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Hedging

From Tokyo with Love: Key Opportunities with Japan's Top Index1. Introduction The Nikkei 225 is Japan's premier stock market index and one of the most widely followed indexes in the world. As the representative of Japan's economy, the Nikkei 225 includes many of the country’s most influential companies across various industries, such as Toyota, Sony, and SoftBank. With Japan being the third-largest economy globally, traders who seek exposure to the Asian market find the Nikkei 225 to be a crucial addition to their portfolios. Now is an opportune time to study and potentially add the Nikkei 225 to your watchlist, as Micro contracts are set to launch later this year, offering greater accessibility to both institutional and retail traders. These micro contracts will allow traders to manage their positions with more precision, capital efficiency, and reduced exposure. With the futures contracts denominated in both US Dollars and Japanese Yen, traders can select their currency exposure based on market preferences. Contract Specifications: # Nikkei/USD Futures: Contract size: $5 USD per index point Tick size: 5 points = $25 USD per contract Margin: USD $12,000 per contract at the time of producing this article Trading hours: Almost 24-hour trading, covering Asian, European, and US sessions # Nikkei/YEN Futures: Contract size: ¥500 per index point Tick size: 5 points = ¥2,500 per contract Margin: JPY ¥1,200,000 per contract at the time of producing this article Trading hours: Mirrors the USD futures trading hours for global reach For traders looking for exposure to Japan’s economy, these contracts offer versatile trading opportunities with sufficient liquidity, price movement, and round-the-clock accessibility. You can access real-time data on these contracts through TradingView - view the data package at www.tradingview.com 2. Global Market Diversification The Nikkei 225 Index offers more than just exposure to the Japanese market; it’s a portal into Asia’s largest and most developed economy. With Japan being an export-driven economy, exposure to the Nikkei 225 allows traders to capitalize on trends in global manufacturing, technology, and industrials. Additionally, during periods of macroeconomic divergence—where the economic performance of regions like the US and Asia deviate—the Nikkei 225 can provide a non-correlated trading opportunity. 3. Correlation and Hedge Against US Equities While Japan is a developed economy like the United States, its market dynamics differ substantially. The Nikkei 225 often shows a lower correlation with US equity markets, meaning that the index tends to react differently to global and local economic events compared to indices like the S&P 500. This graph illustrates the rolling 30-day correlation between the Nikkei 225 and the S&P 500, highlighting the fluctuating relationship between the two indices and how they decouple at times, especially during periods of heightened market volatility. 4. Japanese Yen and US Dollar Denominated Contracts One of the unique aspects of the Nikkei futures is the ability to trade the index in either US Dollars or Japanese Yen. This flexibility allows traders to choose the contract that best suits their currency exposure preferences, providing a powerful tool for those who also wish to hedge or capitalize on currency movements. Nikkei/USD Futures: These contracts are settled in US dollars. Nikkei/YEN Futures: Conversely, for traders who want to factor in currency risk, the Yen-denominated futures offer exposure not just to the Nikkei 225’s price movements but also to the Yen's fluctuations against the US dollar or other currencies. As the introduction of Micro contracts approaches, this will add even more flexibility for traders, particularly retail traders who prefer smaller contract sizes and more precise risk management. These contracts will enable traders to adjust their positions with greater capital efficiency, allowing for a wider range of strategies—from short-term speculative trades to long-term hedging positions. 5. Monetary Policy Divergence Japan's monetary policy, led by the Bank of Japan (BoJ), has been historically distinct from the policies of the US Federal Reserve and European Central Bank (ECB). Understanding Japan's monetary policy divergence allows traders to better time their entry and exit points in the Nikkei 225, especially as the Bank of Japan navigates its unique approach to economic stimulus and potential shifts in strategy. 6. Sector Opportunities The Nikkei 225 is heavily weighted towards key sectors that represent the backbone of Japan’s economy, offering traders exposure to industries that may be underrepresented in other global indices. Some of the most prominent sectors within the Nikkei 225 include: Technology: Japan is a leader in technology and innovation, with major companies such as SoftBank and Sony leading the charge. Automotive: Japan’s automotive sector is world-renowned, with giants like Toyota, Honda and Nissan among the top constituents of the index. As global trends shift toward electric vehicles and sustainable manufacturing, Japan’s automotive industry stands to benefit. Manufacturing: As a global manufacturing powerhouse, Japan's output is closely tied to global demand. The Nikkei futures provide traders with a way to express their views on these industries, capitalizing on global demand trends in high-tech products, automobiles, and industrial manufacturing. 7. Volatility Trading One of the key attractions of the Nikkei 225 futures is the index's volatility, which is often higher than that of its Western counterparts, such as the S&P 500. Traders who thrive in volatile environments will find the Nikkei 225 particularly appealing, as it presents more frequent and larger price swings. This heightened volatility is especially noticeable during global economic shocks or shifts in local economic policy. Additionally, since Japan's market opens several hours before European and US markets, traders can use the Nikkei 225 to capture early momentum shifts that may influence sentiment in Western markets as they open. This graph highlights the elevated volatility of the Nikkei 225 compared to the S&P 500. 8. Japan’s Political and Economic Landscape Japan has been taking proactive steps toward economic reform in recent years. With initiatives aimed at corporate governance improvements, stimulus packages, and structural reforms. Several factors make Japan's political and economic landscape appealing for traders: Corporate governance reforms: Japan has been improving its corporate governance structure, making its market more attractive to both domestic and foreign investors. Economic stimulus packages: These government-led initiatives have provided a tailwind for many sectors within the Nikkei 225. Weakening Yen: Japan’s export-driven economy has benefited from a weaker Yen, which boosts the competitiveness of Japanese goods on the global stage. The potential for long-term growth makes the Nikkei 225 an appealing market for those who follow macro-driven opportunities. 9. Geopolitical Events and Trade Dynamics Japan remains one of the world’s largest exporters, and as such, the Nikkei 225 is heavily influenced by global trade relations, particularly with the US and China. Traders can use the Nikkei 225 to take positions based on their views of the global geopolitical landscape. For example: US-China trade tensions: Japan, being a major exporter to both countries, finds itself deeply connected to global trade trends. Global demand for Japanese exports: Changes in global trade agreements or tariff structures could either boost or harm the performance of these industries. 10. Liquidity Liquidity remains an important consideration, as the S&P 500 contracts offer greater liquidity, but the growing interest in the Nikkei 225 has resulted in increased volumes in recent months. As Micro contracts are introduced, the liquidity of the Nikkei 225 is likely to improve, making it an even more attractive trading instrument for all types of traders. This graph highlights the trading volumes for both Nikkei 225 and S&P 500 futures. 11. Cumulative Returns Comparison When comparing cumulative returns over time, the Nikkei 225 has demonstrated significant growth. However, this growth has come with a higher level of volatility than the S&P 500. The Nikkei 225's higher risk-reward profile makes it an attractive option for traders looking to capture short- to medium-term gains during periods of economic growth or policy shifts in Japan. This graph shows the cumulative returns of the Nikkei 225 versus the S&P 500. 12. Price Range Opportunities The average daily price range of the Nikkei 225 is another compelling factor for active traders. The Nikkei 225 frequently exhibits larger daily price movements than the S&P 500, especially during periods of high volatility. This makes it an ideal market for short-term traders looking to capitalize on intraday price swings. The graph, where daily price ranges have been multiplied by their corresponding point values, demonstrates how the Nikkei 225 has exhibited wider price ranges. 13. Conclusion The Nikkei futures offer a unique set of opportunities for traders looking to diversify their portfolios, capitalize on volatility, and gain exposure to Japan’s leading industries. It is a powerful tool for both short-term traders and those with longer-term macro views. In addition, the forthcoming Micro contracts will make the Nikkei 225 accessible to a wider range of traders, allowing for more precise risk management and exposure adjustments. Key takeaways for traders considering the Nikkei futures include: Global diversification beyond US and European markets. The ability to hedge against US equity volatility. Opportunities in high-growth sectors such as technology and automotive. The potential for higher volatility, offering both risk and reward. Flexible contract options in both USD and Yen, allowing for currency risk management. For traders looking to add a new dynamic instrument to their watchlist, the Nikkei/USD and the Nikkei/YEN futures are a potentially ideal candidate, combining diversification, volatility, and sectoral exposure into a powerful trading product. When charting futures, the data provided could be delayed. Traders working with the ticker symbols discussed in this idea may prefer to use CME Group real-time data plan on TradingView: www.tradingview.com - This consideration is particularly important for shorter-term traders, whereas it may be less critical for those focused on longer-term trading strategies. General Disclaimer: The trade ideas presented herein are solely for illustrative purposes forming a part of a case study intended to demonstrate key principles in risk management within the context of the specific market scenarios discussed. These ideas are not to be interpreted as investment recommendations or financial advice. They do not endorse or promote any specific trading strategies, financial products, or services. The information provided is based on data believed to be reliable; however, its accuracy or completeness cannot be guaranteed. Trading in financial markets involves risks, including the potential loss of principal. Each individual should conduct their own research and consult with professional financial advisors before making any investment decisions. The author or publisher of this content bears no responsibility for any actions taken based on the information provided or for any resultant financial or other losses.
CME:NIY1!
by traddictiv
2
BTCUSD Rejecting Downward Trend @ $57k - Watch What Happens NextThis is a followup video to my earlier BTCUSD analysis - suggesting BTCUSD would find support near $57 and rally (eventually) to over $90k. I found it interesting that I received a few comments on that last video - some in support and others thinking I was wrong. But, now, with BTCUSD clearly attempting to reject any further downward price action near the $57k level - we get to see how this plays out in REALTIME. Watch this video to learn why I believe the big move for BTCUSD won't happen till after August 15, 2024 (a +$6k move). Then, we'll have to wait till later in September for the major FLAG pattern to complete - leading to an even bigger upward price breakout. I love this type of analysis and I love sharing it with everyone. Watch my other videos if you want to learn more about what I do and how I help traders prepare for the biggest opportunities. Watch this play out in realtime with BTCUSD. If I'm right, we'll see $62k again before August 20th, then move into a broader FLAG formation before the next big breakout happens. Go get some.
BITSTAMP:BTCUSDLong
by BradMatheny
2
Options Blueprint Series: Backspreads as a Portfolio Hedge1. Introduction Backspreads are a versatile options strategy as they allow traders to benefit from significant moves in the underlying asset, particularly when there is an expectation of increased volatility. 2. Understanding Backspreads A backspread is an advanced options strategy involving the sale of a small number of options and the purchase of a larger number of out-of-the-money options. This setup creates a position that benefits from large price movements in the underlying asset. 3. Generic Uses of Backspreads Backspreads offer traders a flexible tool to capitalize on significant price movements and shifts in market volatility. Here are some common uses: Market Sentiment Alignment: Bullish Sentiment (Call Backspreads): Traders use call backspreads when they expect a significant upward move. This strategy involves selling a smaller number of lower-strike call options and buying a larger number of higher-strike call options. Bearish Sentiment (Put Backspreads): Conversely, put backspreads are used when traders anticipate a significant downward move. This involves selling a smaller number of higher-strike put options and buying a larger number of lower-strike put options. Volatility Trading: Backspreads are particularly useful in trading volatility. They create positions with positive Vega, meaning they benefit from increases in implied volatility. This makes backspreads an excellent choice during times of market uncertainty or expected volatility spikes. 4. Hedging an Equity Portfolio using with S&P 500 Futures Put Backspreads Put backspreads offer an effective way to hedge a long equity portfolio against sharp downward moves. By setting up a put backspread, traders can create a position that not only provides downside protection but also benefits from increased market volatility. Setting Up a Put Backspread for Hedging: Sell 1 OTM Put: The initial step involves selling one out-of-the-money (OTM) put option. This option will generate a premium, which can be used to offset the cost of the puts that will be purchased. Buy 2 Lower OTM Puts: Next, purchase two lower OTM put options. These options will provide the necessary downside protection. Depending on the strike selected, the cost of these puts will be fully or partially covered by the premium received from selling the higher-strike put. Constructing a Positive Vega Position: The structure of the put backspread results in a position with positive Vega. This characteristic is particularly valuable as volatility typically rises during periods of sharp declines. Risk Profile: Below is the risk profile of a put backspread used for hedging purposes as described in section #6 below. 5. Market Scenarios Understanding how a put backspread behaves under different market scenarios is crucial for effective trade management and risk mitigation. Here, we explore the potential outcomes: Market Moving Up or Staying the Same: Flat P&L If the market moves up or remains around the current level, the put backspread will likely expire worthless. Market Moving Down Sharply: Increased Profitability If the market experiences a sharp decline, the put backspread would potentially become profitable. Impact of Increased Volatility: Enhanced Gains A rise in implied volatility benefits the put backspread as higher volatility increases the value of the bought puts more than the sold put, adding to the overall profitability of the strategy. Maximum Risk and Trade Management: Maximum Risk: Limited to the difference between the strike prices minus the net credit received (or plus the net debit paid). Trade Management: It is essential to actively manage the position. 6. Trade Example To illustrate the application of a put backspread as a hedge, let's consider a detailed trade example using S&P 500 Futures Options. Trade Rationale: Current Market Condition: The S&P 500 Futures have just created a new all-time high, indicating that the market is at a crucial juncture. From this point, the market could either continue its upward trajectory or experience a severe change of direction. Implied Volatility (VIX): The VIX, which measures the implied volatility of options, is currently very low at 11.99. This low volatility environment makes it an ideal time to enter a backspread, as any future increase in volatility will significantly benefit the position. Trade Setup: Underlying Asset: S&P 500 Futures Current Price: 5447 Strategy: Put Backspread Expiration Date: December 2024 Specifics: Sell 1 OTM Put: Sell 1 4600 put option Buy 2 Lower OTM Puts: Buy 2 4100 put options Entry Price: Sell 1 4600 Put: Receive $2,160 premium per contract (43.2 points) Buy 2 4100 Puts: Pay $1,068.5 premium each; total $2,137 for two contracts (21.37 points x 2) Net Cost: The net cost of the backspread is the premium paid for the bought puts minus the premium received from the sold put. Net Cost: $2,137 (paid) - $2,160 (received) = $23 net credit As seen below, we are using the CME Group Options Calculator in order to generate fair value prices and Greeks for any options on futures contracts. Maximum Risk: 500 – 0.46 = 499.54 points (distance between strike prices minus the net credit received). 7. Importance of Risk Management Risk management is a fundamental aspect of successful trading and investing. It involves identifying, analyzing, and mitigating potential risks to protect capital and maximize returns. When implementing a put backspread as a portfolio hedge, understanding and applying robust risk management practices is crucial. Using Stop Loss Orders and Hedging Techniques: Stop Loss Orders: Placing stop loss orders helps limit potential losses by automatically closing a position when the market reaches a certain price level. This ensures that losses do not exceed a predetermined amount, providing a safety net against adverse market movements. Hedging Techniques: Utilizing hedging strategies, such as combining put backspreads with other options or futures contracts, can provide additional layers of protection. This approach can help manage risk more effectively by diversifying exposure and reducing the impact of unfavorable market conditions. Importance of Avoiding Undefined Risk Exposure: Defined Risk Strategies: Employing strategies with clearly defined risk parameters, such as put backspreads, ensures that potential losses are limited and known in advance. This contrasts with strategies that expose traders to unlimited risk, which can lead to catastrophic losses. Position Sizing: Properly sizing positions based on risk tolerance and account size is essential. This involves calculating the maximum potential loss and ensuring it aligns with the trader's risk management plan. Precise Entries and Exits: Entry Points: Entering trades at optimal levels, based on technical analysis, support and resistance and UFO levels, and market conditions, enhances the probability of success. In the case of put backspreads, entering when volatility is low and market conditions are favorable increases the potential for profitability. Exit Points: Setting clear exit points, including profit targets and stop loss levels, helps manage risk and lock in gains. Regularly reviewing and adjusting these levels based on market developments ensures that positions remain aligned with the trader's overall strategy. Continuous Monitoring and Adjustment: Regular Review: Continuously monitoring market conditions, position performance, and risk parameters is essential for effective risk management. This involves staying informed about economic events, market trends, and changes in volatility. Adjustments: Making timely adjustments to positions, such as rolling options, adjusting stop loss levels, or hedging with additional instruments, helps manage risk dynamically and adapt to changing market conditions. By incorporating these risk management practices, traders can effectively use put backspreads to hedge their portfolios and protect against significant market downturns. 8. Conclusion In summary, put backspreads offer a powerful tool for hedging long equity portfolios, especially in low volatility environments and/or when markets are at all-time highs. By understanding the mechanics of put backspreads, their application in various market scenarios, and the importance of active risk management, traders can enhance their ability to protect their investments and capitalize on market opportunities. When charting futures, the data provided could be delayed. Traders working with the ticker symbols discussed in this idea may prefer to use CME Group real-time data plan on TradingView: www.tradingview.com This consideration is particularly important for shorter-term traders, whereas it may be less critical for those focused on longer-term trading strategies. General Disclaimer: The trade ideas presented herein are solely for illustrative purposes forming a part of a case study intended to demonstrate key principles in risk management within the context of the specific market scenarios discussed. These ideas are not to be interpreted as investment recommendations or financial advice. They do not endorse or promote any specific trading strategies, financial products, or services. The information provided is based on data believed to be reliable; however, its accuracy or completeness cannot be guaranteed. Trading in financial markets involves risks, including the potential loss of principal. Each individual should conduct their own research and consult with professional financial advisors before making any investment decisions. The author or publisher of this content bears no responsibility for any actions taken based on the information provided or for any resultant financial or other losses.
CME_MINI:ES1!Education
by traddictiv
Options Blueprint Series: The Collar Strategy for Risk ReductionIntroduction to Nasdaq Futures Nasdaq Index Futures offer traders exposure to the Nasdaq-100 index, a benchmark for U.S. technology stocks, without directly investing in the index's component stocks. Trading on the Chicago Mercantile Exchange (CME), Nasdaq Futures provide a critical tool for managing market exposure on the future of technology and biotech sectors. Key Contract Specifications: Point Value: Each point of the index equates to $20 per contract. Margins: As determined by the CME, margins vary, reflecting the volatility and current market conditions. As of the time of this publication the CME website shows a maintenance margin of $17,700 per contract. Trading Hours: Nearly 24-hour trading capability, aligning with global market hours to provide continuous access for traders. It's important to note that similar strategies and benefits are available with Micro Nasdaq Futures , which are scaled down to a tenth of the standard Nasdaq Futures, making them accessible to a broader range of traders due to their lower margin requirements (Margin is 10 times less, point values are 10 times less, etc.) Basics of the Collar Strategy The Collar strategy is a risk management tool used by traders to protect against large losses in their investments while also capping potential gains. It is particularly useful in volatile markets or when significant price swings are expected but their direction is uncertain. Components of the Collar Strategy: Own the Asset: Typically involves owning the underlying asset, but in the case of futures, it involves holding a long position in the Nasdaq Futures contract. Buy a Protective Put: This put option gives the right to sell your futures contract at a predetermined strike price, serving as insurance against a significant drop in the market. Sell a Covered Call: This call option grants someone else the right to buy your futures contract at a set strike price, generating income that can offset the cost of the put option, but it limits the profit potential if the market rises sharply. This strategy forms a price collar around the current value of the futures contract, protecting against drastic movements in both directions. The use of this strategy in Nasdaq Futures trading can be especially effective given the index's exposure to high-growth, high-volatility sectors. Application to Nasdaq Futures Implementing the Collar strategy with Nasdaq Futures involves selecting the right put and call options to effectively hedge the position. Here's how you can set up this strategy: Choose the Underlying Contract: Decide whether to use standard E-mini Nasdaq-100 Futures or Micro mini Nasdaq-100 Futures based on your investment size and risk tolerance. Select the Put Option: Identify a put option with a strike price below the current market price of the Nasdaq Futures. This strike should represent the maximum loss you are willing to accept. The graphics of this article show UFO Support Price Levels below which accepting a larger loss could be seen as a form of hope. Using UFO Support Price Levels as a reference to select the Put strike could be an efficient manner to determine the desired risk. Choose the Call Option: Pick a call option with a strike price above the current market level, where you believe gains will be limited. The premium received from selling this call helps offset the cost of the put, reducing the overall expense of the setup. Selecting a call with its premium equal to the put price would allow for the Collar strategy to be cost-free (not risk-free). Risk Profile Visualization: A graphical representation of the risk profile will show a flat line of loss limited to the downside by the put and capped gains on the upper side by the call. This visualization helps traders understand the potential financial outcomes and their likelihood. Forward-Looking Trade Idea Considering the recent market dynamics, Nasdaq Futures have been experiencing a range-bound pattern after reaching all-time highs. With current geopolitical tensions such as the recent conflict between Iran and Israel, there's a potential for sudden market movements. Scenario Analysis: Continuation of Uptrend: If the market breaks above the range, selling the covered call may yield limited gains but will provide premium income. Significant Drop: If the market drops due to intensified conflicts, the protective put limits the potential loss, safeguarding the investment. That is knowing that if the market was to rebound after a significant drop, the strategy could end up as profitable as long such rebound would happen prior to the Options expiration date. Trade Setup: Entry Point: Current market price of Nasdaq Futures. Put Option: Select a put option below the current market price. The chart example uses the UFO Support Level located around 18,000. Premium paid for the 18,000 Put is estimated to be 511.79 points * $20 ($10,235.8). Call Option: Choose a call option above the current market price targeting the same level of premium as the premium paid for the put. The 18,300 Call is estimated to provide 522.65 points * $20 ($10,453). Expiration: Options with a 1-3 month expiration to balance cost and protection level. This trade example uses June Expiration which is 67 days away from expiration. As seen on the above screenshot, we are using the CME Options Calculator in order to generate fair value prices and Greeks for any options on futures contracts. This setup aims to utilize the Collar strategy to navigate through uncertain times with controlled risk, taking into account both the potential for continuation of the uptrend and a protective mechanism against a sharp decline. Risk Management Discussion Effective risk management is crucial when trading futures and options. The Collar strategy inherently incorporates risk management by design, but understanding and applying additional risk control measures is essential for successful trading. Key Risk Management Techniques: Limited Risk: By default, the Collar strategy is a limited risk strategy where the risk is calculated by looking at the current Nasdaq Futures price compared to the Put strike price and adding or subtracting the Collar execution price for a debit or credit respectively. Use of Stop-Loss Orders: Although the Collar strategy provides a natural hedge, setting stop-loss orders beyond the put option's strike can provide an extra safety net against gap risk and extraordinary market events. Regular Review and Adjustment: As market conditions change, the relevance of the chosen strike prices may alter. Regularly reviewing and adjusting the positions to ensure they still reflect your risk appetite and market outlook is advised. Diversification: While the Collar strategy protects an individual position, diversifying across different asset classes can further protect the portfolio from concentrated risks associated with any single market. Conclusion The Collar strategy offers Nasdaq Futures traders a structured way to manage risk while maintaining the potential for profit. By capping potential losses with a protective put and limiting gains with a covered call, traders can navigate uncertain markets with increased confidence. This strategy is particularly applicable in volatile markets or during periods of geopolitical tension, providing a buffer against significant fluctuations. When charting futures, the data provided could be delayed. Traders working with the ticker symbols discussed in this idea may prefer to use CME Group real-time data plan on TradingView: www.tradingview.com This consideration is particularly important for shorter-term traders, whereas it may be less critical for those focused on longer-term trading strategies. General Disclaimer: The trade ideas presented herein are solely for illustrative purposes forming a part of a case study intended to demonstrate key principles in risk management within the context of the specific market scenarios discussed. These ideas are not to be interpreted as investment recommendations or financial advice. They do not endorse or promote any specific trading strategies, financial products, or services. The information provided is based on data believed to be reliable; however, its accuracy or completeness cannot be guaranteed. Trading in financial markets involves risks, including the potential loss of principal. Each individual should conduct their own research and consult with professional financial advisors before making any investment decisions. The author or publisher of this content bears no responsibility for any actions taken based on the information provided or for any resultant financial or other losses.
CME_MINI:NQ1!Education
by traddictiv
UVXY crosses over mean anchored VWAP LONGUVXY which leverages the VIX as a measure of volatility / greed/ fear has finally crossed over the mean anchored VWAP. This is a sign of bullish momentum and perhaps a signal that traders should hedge or consider their positions in terms of hard risk management. Those who traded this move up today made 10% or better in the trade. Those who bought call options expiring tomorrow made 10X and those with call options for next Friday made 5X overnight. Tomorrow is another day. Likely the market will rise from the correction and UXVY will fade a bit. No matter, its value for insurance and hedging is reinforced on days like the past day. I am maintaining a full position aside the call options closed at the afternoon bell which expire on Friday and had time decay to contend with. My first target is 7.75 then comes 8.05 and 8.45. I will take off 20% at each target and keep the others for insurance for a true market crash or black swan event to buffer losses while stops get hit.
AMEX:UVXYLong
by AwesomeAvani
SPY- Open Put Options to Hedge Long Stocks SHORTSPY on the 15-minute chart seems to have hit a pivot high. With a variety of long positions, I need some insurance against a bull trap or even a black swan event in geopolitics. It seems SPY puts would fulfill the purpose. Out of the money below the current price seems opportunistic. Accordingly, I will take a handful of put options that expire at the mid- March monthly 1% below current price. If the market is healthy these will drop in value especially with time decay. They will serve as insurance. On the other hand if the market gets a cold or worse a bad case of COVID, these will partially offset any losses while managing positions.
AMEX:SPYShort
by AwesomeAvani
SOXL / SOXS , this ratio analysis shows when to trade eachSOXL is the triple leveraged semi-conductor ETF while SOXS is its inverse. While SOXL is primarily up trending in its intermediate and full-time history, it does from time to time have a correction mainly when the technology sector gets challenged. I have found that plotting the ratio of the share values is a very accurate way of pinpointing those corrections and temporarily buy some SOXS to offset the downward price action and nullifying any loss. This is more or less insurance in case the overall position must be closed for one reason or another or transient hedging. As can be seen, these corrections last 1-5 days . This strategy is effective risk management as during the correction the SOXS gains some of what SOXL loses especially if the share dollars are equally balanced. Ever better is the same thing on a 2-3 hour time frame albeit it with more hedging trades. I have found that this strategy works on a variety of inverse ETF pairs. Most of them however do not have one side going up more or less continuously and instead oscillate rather than simple and shallow corrections like this pair. Please give a like if you this this could be helpful to your trading.
AMEX:SOXLLong
by AwesomeAvani
TLT Long Treasury ETF- an options straddle idea TLT is here on a 15-minute chart. Price action is orderly and somewhat related to treasury yield fluctuations and the value of the existing securities adjusting from those fluctuations. There is adequate volatility. A straddle options strategy can be employed. Positions can be taken in both directions. Depending on price action, one leg will rise and the other will fall. Overall the trades make profit so long as there is volatility in one direction or the other. Additionally, if the instrument is oversold and upward price action is more likely, the proportions between the two legs can be skewed toward calls and vice-versa in overbought /overvalued scenarios. Here in TLT, price is near to support and so relatively oversold. The hypothetical setup is tipped in favor of the probabilities and expectations for a rise in TLT. Options can be OTM or ITM depending on trader preference. In this example the calls selected are OTM at the level of a Fibonacci retracement of the prior trend down and the puts selected are slight OTM at the horizontal support level and the trade is skewed 70/30 ( by AMEX:USD ) toward the calls. For a more astute explanation see the webpage from the link
NASDAQ:TLT
by AwesomeAvani
SIRI is pulled back for a LONG entryOn 1 120 minute chart, SIRI is now well positioned having tested the support of two sets of VWAP bands anchored back two earnings periods and so 3 months apart. The mean VWAPs are confluent and so form strong support. I expect the price to return to the early December high and test that level. In the past day a buying volume aberrant spike was printed. The MACD lines have been crisscrossing under the histogram signaling support of the cons9olidation of price with a series of Doji candles before the final engulfing green dandle. Of interest, the next expiration of the options is February 16th. On that date the dominant option strikes are %5.00 , %5.50 and $6.00 $5.00 is the present level for the strong support of the confluent mean VWAPs aforementioned It is in this range that I will join the options activity for the time being. I will take a few calls at each strike level as they are presently priced at $ 12- $ 32 per contract. I will also take 10-20 shares of stock in a short position to provide a little risk-off hedging.
NASDAQ:SIRILong
by AwesomeAvani
EURUSD - The Forex GambitOver the last few months, I have come up with a mathematical system to maintain control of the points that matter with different hedge techniques. Little Late getting the chart made and posted, and been away for a while deep in R&D. Now I trade from the end to the start with reverse engineering, and mathematical balance.... I'll demonstrate Current set up was structured to go short, and just continue the range but the end of the week had a clean break from the range. Additional positions have been put on at the top for price to come back to break even on position spread, just at the retest area for the range that we've been working in for the last month. Overall, looking at a long bias, very strong break out Friday clearing the old highs that breached the range before, and looking at the bottoms, there is a gradual build of Long side Pressure. The range is about 90 pips wide, so should the price work back into the area, I will have to monitor the E 1 point to see if it looks to hold, otherwise I'll wait for E2 to cut the sell hedge I'll have below the target for the shorts at S1. An equal Buy Stop order is in place, and it has 2 use cases, one now, one later. Should it get hit as is, no problem, still closing the sells around the key area around the breakout support and resistance, and will add in 0.04 lots at that level. Then Hold and trail with sell stop up past breakeven for an upwards push to the next level at the top of the path arrow. Should it not be hit, the sell hedge will continue down until it does get hit, sell targets still will not change, and the position will be holding a surplus, I'll make a decision thne to cut or hold. Should the target get reached, sells will all close, hedge will be removed, and 0.04 will be entered for long at the major level... Either way it wants to go, looking for a target/Long Side entry at around 1.062-1.063 on a basic retest entry and then look for the next level pat the high of the breakout for the target on this one, with additional add in on the way to compound in to a max size gradually. A sell hedge will be placed around 1.059, and wait for E 1 or 2 if things don't leave upwards on the demand zone created by the breakout level and just above in the small consolidation just before the big push. Experience tells me 1.062 will happen though, and E 1 could end up being a spring type move to fake short then turn, because the pattern shows a lot of upside strength over the month of October being built in all month. Currently holding .1 in total short, and only -$19 off the starting balance, with the hedge buy stop making the lockout around -$29 (First attempt being open ended to try and gain back some of the positional spreads). I almost want the hedge hit (and I would say 90% sure it will be in a liquidity run here soon) so I get my margin back to place at 1.062, but very minimal risk at the current time if I am not able to trail it down any still. Most Likely outcome is a bounce to return long from the lower 1.06 range, and the trade management will work towards that Idea, as this long term action typically does result in some sort of retest, let's see how much it comes back, but I do believe it will be doing that from the current level of 1.073, or close by as price does seem a little exhausted from the end of the week momentum. The main reason is just a simple market commonality of "Quick gains given are quickly taken back", then it goes where it was going again usually....
Long
by ForexStoryteller
New Year with GazpromGazprom is always a good hedging opportunity. We are looking forward to develop a strategy to hedge risks with this stock to invest in their peers and relatives for the balanced stock portfolio. Our favourite volatility indicators show quite harbour for the Gazprom Stock and ask for help about whether Gazprom will or will not be outrun Company to develop a good risk/opportunity profile to win the Santa-Claus Rally 2023. Wee see Gazprom Stock in the corridor of 189,7 Rubles as upper case and 150,6 as a lower cage. We wish you happy holidays and a good deed.
RUS:GAZP
by UnknownUnicorn462803
Myth-busting: top 6 misconceptions about commoditiesWisdomTree has long-standing expertise in commodities, and this asset class constitutes a core part of our business. We aim to debunk several myths that surround commodity investing1. Myth 1: Commodities are only a tactical instrument Some believe that commodities trade in a range and do not outperform over the long term. Furthermore, they think commodities only outperform in an ‘up’ phase of a commodity ‘super-cycle’. Physical commodities are the fundamental building blocks of our society. Therefore, it is no surprise that their price movements largely explain inflation and tend to at least match inflation over the long term. Furthermore, commodity investors most often invest in futures contracts, not physical commodities. Futures contracts have been designed as hedging tools to allow commodity producers and miners to hedge their production forward, making their businesses sustainable and allowing them to invest because they are insulated from the commodity prices’ short-term volatility. Producers are willing to pay for this hedge, just as they would pay for insurance. Therefore, investors who provide this hedge by buying futures contracts receive an insurance premium that allows them to beat inflation over the long term. This ‘insurance’ is a permanent feature of commodity futures and doesn’t fall away through economic cycles. Thus, commodity futures are suitable for consideration as a strategic investment, not just tactical investments. Commodities futures provide a positive risk premium, driven by their intrinsic link to inflation and embedded ‘insurance premium’. While upward phases of commodities’ super-cycle are historically advantageous for commodity investors, future-based broad commodity investments can deliver a risk premium in any part of a super-cycle. Myth 2: Losses are guaranteed when commodities are in contango Contango (negative roll yield) and backwardation (positive roll yield)2 are used to describe the state of the futures curve. It describes the relative position of the current spot price and the futures contract price. Drivers of roll yield include storage costs, financing costs, and convenience yield. Backwardation is often associated with demand strength when people are willing to pay more for immediate delivery than lock into a contract for later delivery at a cheaper price. Some believe that, because contango is the opposite state of backwardation, losses are guaranteed as a corollary. The fact that Keynes’ theory is called ‘normal backwardation’ has caused some terminology confusion. However, what is described by Keynes is that futures contracts are generally priced at a discount to the expected spot price at expiry. It has nothing to do with the current spot price. In other words, the curve can be in contango, and the future price can still be at a discount to the expected spot price at maturity, that is, be in normal backwardation as well. Using a numerical example, let’s say that WTI Crude Oil is worth $50 today. The market expects WTI Oil to trade at $55 in a month (expected spot price) because of storage and other costs. Keynes’ theory hypothesis is that the 1-month futures contract will be priced at a discount to $55, let’s say $54, to incentivise speculators to provide the hedge to producers. In this situation, the curve is in contango ($54>$50), and the expected risk premium is still positive at $1. So, a curve in contango and a positive risk premium can coexist. While the shape of the curve has an impact on the performance, it is not a good predictor of future performance. Myth 3: Commodities are riskier and more volatile than equities. There is a common perception that commodities are riskier than equities. Equities and commodities are similar asset classes statistically. Their historic returns and volatility are quite close. Historically, commodities have exhibited higher volatility than equities in 42% of the 3Y periods since 1960. However, in a larger number of periods (58%) equities have shown higher volatility. More importantly, the two assets’ distributions differ from a normal distribution with a significantly higher skew. But commodities have the advantage. They exhibit a positive skew (a tendency for higher-than-expected positive returns), when equities are known for their negative skew (their tendency to surprise on the downside). Commodities have exhibited lower volatility than equities in 58% of the time rolling 3-year periods we studied and benefit from positive skew. Myth 4: Commodities stopped being an effective diversifier after the 2008 Global Financial Crisis presented a structural break in commodity price relationships Markets are becoming more and more efficient. With those changes, assets have become more correlated. It is clear that commodities have been more correlated to equities in the last 10-20 years than before. However, this is true of most asset pairs as well. US equities are more correlated to global equities. Equities are more correlated to high yield bonds. In a globalised world where correlations are more elevated, commodities still stand out for their lower level of correlation. Note, commodities have continued to provide a cushion against equity and other asset crises in recent periods. For example, in 2022, commodities rose 16%, while US equities3 fell 18% and bonds4 fell 16%. While 2008 marked an all-time high for the correlation between equities and commodities, their correlation has always oscillated. There have been earlier spikes of similar magnitude in the 1960s and 1980s. In 2020, we saw a similar spike in correlation, but correlations have more than halved since in 2023. Commodity vs equity correlation tends to oscillate and has remained within normal historical ranges. Myth 5: Inflation linked bonds are better than commodities at inflation-hedging Some assets are often considered good inflation hedges, such as inflation-linked bonds (TIPS) or real estate. However, it is surprising that more people don’t recognise the superior inflation-hedging properties of commodities. The beta to inflation (US Consumer Price Index (CPI)) of inflation-linked bonds and real estate, historically, is significantly lower than that of commodities (2.45): US TIPS (0), US Equity Real Estate Sector (1), House Prices (0.4). Furthermore, while broad commodities’ average monthly performance tends to increase when the CPI increases, this is not the case for other assets. The performance of TIPS appears to be relatively unrelated to the level of CPI. The performance of real estate, being equities or real assets, seems to worsen when the CPI increases. Real estate suffers from the fact that, while rental incomes are linked to inflation (rents are part of the CPI basket, for example), the capital values themselves are not, and yet have a larger impact on the asset's price. Similarly, inflation-linked bonds are linked to inflation, but their price is also tied to real yields changes (through a duration multiplier) which tends to dilute the relationship to inflation itself. Historically, commodities have been a better hedge to inflation than TIPS or real estate assets. Myth 6: Futures are the best way to access gold for institutional investors Futures markets tend to be extremely liquid and offer very low transaction costs. Therefore, investors assume that, if they can, it is always the most efficient way to implement a trade. However, futures markets respond to their own constraints where banks tend to provide most of the hedging. Recently, banks have suffered from increasing regulation and operating costs that they have translated into their pricing of futures contracts, leading to significant tracking differences with the physical asset. Sometimes futures contracts are the only way to access a commodity, but for precious metals this is not the case. For gold, this cost has, historically, represented 0.9%6 per year on average compared to owning gold bullion. Physically backed exchange-traded commodities (ETCs) have many advantages: limited operational burden, reduced tracking difference, cheap and liquid. It is clear that commodities are a frequently misunderstood asset class, and many misconceptions remain today. For a fuller description of the fundamentals of commodity investing, please see The Case for Investing in Broad Commodities. Sources 1 These myths were all addressed in The Case for Investing in Broad Commodities, November 2021, which takes a deep dive into commodity investing. This blog summarises and updates data addressing several of the ‘misconceptions’ listed in the piece. 2 For more information on contango and backwardation, see our educational ETPedia hub (specifically the ‘Costs and Performance’ tab). 3 S&P 500 TR. 4 Bloomberg GlobalAgg Index (government, corporate and securitised bonds, multicurrency across developed and emerging markets). 5 Source: WisdomTree, Bloomberg, S&P, Kenneth French Data Library. From January 1960 to July 2023. Calculations are based on monthly returns in USD. Broad commodities (Bloomberg commodity total return index) data started in Jan 1960. US TIPS (Bloomberg US Treasury Inflation-linked total return bond index – Series L index) data started in March 1997. US Equity Real Estate (S&P 500 Real Estate sector total return index) data started in October 2001. US House Price (S&P Corelogic Case-Schiller US National Home Price seasonally adjusted index) data started in January 1987. Historical performance is not an indication of future performance and any investments may go down in value 6 Source: WisdomTree, Bloomberg. From 4 June 2007 to 31 July 2023. The Performance of the physical Gold was observed at 1.30 PM Eastern Time to match the BCOM sub-index calculation time. You cannot invest in an Index. Historical performance is not an indication of future performance and any investments may go down in value. This material is prepared by WisdomTree and its affiliates and is not intended to be relied upon as a forecast, research or investment advice, and is not a recommendation, offer or solicitation to buy or sell any securities or to adopt any investment strategy. The opinions expressed are as of the date of production and may change as subsequent conditions vary. The information and opinions contained in this material are derived from proprietary and non-proprietary sources. As such, no warranty of accuracy or reliability is given and no responsibility arising in any other way for errors and omissions (including responsibility to any person by reason of negligence) is accepted by WisdomTree, nor any affiliate, nor any of their officers, employees or agents. Reliance upon information in this material is at the sole discretion of the reader. Past performance is not a reliable indicator of future performance.
CBOT:AW1!
by aneekaguptaWTE
1
Hedging in Forex When done correctly, hedging is a great method to help protect your position(s) against big price fluctuations. This post will delve further into hedging and discuss how you can use it to not only protect your position(s) but also how to potentially use it to your advantage in turning losing positions into profit-taking opportunities. What is hedging in Forex? Hedging implies protection against the risk of future price fluctuations for assets arranged in advance. It is a financial strategy used to protect a trader from losing trades resulting from adverse moves in currency pairs. Hedging is used in almost all types of financial industries; however, it has a more specific form in the foreign exchange market. Direct Hedging Direct hedging in forex normally takes place by the trader opening a position in the opposite direction of an existing trade. This is done in order to reduce the risk exposure of the existing position. Normally, the trader or investor carries out his or her risk analysis and quantifies the risk levels involved before instituting both the original and hedged trades. They would subsequently be responsible for controlling the level of change in their positions that takes place due to the ensuing price volatility of the market instrument(s) being traded. For example, let's assume you open a sell position on GBPUSD, and while your position is running, the market suddenly goes up, so now your open P&L (profit and loss) number is going down. Let's continue to assume that you are still confident in the original sell position; however, you are wary that the market is likely to experience adverse price movements. To prepare for this, you open a buy position to fully hedge the trade. In a fully hedged trade, the P&L number will not move because there is both a buy and sell position open. Now that the trade is fully hedged, if the market continues to go up, the trade's buy position will continue to profit while the sell position will continue to take a loss. However, if the market reaches a resistance level, you can exit the buy position at a profit and hold the original sell position while the market comes back to your original entry point. While many traders would close out the initial position and accept any losses, a direct hedge would allow you to profit from the second trade, which would avoid the loss. To get a further understanding, let's see this in the example below. Hedging with multiple currencies Another strategy would be for a trader to utilise two different currency pairs that are highly correlated, either in a positive sense or a negative sense. For example, a long trade can be opened for the USDJPY currency pair, and a short trade can be opened for its USDCHF counterpart. Because it is highly likely that both pairs move in the same direction due to the USD factor, any drawdown or loss on one of the trades would be made up for by gains and profits in the other trade. Though the risk is usually mitigated with this hedging strategy, for this method to work successfully with different currency pairs, it is essential that the trader does his or her research on both pairs involved in the potential hedge to ensure that the correlation is high between them through their respective movements in the market. This is to guarantee that when market volatility does ensue, whether it is based on a news update such as a major central bank meeting or some other unexpected event, then the two current pairs in question will move as expected in the market. Hedging with commodities Commodities are popular to hedge with because they are usually seen as safe haven products. Gold is usually the go-to product hedge for traders who especially want to protect themselves from rising inflation. When inflation becomes uncontrollable, gold prices tend to rise. Gold, in contrast, is a hedge against a lower US currency. In other words, gold prices and the US dollar tend to have an opposite relationship. When gold prices rise, the US dollar tends to fall, and vice versa. Gold has long been seen as a form of currency, which is why it's a strong hedge against a dollar crash or hyperinflation. Another popular commodity to hedge with is oil. Some currencies are particularly vulnerable to the impact of oil prices (these forex pairs are commonly known as 'commodity pairs'). Both the Canadian dollar and the Australian dollar are notable examples. The price of oil and the exchange values of the Canadian dollar and Australian dollar usually have an inverse relationship. When the price of oil rises, the USD/CAD and AUD/USD exchange rates tend to fall, and vice versa. You can use the oil hedging approach to hedge your USD/CAD and AUD/USD trade risk in this scenario. For example, you can go short AUD/USD and long oil as a hedging position, and vice versa. Advantages and Disadvantages There are significant advantages and disadvantages to engaging in hedging activities in forex: Advantages The biggest advantage is that it protects the trader against unpredictable price movements. If your account experiences high volatility or unexpected price swings, your hedged position may be able to help protect the total worth of your account by generating a profit on that position, which can help stabilise your account balance until the other position gains value. In other words, hedging gives the opportunity to profit on a position that would maintain the account balance during a volatile or unexpected price swing before a reversal takes place, leading to other positions going back to their original value. When hedging is incorporated properly, your risk-reward ratio is better within your control. This is because a hedge acts as a helpful counterbalance to your other position(s), thus providing support in the form of price gains even when your other position(s) are moving in the opposite direction. Hedging can broaden your portfolio's diversification. If you are hedging multiple products, this can spread out your open positions to reduce the chance of a single variable or event wiping out all of your positions. Disadvantages On the other hand, a hedge can also very likely reduce the potential for profit. If a trader has an open position in profit and the price continues to move in a certain direction after the trader implements a hedged trade in the opposite direction, then the hedged trade would be at a loss, nullifying the gains made by the original trade after the hedged trade was opened. Additionally, traders must be aware of additional trading costs such as commissions and overnight swap charges (if the hedge is held overnight). To add, hedging is not an ideal practice for beginners in trading, as it requires the proper practice and education needed to handle opposing trades at the same time in what could be an unfamiliar market, reflecting both the numerical and positional complexities of the hedging mechanic. There is also the risk of hedging, resulting in increased losses to the trader's account due to some hedged trades not being correlated directly to initial positions; this could be because of leverage, margin, or other reasons. This has the potential for huge drawdowns in the overall position when price volatility ensues. Another disadvantage is that, unfortunately, not all forex brokers or trading providers offer the hedging function to their traders, so traders will usually have to inquire if this function is possible before proceeding to trade with the respective broker or provider. While you can make money from hedging, it is very important to note that before that, forex hedging should first be about mitigating risks. A trader's primary aim when hedging should always be to protect their capital against adverse moves in the currency markets. Hedging can also be very complex and costly, especially if the trader does not have much experience with this trading method, so it is not recommended to use this method in a live trading environment until you understand the mechanics of hedging, as it requires a great deal of planning and understanding. BluetonaFX
Education
by BluetonaFX
4
Harvesting Risk Hedged Treasury YieldEver heard of risk-free rates? Risk free rates are commonly understood to refer to interest rates on 10-year US treasuries. These are considered risk-free as the likelihood of the US government defaulting is considered extremely unlikely. Treasuries pay out a fixed interest and can be redeemed for their face value at maturity. Fixed returns and negligible default risk make treasuries a critical addition to any decent investment portfolio. With inflation on the downtrend and Fed’s hiking cycle nearing its apex, long term treasuries provide a fixed income-generating asset with no reinvestment risk. Little default risk does not mean zero market risk. As highlighted in our previous paper , bond prices are materially exposed to interest rate risk. CME Group’s treasury futures allow investors to hedge that risk. This paper has been split into two parts – the first provides an overview of treasury futures and their nuances while the second walks through the trade setup required to harness risk-hedged yield. TREASURY FUTURES Treasury futures enable investors to express views on a bond’s future price movement. Investors can also hedge against interest rate risk by locking in a coupon rate. CME treasury futures are deliverable with eligible treasury securities which ensures price integrity. QUOTING Treasuries are quoted in fractional notation as a percent of their par value. For instance, a bond quoted at 111’272 suggests that it is trading 11 + 27.2/32 (11.85%) above its par value. This allows standardized quotation of bonds with different coupon rates. Note that notion of quotes in cash markets may be different from futures. AUCTION SCHEDULE Treasuries are auctioned periodically depending on their maturity duration. • Treasury Bills with maturity between 4 to 26 weeks are auctioned every week while T-Bills with maturity of 1-year are auctioned every four weeks. • Treasury Notes with maturity of 2, 3, 5, and 7 years are auctioned every month while T-Notes with maturity of 10-years are auctioned every quarter. • Treasury Bonds are auctioned every quarter. The auctions for each type of security are staggered to reduce their market impact. CONVERSION FACTOR It is possible for a large range of “eligible” treasuries to be available for deliveries against standardised futures contract as new treasuries are regularly auctioned at changing rates. The most recently auctioned securities that are eligible for delivery are called “on the run” securities. To standardize the delivery process for varying securities, a conversion factor unique to each bond is used. The buyer of the futures contract would pay the Principal Invoice Price to the seller. The Principal Invoice Price is the “Clean Price” of the security and is calculated by applying the Conversion Factor to the settlement price. When the Conversion Factor is less than 1, the buyer pays less than the settlement price and when it is higher than 1 the buyer pays more. ACCRUED INTEREST In addition to the adjustment for the quality of the bond being delivered, the buyer must also compensate the seller for any interest the bond would accrue between the last payment and the settlement date. The final cost to deliver the treasury futures contract would be the Clean Price + Accrued Interest. CHEAPEST TO DELIVER Due to the Conversion Factor, which is unique to each bond, some bonds appear to stand out as cheaper alternative for the seller to deliver. So, if a seller has multiple treasury securities, a rational seller will choose to deliver the one that best optimizes the Principal Invoice Price. As a result, futures price most closely tracks the Cheapest-to-Deliver ("CTD”) securities. This also provides an arbitrage opportunity for basis traders. In this case, the basis is the relationship between the cash price of the security and its clean price on the futures market. Small discrepancies in these may be profited upon. Notably, specialized contracts such as CME Ultra 10-year Treasury Note futures with selective eligibility requirements diminish the effects of CTD by reducing the range of deliverable treasuries. HEDGING BOND PRICE RISK WITH TREASURY FUTURES Treasury securities are a crucial and substantial addition to any well diversified portfolio, offering income generation, diversification, and safety. With interest rates elevated and inflation heading lower, coupon rates for long-term US treasuries are yielding positive real returns. Moreover, 10Y yield is hovering at its highest level in 13-years suggesting a strong entry point. Since the coupon rate of the security is fixed and they can be redeemed at face value upon maturity, the present higher yielding treasuries are a great long-term income generating investment. Despite the inverted yield curve, which suggests yields on longer-term securities are lower, a position in long-term bonds protects against reinvestment risk. Reinvestment risk refers to the risk that when the bond matures, rates may be lower. With Fed at the apex of its hiking cycle, rates will likely not go any higher. So, a position in long term T-bond, locked in at the current decade-high rates, offers a lucrative opportunity. The position also benefits in the uncertain scenario of a recession as bond prices rise during recessions. This investment fundamentally represents a long treasury bond position which profits in two ways: (a) Rising bond prices when interest rates decline, and (b) Coupon payments. If the coupon payout is unimportant, fluctuations in the bond price can be profited upon in a margin efficient manner using CME futures. This does not require owning treasuries as the majority of the treasury futures are cash settled with just 5% reaching delivery. In the fixed income case, the bond is held until maturity which leads to opportunity costs from bond price fluctuations. CME futures can be used to harvest a fixed yield from treasuries and remain agnostic to rate changes, by hedging the long treasury position with a short treasury futures position. This position is directionally neutral as losses on one of the legs are offset by profits on the other. The payoff can be improved by entering the short leg after bond prices are higher. To hedge treasury exposure using CME futures the Basis Point Value (BPV) needs to be calculated. BPV, also known as DV01, measures the dollar value of a one basis point (0.01%) change in bond yield. BPV depends upon the bond’s yield to maturity, coupon rate, credit rating and face value. Notably, BPV for longer maturity bonds is higher as their future cashflows are affected more by changes in yield. Another commonly used term is modified duration which determines the changes in a bond’s duration or price basis of a 1% change in yield. Importantly, the modified duration of the bond is lower than 100 BPV’s since the bond price relationship to yield is non-linear. BPV can be calculated by averaging the absolute change in the bond’s yield-to-maturity, its value when held until maturity, from a 0.01% increase and decrease in yield. Where there are multiple bonds in a portfolio, the BPV for a unit exposure will have to be multiplied by the number of units. On the futures side, BPV can be calculated as the BPV of the cheapest to deliver security for that contract divided by its conversion factor. By matching the BPV’s on both legs, the hedge ratio can be calculated. This represents the number of contracts needed to entirely hedge the cash position. SUMMARY OVERVIEW OF CME TREASURY FUTURES CME suite of treasury futures allow investors to gain exposure to treasury securities across a range of expiries in a deeply liquid market. Each futures contract provides exposure to face value of USD 100,000. The 2-Year, 5-Year, and 10-Year contract are particularly liquid. Micro Treasury Futures are more intuitive as they are quoted in yields and are cash settled. Each basis point change in yield represents a USD 10 change in notional value. These products reference yields of on-the-run treasuries and settled daily to BrokerTec US Treasury benchmarks ensuring price integrity and consistency. Micro Treasury Futures are available for 2Y, 5Y, 10Y, and 30Y maturities enabling traders to take positions across the yield curve with low margin requirements. TRADE SETUP TO HARVEST RISK HEDGED TREASURY YIELDS A long position in the on-the-run 10Y treasury notes and a short position in CME Ultra 10Y futures allows investors to benefit from the treasury bond’s high coupon payment while remaining hedged against interest rate risk. Hedge ratios can be calculated using analytical information from CME’s Treasury Analytics Tool to obtain the BPV of each of the legs: The on-the-run treasury pays a coupon rate of 3.375% pa. and its last quoted cash price was USD 98.04. It has a DV01 of USD 76.8. Since, each contract of CME Treasury Futures represents face value of USD 100,000, the long-treasury position would need to be in multiples of USD 100,000. For a face value of USD 500,000 (USD 100,000 x 5) this represents a notional value of USD 490,000 (Face Value x Cash Price) . The long-treasury position's DV01 = USD 76.8 x 5 = USD 385. The cheapest-to-deliver security has a DV01 of USD 92.2 and a conversion factor of 0.8244. The futures leg thus has a BPV = Cash DV01/Conversion Factor = USD 92.2/0.8244 = USD 111.8. The hedge ratio = BPV of Long Treasury/BPV of Short Futures = USD 385/USD 111 = ~4 (3.4) So, four (4) lots of futures would be required to hedge the cash position which would require a margin of USD 2,800 x 4 = USD 11,200. Though the notional on the two legs does not match, the position is hedged against interest rate risk and pays out 3.375% per annum in coupon payments. MARKET DATA CME Real-time Market Data helps identify trading set-ups and express market views better. If you have futures in your trading portfolio, you can check out on CME Group data plans available that suit your trading needs www.tradingview.com DISCLAIMER This case study is for educational purposes only and does not constitute investment recommendations or advice. Nor are they used to promote any specific products, or services. Trading or investment ideas cited here are for illustration only, as an integral part of a case study to demonstrate the fundamental concepts in risk management or trading under the market scenarios being discussed. Please read the FULL DISCLAIMER the link to which is provided in our profile description.
TVC:US10YEducation
by mintdotfinance
1