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 saminny   Registered: Jun 2008 Posts: 77 08-25-12 04:24 AM I have a question on hedging eurodollar futures. If I understand correctly, the contract price for far out contract month is roughly based on the 3 month forward price on that month as seen today. So, for example, suppose today is June 25, 2007, the Sep 2008 contract trading today will roughly be based on 3-month Sep 2008 forward price as seen today. Now, if I go long this contract, I lock in the Sep 2008 forward rate prevailing today. Is this correct? Now I am looking at the hedging example on this page (http://www.riskglossary.com/link/eurodollar_future.htm). Suppose today is June 25, 2007, so the contracts of Exhibit 1 are available. A trader is to make a cash payment of \$3 million on December 15, 2008, and she wants to hedge the interest rate risk. The article says she goes long three each of the Sep 2007, Dec 2007, Mar 2008, Jun 2008 and Sep 2008 contracts to hedge the risk. My question is why can't the trader just go long Sep 2008 contract today to hedge against the interest rate risk. The article also says by doing this, he effectively narrows his duration from 12 months to 3 months. But if he goes long Sep 2008 contract long today, hasn't he locked in the forward rate prevailing today and hedged away all of his risk, so effectively 0 duration? Any explanations appreciated. Edit/Delete • Quote • Complain
 Martinghoul   Registered: Jan 2009 Posts: 5641 08-25-12 09:31 AM I responded to you on the other forum. Edit/Delete • Quote • Complain
 Nym   Registered: May 2012 Posts: 117 08-25-12 09:32 AM He could and he could not, it is a way to play with the yield curve. I suggest you a nice book: Trading STIR Future The first chapters explain you the way STIR works, you can start with that and then look around in internet. The general message is, no free lunch out there Edit/Delete • Quote • Complain
 Steven.Davis   Registered: Jun 2010 Posts: 307 08-25-12 02:10 PM Holdings a futures position <> 0 Duration. The futures position is mark-to-market. As Libor goes up or down, there is a cashflow stream. What it does do is to link future short-term interest rates, future discount factors, and long-term interest rates. If you want no sensitivity to interest rates, consider a forward. Edit/Delete • Quote • Complain
 Martinghoul   Registered: Jan 2009 Posts: 5641 08-25-12 02:43 PM Quote from saminny: My question is why can't the trader just go long Sep 2008 contract today to hedge against the interest rate risk. The article also says by doing this, he effectively narrows his duration from 12 months to 3 months. But if he goes long Sep 2008 contract long today, hasn't he locked in the forward rate prevailing today and hedged away all of his risk, so effectively 0 duration? Any explanations appreciated. The loan in question (the \$3mil cash payment) is like a bond. That's the reason why you need to do a strip, rather than a single contract. This has nothing to do with playing the yield curve, cash flow streams, or long-term interest rates. And the Eurodollar future is a forward already. Edit/Delete • Quote • Complain
 Steven.Davis   Registered: Jun 2010 Posts: 307 08-25-12 02:49 PM By forward, I meant a Forward Rate Agreement. Edit/Delete • Quote • Complain
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