Your assumptions are pretty accurate. The decline in the premium is attributable to several factors. You already touched on the interest rates (cost of carry). Another very big factor is the actual price of the indices themselves. As the prices decrease, the premium will be less just because anticipated moves tend to be smaller in hard numbers (not percentage). A third factor is dividends. This part of the equation is not as clear to me without looking it up. I don't know if the dividends from the S&P 500 have actually decreased. So I can't state for sure this is a factor. But the plain vanilla real factors have decreased. Just like in options, the value of futures is based on time X cost of carry, and dividends. And of course the wildcard is volatility. Seems like we have plenty of that. But we have for quite a while. But still, I too wonder why the decrease is so substantial. We still have a way to go until Sept. expiration, and the fair value does seem inordinately small even given the above mentioned factors. I will find out however and keep you posted. Also, anyone looking at CNBC's fair value on their tape; their values are just wrong! Pay no attention to those numbers. I saw them showing a negative number this past week as "fair value"....wish I could trade against THEM
This happens a lot...."definition" differences. Like in options, some people (including Series 7 test), call the price of an option "the premium"....when traders refer to "premium" as the amount over FV. We try to make the concept clear, and simply use PREM./DISC as the difference between where the S&P's "should " be trading vs. their actual price. Don
regardless of whatever it is called, the difference between the cash and the futures tick by tick during the trading day is always the correct value at that moment in time - otherwise it would not occur it is the change of the value against the prior values during the course of trading day which provides information which can be traded off trading against that value - except with computerised arbitrage could damage your wallet
OK...not disagreeing with you , but for the sake of those who are still confused about the concept of Premium/Discount to FV, let me try this: The spot price plus "cost of carry" (Interest) is what Fair Value really is. Today about 80 cents over the spot. If the futures trade at 80 cents over the spot price (approximately) then they are trading "at fair value." If they are trading above that, then they are trading at a "Premium" and if they are trading below that, they are trading at a 'Discount." We look at that Prem/Disc all day long to see if we have an immediate bias in either direction. The futures traders on the floor will be buying stocks to hedge their short futures when they can sell them (the futures) at a premium to FV. They will be selling stocks when they can buy futures under FV. Hope this helps others ..... Don
Don Bright absolutly, and if i was in the pit - i would be doing the same thing and loving it its a bit more dicey when you do not have the latest up to the moment data - which u can only get in the pit or you have been doing it for so long that you know how to spot the tradeable ones or you have a computerised arbitrage system
don the floor of a few bars - but not the pit - not even that much trading of any sort as it happens and you are the first person not to tell me i am wrong - i guess i owe u a drink now
Don, someone asked about this and my response was the pretty much the same as yours, plus I mentioned dividends are factored in. The person asked why the fair value premium seemed lower lately. In my explanation, I got into the hard prices of the underlying securities being lower, and so the cost of carry would be lower due to this and also to the fact that interest rates are lower now. But what about dividends? Have they actually diminished over the past few years? I have not really been aware of too many dividend cuts, but I am not sure. Do you know if this is a factor? Thanks, RS7
Lower or cancelled dividends, lower interest rates, lower stock prices all add up to lower overall number in FV calculations. Yep, that's pretty much it. Don