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TWENTY-FIVE
FUTURES
FUTURES CONTRACTS
WHAT ARE FUTURES?
Definition: an agreement between two
investors under which the seller promises to
deliver a specific asset on a specific future date
to the buyer for a predetermined price to be
paid on the delivery date
FUTURES CONTRACTS
ASSETS INVOLVED IN FUTURES
TRADING
Procedures
imposes initial and daily maintenance margins
marks to market daily
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BASIS
WHAT IS THE BASIS?
DEFINITION: basis is the current spot price
minus the current futures contract price
Current spot price is the price of the asset for
immediate delivery
the current futures contract price is the purchase
price of the contract in the market
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BASIS
SPECULATING ON THE BASIS
Basis risk
the risk that the basis will narrow or widen
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Pf = Ps
where Pf is the current purchase price of the futures
Ps is the expected future spot price at delivery
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Pf < Ps
this relationship known as normal backwardation
which implies
f can be expected to rise during the
life of the futures contract
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Pf > P s
this implies that
PS
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Pf = Ps + I
where
Pf =
futures contract price
Ps =
current spot asset price
I =
the dollar amount of interest
corresponding to the period
of time from present to delivery date
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Pf = Ps + I - B
where B is the benefit
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Pf = Ps + I - B + C
where C is the cost of owning
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