Spot - Futures Arbitrage?

Hi all. This is my first post. It's somewhat long, but I don't know how to break it down on smaller posts, so please be patient... -

I've been doing a lot of reading about potential arbitrage opportunities and came across this:

EUR/USD spot price: 1.3265 (Any Forex Broker)

EUR/USD futures price: 1.3235 (CMEGROUP) (to settle on March 2009)

There's a price difference of 30 pips.

Supposedly, both prices converge at the time of settlement of the futures contract. So if I short the EUR/USD with any broker, and long the EUR/USD futures contract on CMEGROUP, when the prices converge at the time of settlement, I'll be netting the difference of 30 pips for a profit. Discounting for the broker spreads that would be about 25 pips.

One of the "problems" I see are rollover rates. Assuming I start the trade today and leave the positions opened till March, I guess I'll have to pay rollover rates on one of the positions. But at the end of the term, rollover costs and earnings should cancel each other out because I have two opposite positions on the same currency. Right?

Also, besides the rollover rates, another problem I see is margin calls. Say the spot price moves to 1.3275. That's a 10 pip loss on the short position. Assuming the spread between the spot and futures contract remains about the same, the futures price should move up 10 pips to 1.3245, which will make me a 10 pip profit, offsetting the loss on the short position. BUT, since the positions are running on different accounts, if the market moves unfavorably (we're talking 3 months of wild swings), one of the positions may require additional fundings from my own pocket (which should be recovered from the earnings of the other position)

Even with these setbacks, this seems almost too good to be true in my opinion. Overall that's a return of about 10% on 3 months ($1000 deposit per each account with 100:1 leverage basically means putting in $2000 for a profit of $200). 3% return monthly is actually pretty good. This could turn you $12,000 into $500,000 in just 10 years. Which is not that bad in my opinion...

What am I missing? There's got to be something I'm overlooking here...

Has anybody here ever considered or is actually performing this type of trading? What's the hidden catch I'm overlooking?

problems included busted trades (from both brokers and CME) and execution risk.

I wouldn't recommend furthering your research into this area.

The futures price already discounts the rollover rates hence you would get nothing in terms of a rollover from the futures position whilst you'd be paying a rollover fee on your spot position. Bear in mind that even if you are short EUR/USD you will be CHARGED a rollover cost since interest rates are lower in the US than they are in Euroland.

The chances are that your spot broker will charge a slightly higher rate of interest on your rollover than is factored into your March Future so your 30 point apparent profit will evaporate before the March expiry leaving you will a loss.

Steve.

dumbmofo said:

What am I missing? There's got to be something I'm overlooking here...

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Definitely the right attitude - if you think you've found an obvious arb opportunity, you should be wondering why no-one else has taken it. In this case, I suspect stevespray is correct and rollover costs will reduce your profits, possibly making you take a loss. Absolutely necessary to calculate how much rollover would cost before taking this trade.

thanks for the feedback guys...

Yeh, I did he spread and lost money. The futures are almost perfectly spread for a reason. INTEREST If you sell then you are usually paying interest. One spread to consider with fX is to sell the EFT for the currency and buy the spot. Ex: sell fxa (etf for Aud) and buy the Aud. They offset, never expire, and you get interest on both. Aud is currently around 3-4 % and your sell balance pays interest with some brokers. So, you sell 100k of FXA and buy 100k of AUD. I have not traded it, but could be a big arb, especially when you get leverage from your broker. I am in the USA, so that is where I am making the advice.

davidsk5 said:

One spread to consider with fX is to sell the EFT for the currency and buy the spot. Ex: sell fxa (etf for Aud) and buy the Aud. They offset, never expire, and you get interest on both. Aud is currently around 3-4 % and your sell balance pays interest with some brokers. So, you sell 100k of FXA and buy 100k of AUD. I have not traded it, but could be a big arb, especially when you get leverage from your broker. I am in the USA, so that is where I am making the advice.

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I presume you're talking about buying the ETF and shorting AUD/USD. If so, you're not receiving on both sides. You're actually paying on the short.

Reverse that: With Interactive Brokers, they will pay you interest on short balances because it shows as a positive cash balance. It has to be over 100k. Yes, you are buying the AUD-sell US. You short the stock as long as there is not a shortage in the market where you will get penalized. YES it is an ETF sym: FXA Now, the additional arbitrage is what you pay for the trade. To sell 100k does not cost 100K. (I may be wrong, but pretty sure) To buy 100k of AUD only cost you about 2%. So, if done correctly, you are getting a real world much higher interest rate. AGAIN, I have never traded this because I am just getting into arbitrage. But, in theory, you NEVER are forced to close the trade and it can profit as long as the AUD-US is paying interest. It's an ugly world out there. I am strongly feeling that arbitrage is the next wave of producing real success in this declining economy.

davidsk5 said:

Reverse that: With Interactive Brokers, they will pay you interest on short balances because it shows as a positive cash balance. It has to be over 100k. Yes, you are buying the AUD-sell US. You short the stock as long as there is not a shortage in the market where you will get penalized. YES it is an ETF sym: FXA Now, the additional arbitrage is what you pay for the trade. To sell 100k does not cost 100K. (I may be wrong, but pretty sure) To buy 100k of AUD only cost you about 2%. So, if done correctly, you are getting a real world much higher interest rate. AGAIN, I have never traded this because I am just getting into arbitrage. But, in theory, you NEVER are forced to close the trade and it can profit as long as the AUD-US is paying interest. It's an ugly world out there. I am strongly feeling that arbitrage is the next wave of producing real success in this declining economy.

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So you're long AUD/USD in the spot market, which means you receive the net difference between the AUD rate and the USD rate (borrowing USD, depositing AUD). Then you are short the FXA, thinking that there's no cost involved? When you short you are required to pay both the cost of borrowing the ETF shares (and potentially margin interest) and any dividends paid by the ETF.

Here are a few comments on this arbitrage:

-Is it possible to short an ETF ?

-Although the ETF doesn't pay dividends, it is getting the carry (AUD rate - USD rate) and capitalize it (i.e. it is a capitalization fund as opposed to distribution fund). Therefore the Net Value of the ETF should outperform the AUD/USD.

My conclusion is that you can't make money this way.

FXA/ AUD FX and AUD futures

davidsk5 said:

Reverse that: With Interactive Brokers, they will pay you interest on short balances because it shows as a positive cash balance.

As on today feb 2015
I tried to do this within IB
Go short AUDUSD cash > 0.7815 ( USE 1:30 Leverage)
Go Long AUD-USD MArch 2015 Futures contract > 0.7802

Problem is although you will generate the spread as income on expiry
You will end up paying similar amount on your short AUD.usd FX margin trade

If you use FXA instead of teh FX maargin trade what about short fees? and the $ from short ( in USD) won;t earn any interest ( as of feb 2015)
+ will have to pay dividend on the FXA short

Also with a ETF like FXA tracking error + management fees!

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