chapter8 - Chapter 8 1 CHAPTER 8 Interest Rate Futures...

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Unformatted text preview: Chapter 8 1 CHAPTER 8 Interest Rate Futures Refinements In this chapter, we extend the discussion of interest rates futures. This chapter is organized into the following sections: 1. The T-Bond Futures Contract 2. Sellers Options for T-Bond Futures 3. Interest Rate Futures Market Efficiency 4. Hedging with T-Bond Futures Chapter 8 2 T-Bond Futures Contract In this section, the discussion of T-bond futures is extended by analyzing the cheapest-to-deliver bond. Recall that a number of candidate bonds can be delivered against a T-bond future contract. Recall further that short traders choose when to deliver and which combination of bonds to deliver. Some bonds are cheaper to obtain than others. In this section, we learn techniques to identify the cheapest-to- deliver bond, including: 1. Cheapest-to-deliver bond with no intervening coupons. 2. Cheapest-to-deliver bond with intervening coupons. 3. Cheapest-to-deliver and the implied repo rate. Chapter 8 3 Cheapest-to-Deliver with No Intervening Coupons Assume today, September 14, 2004, a trader observes that the SEP 04 T-bond futures settlement price is 107-16 and thus decides to deliver immediately. That is, the trader selects today, September 14, as her Position Day. Therefore, she will have to deliver on September 16. The short is considering the following bonds with $100,000 face value each for delivery. The short wishes to determine if delivering one or the other bond will produce a larger profit for her. How much should the short receive? Which bond should the short deliver? Maturity Coupon Price SEP 04 CF Days May-Nov Days May-Set November 15, 2028 5.25 93-15 0.9052 184 122 November 15, 2021 8.00 127-13 1.2113 184 122 To answer these two questions, we need to determine the invoice amount and then which bond is cheapest-to- deliver. Chapter 8 4 Cheapest-to-Deliver with No Intervening Coupons Recall that the total price of a bond depends upon the quoted price plus the accrued interest (AI). AI CF DSP + = ) )( 000 , 100 ($ Amount Invoice Where: DSP = decimal settlement price the decimal equivalent of the quoted price CF = conversion factor the conversion factor as provided by the CBOT AI = accrued interest the Interest that has accrued since the last coupon payment on the bond P i = cash market price Chapter 8 5 Cheapest-to-Deliver with No Intervening Coupons The accrued interest ( AI ) is computed as follows: ( 29 ( 29 FaceValue Rate Coupon year per Coupons # 1 Years Half in Days Coupon Last Since Days = AI Table 8.1 Days in Half B Years Days in Half B Year Interest Period Interest Paid on 1st or 15th Interest Paid on Last Day Regular Year Leap Year Regular Year Leap Year January to July 181 182 181 182 February to August 181 182 184 184 March to September 184 184 183 183 April to October 183 183 184 184 May to November 184 184 183 183 June to December 183 183 184 184 July to January 184 184 184 184 August to February 184 184 181...
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chapter8 - Chapter 8 1 CHAPTER 8 Interest Rate Futures...

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