The world's First Futures Markets came in the city of Osaka, Japan, in fact, a part of Osaka called Dojima in the 1670s. This was during the Tokugawa period in Japanese history when Japan was isolated from the rest of the world except for the Dutch. For some reason, the Dutch had special dispensation to come in and do business in Japan, but everyone else didn't. Funny thing that this Futures Market idea originated in Japan. But I think it has something to do with the Dutch, because the Dutch had just invented in the beginning of the 1600s the first real stock market. And they were doing options trading and short selling; they were the most advanced financial country in the world in the 1600s. So maybe some of it kind of spilled over into Japan, but the Dutch didn't get this. They didn't get the idea of a Futures Market. So now Dojima was the storage center for rice in Japan. They had a lot of warehouses. I was recently in Osaka and I asked-- actually I'm going to be in Osaka next week again, maybe I'll ask again. I said, "Where can I see some remains of the futures market?" And they said, "Well, it's all long gone, nothing left. There's nothing to see." But it was big. There were 91 rice warehouses according to one historian's account in Dojima in 1673. Well, it was a substantial part of Japanese diet and somebody had to be storing it. It was a serious business. So people in Japan who dealt in rice or rice products would go to Dojima to buy the rice and what they ended up doing is making contracts for future delivery. So there were things called rice bills which were-- rice was a little bit like money; you could borrow rice and pay it back at a future date. So you could buy your rice at a future-- I'm anticipating my forward contracts story. But the futures exchange is something a little bit more sophisticated. It was a center for information and hedging about rice rather than focusing on delivery of your rice when you want it. So what it did is it had a specific list of delivery dates for rice at Dojima. So that you could sell rice in the future for delivery to a warehouse in Dojima or you could buy it but at a future date. That means they can't look at the rice now. So they have to specify what kind of rice it will be. So the Dojima futures exchange had precise definitions of quality, delivery date and place. And they had experts at the warehouse, whose job was to evaluate quality of rice. And so you would be signing a contract for delivery, but you didn't necessarily have to fulfill the contract because it was a standard contract, and you could always buy your way out of it. So if you were a rice farmer and you had promised to deliver rice to Dojima as of a certain date, and now you thought, "Well, you know maybe I won't plant as much rice. So I don't really want to deliver. I won't have enough. I've changed my mind." You could go back and just sell that many contracts so that you've reduced your exposure. It creates liquidity in the rice trade. Actually rice futures became big in Japan from the 1670s until World War II. And it somehow got lost in Japan after the war because there were a lot of things happening. And it got set up elsewhere in the United States and then anyone in Japan who wanted to hedge rice futures could have to do it in Chicago. Chicago became the World Center for a lot of future. So we have rice futures, but now don't deliver them to Dojima. If you go there, I think what I got from my impression it looks like downtown Osaka to me. I have to look again. But there's no place for you to deliver it in Dojima. You have to deliver it in Chicago. And so here is the standard contract. It says Chicago Board of Trade (CBOT). Historically, the CBOT merged with the Chicago Mercantile Exchange in 2007 and they now call themselves the CME Group. But we'll still call it a CBOT contract. It's different from a contract that you might sign if you wanted to buy rice. If you are a maker of rice krispies or whatever, you might want some other amount than this or delivered somewhere else. But that wouldn't be a standard contract. This is the standard contract which is the liquid contract. So one contract is for 2,000 hundredweights. What is a hundred weight? It's just 100 pounds over deploy. But you can't buy less or more than that. That's the size of one contract. And here's what it is; it defines that U.S. number two are better long grain, roughly for the total milling yield they've got less than 65% including head rice if not less than 48%. And it goes on and on. That's what you have to deliver. And it's priced in cents per a hundred weight. The tick size is like an exchange, it only allows you to change the price by a certain amount. Now why would be people interested in doing a standard contract rather than a contract. I don't want a 2,000, I want 2,500 hundredweights or something like that. But see this is the genius of the futures market. It creates a meaningful price and it creates clarity for the future. So there's lots of prices for rice; lots of spot prices for rice. You can go to some place where they're selling rice spot. But if you go there they'll say, "Well, the rice that we got today doesn't look good. I haven't studied it but I think it's not deliverable for the CBOT." Nobody is watching; well, the buyer is watching. The buyer looks at it and says, "Okay, I'll pay this for this," but it might be bad rice. There's no official statement. You find a hundredweight that sold for some price, you don't know why. Maybe there was something; maybe the guy threw in a toaster or something as gift. So if you really want to know what is the price of rice, you can't know what the price of rice here is. You can only know what the price of rice in Chicago is because there is a futures market and look how precise they are. So they have these delivery standards. Now I'll tell you one thing, nobody delivers better rice than the standard. I went to the coffee sugar and cocoa exchange once in New York. I had a tour and I said, "Can I sample some of your coffee?" Here I am at the World Headquarters for the coffee trade, and he says, "Well, I wouldn't recommend. Let's go to a Starbucks across the street. Our coffee isn't great. It's very ordinary coffee." But of course it's ordinary coffee because they wanted to be liquid. They wanted to be a big market. So if you are buying-- here's the idea, if you are buying expecting to buy good coffee let's say next year, you can lock in the price by buying the ordinary stuff on the futures exchange, and then any price fluctuations which will probably be shared by both types of coffee will affect your futures contract and you can close out, sell out your futures contract just before you would have bought the good stuff. And you've protected yourself against price fluctuations because the two probably move together. So most futures contracts are closed out without delivery. It's simply like this; suppose you are a rice farmer in the United States or in Japan. And you're worried about the price you can get for your rice when it is harvested. You will sell your rice in Chicago knowing full well I'm not going to ship it to Chicago but I just believe that it's price in Chicago will move with the price wherever I am. And it's just an insurance against price drops. If I'm a farmer I'm worried that I won't get enough money from my crop and I won't make it. So this is a really important concept that is not obvious, that futures markets are rarely delivered. The only time they're delivered is when the sharp operator is called arbitrageurs decide that there is a difference between the futures price and the spot price in Chicago or enough of a difference to deliver or to take delivery on the other side. So I once had a tour of the CBOT and we met I don't know what it was. Some kind of grain trader. And we had a chance to interview him because we were guests of the exchange. And I was impressed. This guy had a memory. We had a plot of futures prices and the price was up spiked up once in Chicago. And I said, "Look at that spike. Why did that happen?" And he said, "Oh, I remember that perfectly well. There was a shortage in Chicago but there was a rail strike or something. And the grain was waiting in Iowa and we couldn't get it. We were really trying to arbitrage that spike because the spike was only in Chicago. But we couldn't get it to Chicago. So I went out and I rented trucks but it was expensive I couldn't get that many trucks." So they live this story. Normally the arbitrageurs pay little attention to futures prices relative to spot prices unless when it's getting close to the delivery date they diverge. Then they look, "Should I have an opportunity taking delivery or bring my trucks to the warehouse in Chicago load up the rice and bring it to Iowa and sell it where the price is higher or the reverse, I'll deliver?" And there's a small group of very sophisticated rice traders who do that and the rest of the world hedges. So in Japan a farmer in Japan could hedge in the Chicago rice market and has absolutely no thought of delivering to Chicago - wouldn't know how to do that. So here is the rice futures curve as of yesterday at the CBOT (CME Group). The nearest contract I think is May; it's going for a little over $10 per hundredweight or 10 cents per pound. So if you go to the store and look at what does a pound of rice cost when you buy it in the grocery store here? It must be something like a dollar, right? You can get it for 10 cents, because you can only get this price if you buy, what was it, the 2,000 hundredweights. What did I say? 91 metric tons. Yeah, 91 metric tons. That's a lot of rice. You want it delivered to your store in a nice little package with colorful graphics on it. Now the other thing you note that it goes up with time. And that's a fundamental thing. Most of the time futures prices-- you understand this is all as of March 8, 2016. This is for delivery in May of 2016, and at the other hand it's delivery in maybe May of 2017. So it goes up with time. This is a price that I can lock in today, if it's March 8, 2016, for May 2017. And this upward sloping nature of the futures curve has been called contango. I need to know the etymology of it. But contango is normal in futures markets. If you want delivery at a future date it's going to cost you more. Not always though; it can sometimes be in backwardation which is where it falls into the future. Well, I'll give you an example of that, but it's anomalous.