futures expiry

[oriana]

Can anyone tell me if futures expire approximately at the cash price. For example, will the March Wall St future expire at roughly the price the Dow is at that time? Also as the expiry date approaches will the futures price begin to converge with the cash price?

Thanks.

 

[grantx]

Oriana,

Yes, future will converge with cash. The reason for this being a future, on an index for example, represents the value of the current underlying index (the "cash" or "spot") at some point in the "future".

The future value is the "cost-of-carry"(?) of the cash index.

From the future's value, the underlying (theoretical) cash index value can be determined by discounting the future's value.

For example,
Cash index = 6840, interest rate = 4%, future expiry = 51 days.

Future value = Cash index x exp(interest rate) x (days/365)
= 6840 x exp(0.04 x 0.14) = 6878.

Cash value = Future value / exp(interest rate) x (days/365)
= 6878 / exp(0.04 x 0.14) = 6840.

Assuming no change in the value of the cash index, with 17 days to expiry the future value will equal 6852, ie less than the future value with 51 days to expiry. Another way to look at this is to think in terms of time value (days to expiry), ie the greater the time value, the greater the value of the future.

Assume the cash index at expiry has fallen to 6800. The future value is:

6800 x exp(0.04) x (0/365) = 6800, ie it has converged with the cash index.

Theoretically, if either cash and future diverge significantly from their theoretical values an arbitrage opportunity (risk-free trade) is available.

For example, if our future value is at 6903 (25 points above its theoretical value) then one would sell the over-priced future at 6903 and buy the constituents of the cash index for 6840. At expiry, assuming cash at 6800 we will have:

sell underlying constituents at 6800 = -40 (notice we have a loss here but it doesn’t matter)
buy future at 6800 = 103 ( we sold at 6903 and bought back at a lower price)
net = 103 – 40 = 63.

Someone said (one of the posters to T2W, Dashing Blade?) to the effect that all financial markets can be reduced to present, discounted and future (or forward) values. That’s pretty much it.

Grant.

 

[prince-in-jail]

In theory, with futures you have the obligation to accept or deliver the underlying instrument upon expiry. What is it exactly in an index future? What is it being converted to if I let my futures contracts expire?

 

[A Dashing Blade]

FTSE Index is (say) 5770 at expiry, the future is gonna expire at 5770 (give or take a point), if you're long a future then you will get 5770 x £10 credited o your account ('cos the FTSE trades at £10 per point). If your short then £57,700 will be debited from your account

For the DAX, it''l be closing value x EUR25 credited/debited etc

This (the cash element conversion) is true only for Index futures iirc, as it's impractical to deposit a basket of shares matching the FTSE. If you were holding a bond future, you'd recieve a load of bonds, oil futures you'd have to find a spare oil tanker etc.

 

[Rhody Trader]

This (the cash element conversion) is true only for Index futures ...

Actually, it's not just the index instruments. There are a few examples, such as Eurodollars, which are cash delivery, so to speak.

 

[A Dashing Blade]

hence my "iirc" caveat RT!

Gotta feeling some agriculturals are cash settled these days as well.

Anyone remember the (possibly) apocraphyl story from the late 80's when Morgan Grenfell forgot to close out position in potato(?) futures for a client and had to take physical delivery?

 

[grantx]

DB,

Re your figures, haven't you left out the opening price in determining profit or loss? Eg, open at 5700, close at 5770, profit (loss) = 70 points x £10 = £700 (-£700) per contract.

Grant.

 

[Rhody Trader]

hence my "iirc" caveat RT!

Hah, hah! I get it now. When I responded I had absolutely no clue what that was.

 

[A Dashing Blade]

DB,

Re your figures, haven't you left out the opening price in determining profit or loss? Eg, open at 5700, close at 5770, profit (loss) = 70 points x £10 = £700 (-£700) per contract.

Grant.

Hmmmm, certainly that's how it works for normal trading. However, at expiry of a future you take delivery of the underlying, which in this case is cash . . . tbh don't know of the top of my head but will find out . . .

 

[new_trader]

DB,

Re your figures, haven't you left out the opening price in determining profit or loss? Eg, open at 5700, close at 5770, profit (loss) = 70 points x £10 = £700 (-£700) per contract.

Grant.

Yes. This is absolutely correct.

 

[grantx]

DB,

Don't worry. If I had a fraction of your knowledge I'd be happy.


Good Trading, mate.

Grant

 

[TahirKhan]

Futures expiry

Can anyone tell me if futures expire approximately at the cash price. For example, will the March Wall St future expire at roughly the price the Dow is at that time? Also as the expiry date approaches will the futures price begin to converge with the cash price?

Thanks.

The value of futures and cash by definition has to be same at the time of expiry. Till that time, the futures can be on a premium or discount depending upon the prevalent trend and market "Mood".

Tahir

 

[Rhody Trader]

The value of futures and cash by definition has to be same at the time of expiry. Till that time, the futures can be on a premium or discount depending upon the prevalent trend and market "Mood".

The futures will either be at a discount or at a premium to the cash depending on the dynamics (carry) of the market in question. They will not flip around from discount to premium and back again based on trends, moods, or anything else. The discount/premium is a structural part of the pricing which is enforced by arbitrage.

 

[A Dashing Blade]

The discount/premium is a structural part of the pricing which is enforced by arbitrage.

But there's what's known as the "arbitrage channel"

ie and for an equity index future, the underling constituants of the index ie a basket of equities have a bid ask spread, as mid prices are used to calc the index itself . . .

 

[Rhody Trader]

Sure, but that doesn't change the fact that index futures will trade at a premium.

 

[TahirKhan]

Fuures

Sure, but that doesn't change the fact that index futures will trade at a premium.

The Index Futures does not always trade at a premium.

Tahir

 

[A Dashing Blade]

To clarify . . . the fair value of an index future will be less than the index itself if the forecast dividend stream is less than the holding cost ie interest obtained by putting an equivilant amount of cash on deposit until maturity.

eg
1) Index now = 1000

2) say you are gonna get 10 points worth of dividends (if you held a basket of equity in exactly the same proportions as the index) between now and futures maturity

3) BUT you wouldn't get the interest on the 1000 which you could have kept on deposit instead of buying the stocks (say this interest is worth 20 points between now and futures maturity)

4) therefore "Fair Value" of the future = 1000 + 10 - 20 = 990

There is a bit of fine tuning involved as, I guess, strictly speaking you should net present value all expected cash flows but you get the general idea.

 

[TahirKhan]

To clarify . . . the fair value of an index future will be less than the index itself if the forecast dividend stream is less than the holding cost ie interest obtained by putting an equivilant amount of cash on deposit until maturity.

eg
1) Index now = 1000

2) say you are gonna get 10 points worth of dividends (if you held a basket of equity in exactly the same proportions as the index) between now and futures maturity

3) BUT you wouldn't get the interest on the 1000 which you could have kept on deposit instead of buying the stocks (say this interest is worth 20 points between now and futures maturity)

4) therefore "Fair Value" of the future = 1000 + 10 - 20 = 990

There is a bit of fine tuning involved as, I guess, strictly speaking you should net present value all expected cash flows but you get the general idea.

Well explained.

What would you say should be a "Reasonable" rate of return on investments deployed in Trading Index Futures only.

Do you use Gann and Fibonacci ?

Tahir

 

[A Dashing Blade]

What would you say should be a "Reasonable" rate of return on investments deployed in Trading Index Futures only.

Do you use Gann and Fibonacci ?

My personal opinion (and it's only an opinion) is that you should be able to average a net three points per day per contract scalping Stoxx with a margin of EUR 2500 per contract (I would advocate stopping for the day after this target has been reached).

However, I reckon it takes peeps around 2 years of full time-trading to get to that point.

I have a low opinion of Fibonacci's and an even lower opinion of Gann but that's only because I've never been able to get them to work for me.

 

[apples10]

sorry, but you've got it the wrong way round.

If the dividend stream is MORE than the cost of carry then fair value will be below spot and the Future will trade at a discount.

Future fair value = Spot + cost of carry - dividend until expiry.

Around this fair value the Future will trade, but it can be at a discount to fair value.

For today using the cash, as now, at 5961 and using interest rate of 5.56% and dividends of 53.18 points until March 21st, the FTSE March Future has a fair value of negative 26.72, so should be trading at 5934.28, it's actually at 5938, so a slight premium to fair value.

Hope that helps . ..

To clarify . . . the fair value of an index future will be less than the index itself if the forecast dividend stream is less than the holding cost ie interest obtained by putting an equivilant amount of cash on deposit until maturity.

eg
1) Index now = 1000

2) say you are gonna get 10 points worth of dividends (if you held a basket of equity in exactly the same proportions as the index) between now and futures maturity

3) BUT you wouldn't get the interest on the 1000 which you could have kept on deposit instead of buying the stocks (say this interest is worth 20 points between now and futures maturity)

4) therefore "Fair Value" of the future = 1000 + 10 - 20 = 990

There is a bit of fine tuning involved as, I guess, strictly speaking you should net present value all expected cash flows but you get the general idea.