002 - 2 Futures Markets Answers to Questions and Problems...

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Answers to Questions and Problems 1. Explain the different roles of a floor broker and an account executive. A floor broker is located on the floor of the exchange and executes orders for traders off-the-floor of the exchange. Typically, the floor broker will either be an independent trader who executes orders on a contrac- tual basis for a futures commission merchant (FCM), or the floor broker may be an employee of an FCM. An account executive is almost always employed by an FCM and is located off-the-floor of the exchange. The account executive is the person one typically thinks of as a broker. The account executive could be located in the local office of any major brokerage firm and has customers for whom he or she executes orders by communicating them to the exchange via the communication facilities of the FCM. 2. At a party, a man tells you that he is an introducing broker. He goes on to explain that his job is introducing prospective traders such as yourself to futures brokers. He also relates that he holds margin funds as a serv- ice to investors. What do you make of this explanation? The guy is a fraud. First, a defining characteristic of an introducing broker (IB) is that the IB does not hold customers’ funds. Instead, the IB is associated with an FCM who holds the customers’ funds. Second, the last person the IB wants his customer to meet is another broker. The IB’s income depends on executing orders for his customers, so the IB wants to keep his flock of customers away from the wolves (other brokers) who are hungry for customers. 3. Assume that you are a floor broker and a friend of yours is a market maker who trades soybeans on the floor of the Chicago Board of Trade. Beans are trading at $6.53 per bushel. You receive an order to buy beans and you buy one contract from your friend at $6.54, one cent above the market. Who wins, who loses, and why? Explain the rationale for making such practice illegal. As described, this transaction costs your customer $.01 per bushel and transfers those funds to the friend from whom you purchase the contract at $6.54. On a 5,000-bushel contract, this amounts to $50. Thus, as described, the customer loses and the friend wins. It is important to see the motivation for the floor broker’s engaging in this transaction. As described, the floor broker cheats her customer and helps the friend. Presumably, the motivation for such an action is the expectation that the friend will return the favor on another transaction. The rationale for making this transaction illegal is clear; it amounts to a direct theft from the customer. 4. You are back at the party, several hours later. Your buddy from question 2 buttonholes you again and starts to explain his great success as a dual trader, trading both beans and corn. What do you think? This guy is not bright. A dual trader is a person who trades for his or her own account and who executes
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002 - 2 Futures Markets Answers to Questions and Problems...

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