This paper analyzes the live cattle futures markets in the Commodities and Futures Exchange (BM&F), Brazil, in order to test the effect of contractual innovations and other exogenous variables with regard to the level of positions (open interest) and negotiation over the 1993-96 period. The former contract design specified the liquidation by physical deliveries, which induced problems associated with opportunistic behavior, monitoring, delivery costs and, hence, high transaction costs to traders. The first contractual innovation attempted to reduce those costs by centralizing deliveries to a single point and the second one by eliminating the delivery process, altogether making use of the cash settlement mechanism based on a price index. The tests were performed using structural and time-series regressions specifying the first difference of the daily open interest as an endogenous variable. The effects of both innovations, measured by dummy variables, were positive and significant. Market impact costs (part of the ex ante transaction costs) and spot price volatility (measured by the conditional variance in a GARCH model) were also significant, showing negative and positive effects, respectively.
futures markets; financial innovation; contract design; agribusiness
