Mr. FULMER. Are you in favor of southern delivery, Mr. Clayton? Mr. CLAYTON. Yes, sir.

Mr. FULMER. We had Mr. Hubbard, of New York, here before the committee and he is against southern delivery.

Mr. CLAYTON. Yes, Mr. Hubbard is against it.

Mr. FULMER. What do you think about cutting out New York as a spot-delivery market, in as much as it is not really a spot market? Mr. CLAYTON. You do not have to cut it out as a spot market; because the Department of Agriculture, under the Smith-Lever Act, have never recognized it as a spot market; they have never designated New York as a spot market under the terms of the Smith-Lever Act; so it is not that to-day and has not been since the Smith-Lever law was adopted.

Mr. FULMER. Would it not have this effect if you were to cut it out as a spot-delivery market, that there would not be any inclination on your part or on the part of anybody else to ship quantities of cotton up there simply for the purpose of tendering which always bears the market instead of bulling the market?

Mr. CLAYTON. If deliveries on New York contract were permitted in designated southern markets under the Smith-Lever law, no cotton would go to New York; practically none at all.

Mr. FULMER. Are you familiar with sections 10 and 5 of the SmithLever Act?

Mr. CLAYTON. I think you have reference to the section which provides for trading in even running grades, do you not?

Mr. FULMER. There is one section, I think it is section 10, that would give the buyer the right to have something to say as to the kind of cotton that would be written into the contract and, under section 5, I believe it is, it gives the seller the sole right of delivering any one grade of the 10, and the seller refuses to operate under section 10 but always under section 5.

Mr. CLAYTON. That is correct.

Mr. FULMER. Therefore, inasmuch as the buyers have not anything to do with the grade of cotton that you as a seller can deliver, they never take any cotton.

Mr. CLAYTON. Well, sir; if the futures contract should provide for an even running grade of cotton there would be very little trading in cotton futures, for the reason that if it comes to a transaction where a buyer wants to take delivery of the cotton and get a certain kind of cotton, you can always buy it cheaper from the spot-cotton merchant than you could buy it on the exchange. Even with delivery in the South-New Orleans, Houston, and Glaveston-on futures contracts, there is an economic waste, a loss of about a dollar a bale in the making of the delivery, which is accounted for by the cost of having the cotton certificated and the machinery that has to be set up to control the certification and the passage of the cotton through the futures contract from seller to buyer. That machinery costs about a dollar a bale. The commodity, of course, has to absorb that.

Mr. FULMER. They have this machinery in all of these larger markets, do they not or the machinery would be established if desig-nated as delivery markets.

Mr. CLAYTON. No, sir; they only have it at Houston, Galveston, and New Orleans. They are delivery points on the New Orleans

contract and Houston and Galveston are delivery points on the Chicago contract. They have machinery there; but if you make use of it, it costs you about a dollar a bale. Now, anyone who wants to but a thousand bales of middling cotton can buy that thousand bales of middling cotton from some spot merchant who has the machinery and means to class it, to make delivery and so on-he can buy it cheaper than he could buy it under the futures contract if the futures contract specified even running middling cotton. So that if you had a contract that called for one grade of cotton, you would have the trading in it, in the first place, enormously restricted and narrowed because of the fear of the seller, if he should make a contract far ahead for the delivery of specific grades, that at that time he might not be able to find that grade of cotton.

Mr. FULMER. What would you say about a contract along this line: For instance, you have 10 grades. We will take strict middling and above, four grades in one group; then the next three grades below strict middling and the next three grades below that, and have your contract so written that out of that middle grade the buyer would get at least one-third and the balance out of these other grades?

Mr. CLAYTON. I think that would greatly restrict your trading; I think, sir, what we want in cotton futures trading is to have a very broad futures market.

Mr. FULMER. I think that would restrict a lot of speculative trading to permit the mills to buy exactly what they want, and they would take cotton when it is tendered; but, as you remarked a while ago, under section 5, inasmuch as the seller has the right to tender only one grade out of ten and as they now do, the grade that a mill can not use thereby forcing the mill to run away from delivery on the contract. I do not know of anybody else doing business that would go out and want to buy and yet could not get what he really wanted, but would have to take what you offered him; yet that is the case under the Smith-Lever Act, under section 5.

Mr. CLAYTON. In studying that question, I think we have to go first to the fundamentals and the elementary part of the thing and study just what the futures contract is and why it exists, before we can diagnose the troubles. Now my contention, and I think the contention of all students of cotton futures trading, is that it is a merchandising contract and must be a merchandising contract and not a purchasers contract, not a mill contract, in the sense that you must have the markets in cotton or any other commodity free and unrestricted and competitive. The theory is-and I think the theory is correct that the competition between the merchants will strike a price which is right for that particular commodity.

Mr. FULMER. In that contract, why not give the man who wants to buy an equal right with the man who w ll sell to the buyer?

Mr. CLAYTON. You take the cotton merchant. Any cotton merchant is perfectly willing to take any one of those grades of cotton. If I am correct in my theory of cotton futures trading, if the futures contract is a merchants contract and that it can not be anything else, then I say it is no substantial handicap to the buyer to know he is only going to get one of ten grades; because as a merchant he can use one grade as well as the other, provided the relation between the grades at which the cotton comes to him is correct.

Mr. CLARKE. You say 1 of 10 grades: Now multiply that by four different colors and you have 40 grades.

Mr. CLAYTON. There are 19 grades with the colors, and let me point out to you that we cotton merchants, in buying spot cotton, without any relation to futures at all, do just that thing we buy in the South, when we go out in the fall, during September, October, and November to buy spot cotton-we buy on the basis that we do not know what the seller is going to give us. And it makes no difference, because the difference between these grades is fixed on the basis of the proper values between them, and we are merchants, we are not spinners.

Mr. FULMER. In other words it makes no difference what they give you?

Mr. CLAYTON. It makes not the least bit of difference what they give us. I believe 80 per cent of the spot cotton business in this particular is done exactly like the futures trading is done. The buyer does not know what he is going to get and does not care; because he has the difference fixed on a proper relationship, so that the seller can give him any kind of cotton. Now, the difference between the buyer and seller in the futures contract, also, is a very great difference; the buyer is only to provide the money to pay for the cotton when it is delivered to him; he has it there; he gets his invoice, he issues his check, and he has his cotton. The seller, on the contrary, has to get the commodity and put it in the place where he has agreed to deliver it; it has to be within the proper range of grades; it has to have the Government certificate on it saying it is correct as to quality; it has to have the cotton exchange certificate saying the weight is correct; the bagging has to be right; the bales have to be in a merchantable condition, and everything has to be right. That is the sellers' obligation; his obligation is greater than the buyers. If you put on an obligation in addition to that of having to give one particular grade, you will practically destroy futures trading; because here it is the 16th day of April and we are now trading in October contracts, 1928, and we do not know what grades are going to be raised.

Mr. FULMER. You mean that would practically destroy the speculative end of it?

Mr. CLAYTON. No, sir, it would destroy the legitimate end of it, for this reason: If a man is buying his cotton in the South in September and October

Mr. FULMER. You mean the merchant or the mill?

Mr. CLAYTON. The merchant-is buying spot cotton in September and October, he must buy all kinds of grades, every sort of grade that comes to him. He can not say "I will only buy strict middling"; he is a merchant, so he takes all kinds. Now, suppose his hedge against that is the sale of March futures and, against every hundred bales of cotton he buys he sells 100 bales of March futures. He has bought one thing and sold an entirely different thing; so when he gets up to March he may find himself in the position a merchant might be in who has bought peanuts and sold potatoes.

Mr. FULMER. But under the present system he does not have to worry, because he is not called upon to deliver.

Mr. CLAYTON. The buyer of that contract has a perfect right to ask for delivery, and if he stands on the contract and waits until the end of the month

Mr. FULMER. There is the trouble; when he calls for delivery the seller will tender him some one grade that he can not use at all and he has not any redress now under section 5.

Mr. CLAYTON. Oh, the buyer of that contract has his difference fixed?

Mr. FULMER. I am talking about the mill. The speculator is the fellow who uses section 5, and he cuts out the man who actually wants the cotton and he can not do business on the exchange except as a hedge.

Mr. CLAYTON. I think you have to look at the whole situation in a very broad and comprehensive way. Admitting, as I said a moment ago, that the mill does not buy a futures contract to receive cotton, and if they could get the identical grade they wanted, namely, strict middling, they would not buy it because they would not find a seller who would sell it to them as cheap as they could find a seller of a contract of the spot transaction to the mill of the particular grade it wants to buy.

Mr. FULMER. Would not that be in the interest of the purchaser right there, and that is the trouble right now?

Mr. CLAYTON. What?

Mr. FULMER. Because he would not sell to him at a price-would he not put the price too high?

Mr. CLAYTON. No, sir; there is no doubt the price of that contract would perhaps be higher; but if you did not have any trading in it, if it did not represent a real movement of cotton in commerce from one man to another, it is only a sort of fictitious thing and he can not tender the grades of spot cotton that are for sale, it might make the strict middling price stand up pretty high; but if it did not affect or permit a corresponding advance in price of middling, strict low middling, and all these other grades the farmer had, while it would not affect his price

Mr. FULMER. You find the mills do not want just one grade, but they want to mix three or four grades, and if they had a contract whereby they could get the various grades under the regulations of the Government and the cotton was properly graded, all you would have to do is to call on the seller and you would find the mills buying through the exchanges, and the seller who had to deliver would be a little shy on selling when he understood he had to deliver millions of bales which depressed the market. But now he does not have to deliver.

Mr. ANDRESEN. It would not be possible for the producer to sell, as a matter of fact, because he would not know what kind of grade he was going to produce.

Mr. FULMER. They do not deal on the exchange at all.

Mr. ANDRESEN. Even though he was going to merchandise it, he would not be able to sell a particular grade until after it was harvested.

Mr. FULMER. No; he would not.

Mr. CLAYTON. As I said a moment ago, I think you have to analyze the fundamentals and the elementary part of the thing to see just what this futures contract is and what you should do, and

I am sure that it is and that it ought to be and that it must be a merchant's contract. Now, as regards the mills, if you say there is competition between cotton merchants, the mill man is taken care of through the operations of the merchants. The merchant comes in there and gets 10,000 bales of all sorts of grades; now whatever grade the mill wants the merchant will deliver.

Mr. FULMER. He can get what he wants from that merchant out of the merchant's stock, and if you had the proper contract could not he do it through the exchange, for instance, under section 10? Mr. CLAYTON. If he could find anybody to sell it to him.

Mr. FULMER. That would keep down so many sales on the con

tract

Mr. CLAYTON. No, sir.

Mr. FULMER. Because then, as a matter of fact, you could not just sit by an offer just one grade, the very grade the buyer could not use. Mr. CLAYTON. You would cut down the purchasers on the exchange; yes.

Mr. FULMER. No; you mean speculative sales; the mills will have to buy; there is always a demand for cotton.

Mr. CLAYTON. They will buy from the merchant; they would not buy on the exchange. Now, you want the exchange to operate in a logical, sound, scientific way to assist in the movement of this crop. Let me show you how you would tie it up absolutely. Take the 1926-27 crop, when we made 18,000,000 bales of cotton. The South was in a panic; there is no other word quite describes it. The farmers just picked that cotton, had it ginned, and rushed it onto the market as soon as they could. I thought that was a year when the cooperatives would certainly come in to their own and perform the greatest service they would ever have an opportunity to perform for their members; but, instead, they did a much smaller percentage of business that year than they did in the previous year. Why? Cotton was down to 12 cents a pound and the farmers could not afford to take 9 cents, which the cooperatives offered to lend him, because their financial necessities and needs were so great that they had to sell it at 12 cents a pound, in order to get $60 a bale, ready cash, instead of $45. So that we had no holding on the part of the farmers; they just evacuated the situation, liquidated and sold. That is what they did. Now, we had at one time in that fall 15,000,000 bales of American cotton which had not reached the spindles. There was your surplus in about November or December, 1926. Somebody had to carry that cotton. We cotton merchants could not afford to borrow all the money the banks would let us have and buy without having some hedge against it; the banks would not have let us have the money even if we had wanted to do it. The average merchant does not speculate; he does an absolutely sound business. Therefore, what we did was to go into the market and buy all the cotton we could on the futures contracts, where the futures contract was on a parity which we could sell and did.

Mr. FULMER. Based on the near month?

Mr. CLAYTON. Based on the near month, because that was the month in which we had to make delivery.

Mr. FULMER. Then you turned right around and sold the distant months as a hedge on the spot cotton that you had bought?