those days. Today there may be a traders' edge, but it is because the traders have developed a very sophisticated algorithmic system where by providing liquidity to the system, he is taking risk. When he is right, he is benefitting and providing liquidity to the markets. Electronic trading is probably the single greatest thing that has happened to the business because it allowed all sorts of new entrants to come in and take advantage of managing risk.
The CME/CBOT common clearing link
JD: Common clearing makes a lot of sense from the standpoint of efficiencies. The detractors would say it certainly concentrated a lot of risk in one place and the clearing house is like a nuclear power plant: Failure is not an option. The clearinghouses are really too big to fail. It is really important that the clearinghouses continue to be able to implement rules that maintain the financial integrity of the institution. One of the concerns is about letting somebody [clear over-the-counter swaps] with $50 million [in capital] when $5 billion is the minimum at LCH.
One of the principle [purposes] of Dodd-Frank was to sort of democratize the swaps business by making it more competitive. But that is a tricky trade off because you don’t want the guy running the corner drugstore to be in there saying ‘I want to bring [customers] to the party too. As long as we all can call on that great pool of capital at the clearinghouse, I will make my customers a better price.’ We’ve seen with Volume Investors what that means. You better not be able to bring a customer to the clearinghouse unless your own capital justifies it, [though that] is the way the CFTC has tried to skin the cat. Some of these small firms may decide, 'I [have] the $50 million, but is it really worth it for me to be in this business.'
The Lehman Brothers failure and the Wall Street bailout
JD: The Lehman Brothers failure shows one thing: That the futures industry got it right. Our bankruptcy provisions, which we foresaw many years ago, recognized the importance of segregating a customers’ fund from the firm’s fund. When Lehman went down, lots of other bad things happened, but futures markets continued to run without a blip. That is because positions could move along with the money of the customers because it was segregated.
JD: High-frequency trading is an enormous complement to the business. It really is an extension of the people who provided liquidity on the floor [who] were smart enough to go upstairs. Smart guys [understood that] making markets and providing liquidity can be a profitable business and were smart enough to get into that business. We are going to take our old occupation upstairs, and we are going to continue to provide liquidity so that hedgers will continue to have opportunities to lay off their risk. They are a net positive to the business and people that don’t believe that don’t understand how these markets work. They will continue to have a very difficult time convincing the naysayers of how important it is both here and in Europe, and we are going to do everything we can to help.
The current dysfunctional political climate
JD: On the ag committees, they have historically been bipartisan and we saw an example of that [recently] when the Republicans and Democrats alike said we do not want the super committee making decisions for how we are going to participate in the cost cutting. We will commit to a $23 million reduction in the ag budget next year and we will determine within our committee how to get there. That was a joint effort on the part of Republicans and Democrats. [The FIA] has been recognized as a honest expert and we have provided that expertise to the committees. For the most part, we have been extraordinarily successful over the years in making sure that nobody killed the goose that laid the golden egg. In the last few terms it has been more difficult.
JD: We opposed the merger because we thought it limited competition, and one of the people that argued with us longest was Dow Jones. They said ‘when we [decided to offer futures on] the Dow Jones Index we had a bidding contest.’ The Board of Trade wanted it, the Merc wanted it, and we thought with all these new products coming along, it is probably healthy to have people competing for the products. We also believed that some day it made sense for more than one entity to be able to say we absolutely control the business. We have had lots of competition spurred by electronic advances that makes us less concerned about that.
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FM: There has been a split between your larger and smaller members, is there still tension there?
JD: Yes, these guys don’t all love each other all of the time, but I would say the FIA rises above that and we represent the industry on issues that benefit the industry. There will always be competitive pressures between the firms going after business. We have seen a little of that in the swaps area where the big swaps firms are being accused by the smaller guys of not letting them in. Where the FIA always has stood for competition, I would say that you [have] to get it right. You don’t want to democratize the process to the point that you let in somebody that is not really capable of being able to do the business, particularly if it means that the big guys are going to say, ‘Why do I want to be in clearinghouse where there are all these little guys that don’t have any money up. Why should my huge stake be at risk?' Clearinghouses are the key going forward. Execution is going to be more and more automated and faster. All you will need is a screen and you will know buyers and sellers 10 deep. That is going to be a pretty hard thing to charge for, but by sending that trade over to the clearinghouse, you are putting some consolidated balance sheets to stand behind the sanctity of the trade. So, clearinghouses are going to be increasingly important.
FM: Are you concerned that some of the elements of Dodd-Frank challenge the CFTC’s exclusive jurisdiction?
JD: I don’t know if Dodd-Frank will pose any major new threats to the CFTC’s jurisdiction, but I’m sure that sooner or later we will see challenges from one direction or another. Going back to my days at the Department of Agriculture, the purpose of exclusive jurisdiction was to avoid what you see on the securities side. Everything has to be approved by the state securities commissioners as well as the SEC. Even though I have a lot of sympathy for states’ rights, I became convinced that exclusive federal jurisdiction for the CFTC was a good idea. The CFTC has a fine track record of regulating this industry and other agencies should bow out and assist the CFTC whenever it is necessary.
Single stock futures is a perfect example. One area [that has been] carved out for joint [CFTC-SEC] jurisdiction was single stock futures. They have been very successful in other parts of the world but have been a total disappointment here.
FM: You have championed the notion that FCMs should be able to select their clearinghouse. Do you still support “Freedom to clear”?
JD: I suppose if you were going to start all over again and look at a different model, you would look at the equity options model where everyone can have access to the same pool of liquidity. Would that create more competition at the execution level? Yes, but execution is not as important as it used to be. It is automated. They elected to have one clearinghouse that operates as a utility. That is a model that had a lot of appeal when you only had one place to execute. It probably would have stimulated competition in the execution area. But we are beyond that because everybody has adopted the vertical silo [clearing] model and clearinghouses will be competing with each other in the new world of SEFs (Swap Execution Facilities). I am bullish on the future of our markets, but we have to make sure in the meantime we don’t make it so attractive to go other places to trade. I have a lot of non-U.S. members. We are a global organization with a board made up of a lot of different nationalities. In no way will I say that U.S. exchanges and firms should have an advantage, but I don’t think U.S. firms and exchanges should be disadvantaged by rulemaking that puts them at a disadvantage to foreign competitors.
FM: You have seen dramatic changes in the industry in your tenure. What were the most important?
JD: Globalization, technology and electronic trading. And we have seen a lot of consolidation. You wonder what would have happened if Refco hadn’t bought [so many] firms. Where’s Stotler? Where is Lind Waldock? Where’s 312 Trading? Where’s Jack Frost? They were all these Chicago boutique shops that aren’t around anymore.
FM: Are you concerned that the CFTC is moving away from principle-based regulation.
JD: It is a big concern. Principle-based regulation makes a whole lot more sense than prescriptive rules, which we know stifles innovation. And we will beat this back. We are a global business and there will be somebody out there that sees the benefits of what we are talking about. The country that decides to stick to prescriptive rules because they think the business is domestic and they can control it will be the loser. I am confident that that is not going to happen in the United States; or if it does in the short-term, it will get reversed.
FM: What will happen with Dodd-Frank?
JD: I think there are some parts of Dodd-Frank that people can support; I don’t think the Volcker rule is one of them. Trying to tell the banks precisely what businesses they should be in is beyond the purview of Congress. The Fed can determine what needs to be done and what doesn’t need to be done with respect to the financial integrity and obligations of the banks.
FM: There is some fear that Dodd-Frank could end up pushing trading away from the regulated markets. Is this a concern?
JD: Just the opposite, more and more product will become standardized to be able to fit on a futures exchange. It is up to how people write the rules and how they are interpreted. An awful lot of cleared swaps look like futures contracts.
FM: With exchange consolidation going about as far is it can go and markets electronic, what will be the most important issues for the industry in the futures?
JD: We need vigilance to make certain that the regulators and legislators are properly educated to make certain nothing is done to damage the ability of the industry too continue to serve the public. What we have seen happen in the U.S., we saw happen in Europe and we see happening in South America and in Asia. When India and China really come online, we are going to see [volume in] this industry explode.
FM: What would you like to happen?
JD: I want to see the business continue to grow. I want to see more involvement on the part of small business, they are beginning to understand the benefits of these markets. It is an industry that is totally underappreciated. Every consumer out there, whether they are buying corn flakes or a new car is served by this industry, and they have no concept how beneficial this business has been for them. And you have opportunists like [Senator] like Bernie Sanders (I-Vt.) that for cheap political gain are trying to convince everyone in Vermont that he is going to drive down the price of heating oil by getting the speculators out of the market. It is the kind of thing that drives me crazy.
By and large, the people involved in this industry are the crown jewels of the financial services industry and those of us lucky enough to be associated with it appreciate that fact. I love working for these guys.