Stockmarkets have also been undergoing dramatic change, most of which has involved becoming more international. In 1999, at least one out of every six deals done on stockmarkets involved a foreign buyer or seller – a far cry from the situation not much more than a decade ago. In the mid-1980s, Salomon Brothers, an investment bank, estimated that 99% of the world’s trading in equities was done on the exchange where the shares had their primary listing. Of course, a proportion of those who bought and sold shares then were foreign investors, but the number has since grown substantially.
The New York Stock Exchange (nyse), still the world’s biggest, led the way towards a more international world. It did this through the introduction of American Depositary Receipts (adrs), which enabled domestic investors to buy the shares of foreign companies with US dollars, and later by attracting a growing number of foreign companies to list their shares on the exchange. But the prize for internationalism must go to the London Stock Exchange. According to figures compiled by the World Federation of Exchanges, London accounted for more than half of the worldwide trade in foreign equities in 2002, compared with a combined share of 25% for the nyse and nasdaq, America’s main exchange for trading in the shares of technology companies.
London is also the international centre for another market that has mushroomed over the years: the derivatives market. Derivatives are financial instruments that are “derived” from another, for example, an option to buy a Treasury bond. The value of the option depends on the performance of the underlying instrument, in this case a Treasury bond. This can be taken a stage further: for example, an option on a futures contract. The value of the option depends on the price of the futures contract, which, in turn, will vary with the value of the underlying instrument.
Although the term derivative was little used until the 1980s, the practice of trading forward (which is what a derivative does) to mitigate the effects of risk has been a part of dealing in physical commodities for centuries. It has been claimed that forward trading began in Roman times, that Japanese rice traders first exchanged contracts for future delivery in the 17th century and that its origins can be traced back to Amsterdam and London’s Royal Exchange a century earlier. Whatever the truth, it is beyond dispute that, in 1865, the Chicago Board of Trade shaped the first grain futures contract. Thirteen years later, the London Metal Exchange and the London Corn Trade Association followed with their own futures contracts. Such contracts were developed to protect traders from unknown but expected risks in the future: in the case of grain, the vagaries of the weather and an uncertain transport system.
During the past decade or so, the growth of trading in derivatives on organised exchanges has been brisk. Fastest growing have been derivatives of financial instruments tied to currencies and exchange rates, interest rates and equities. Since 1995 alone, the number of contracts of this kind traded on exchanges worldwide has increased two and a half times. Despite increases in other markets, particularly in South Korea, US exchanges still account for the lion’s share of the business, around 35% of all contracts traded. Together, European exchanges are not far behind