well the only logic i can think of is this the futures contract gives you a fake contract of the S&P somewhere around 4 months from now so it trades at a 15 point premium based on the fact that the S&P gains an average of 8% per year, so over 4 months you should get 2.6% plus some dividends. So technically it trades at a lower cost the S&P index, since its meaningless paper anyways. This being said why wouldnt it always trade around the same premium? Oh and btw this may be totally flawed logic as ive been known to do this quite frequently.
I think that's pretty far off. 1. Why subtract dividends? The stocks of the SPX have dividends "building into" their prices... that's why stocks drop by the amount of the dividend on ex-dividend date. But nobody gets/pays dividends in a futures contract, so [maybe] that's why they're deducted. 2. As for the "interest rate and time to expiration"... If you buy the SPX, you pay for it and no longer have the cash. But in a futures contract, you can buy a T-Bill and and use the Bill as collateral for your futures position.... you're earning interest in addition to the futures position. That amount of interest erodes to zero on the day the contract expires and settles. Not sure I'm being 100% correct, but I think it's something like that. In reality, the "fair value erosion" is not very important to most of the futures players.... they're in and out too quickly for it to matter much. And it's certainly very small compared to the win or loss experienced in the trade.
True. Sentiment is also the third component of the futures premium equation. And the fact that no one on ET in the past 3 pages has been able to answer you with that as being one of the most significant factors should tell you how "amateur" of a website this place is.
Here is another link to a page that may explain it slightly different/better. http://www.indexarb.com/fairValueDecomposition.html
1. Yes, futures can trade lower than fair value [lower than cash sometimes, too], but it's a temporary discrepancy based upon short term negative sentiment. It doesn't last long and is difficult to exploit with an arb strategy. 2. When you rolled over before and the premium was "only" 6 points, it was because the interest rate was much lower... like 1%... today it's 5%, which accounts for the larger premium.
I think you're wrong about that. Most of the time sentiment factors-in at about zero. Sure, sentiment occasionally drives the premium away from fair value... sometimes to a significant amount... but it rarely stays that way for longer than moments or minutes. There is no "sentiment" component to the fair value equation. A HUGE majority of the time, the futures trades within "noise" of the fair value.
lol thx alot gnome, i never would have thought of the S&P dividends vs. price, that is such a stupid error on my part. funny thing is i was going to say that it trade at the premium you could borrow money at vs. the difference between the S&P average return and a future 4 month value but i thought that was stupid as no one can tell what the market is going to do 4 months from now. a.k.a. interest rate = 6% divided by 3 (full year) = 2%, or 30 S&P points 30 point if you want to own it until a future date, however if ou also factor in that the s and p goes up by 8% or 8times15 points a year that is another 120 points divided by 3 = 40 which would lead you to a total of 70 s and p points if we wanted to be accurate. WHAT AM I MISSSING?!?!!
wait a minute you have to take 40 (amount itll go up by in 4 months) and minus 30 interest rate, but why do you have to minus the interst rate if there is no actual hold time?
With all due respect, you have shown yourself to have very little understanding about this topic. Your previous comments show that you have little clue about premium/discounts in the S&P Futures. The premium of the futures contract can swing not only because of "negative" sentiment, but also because of "positive" sentiment, a fact that you failed to mention. Moreover, when bullish sentiment hits the futures markets stock-index futures arbitrage occurs immediately. And while it may not last long in duration, it certainly is EXPLOITED with an arb strategy, day in and day out by I-Banks with equity derivatives desks, executing a stock-index arb strategy for customer (corporate treasury) accounts and prop accounts looking for an absolute rate of return. In the above example, futures trade ABOVE what is calculated as "fair value" due to bullish sentiment and stock-index arbs come in to sell the futures contracts against the simultaneous purchases of a basket of stocks that mimic the SPX. The converse is true when the S&P futures contract trades BELOW what is calculated as "fair value" . . . with stock-index arbs purchasing the futures contract and then simultaneously selling a basket of stocks that mimic the SPX. While stock-index arbitrage has a tendency to keep the futures near what is calculated as "fair-value" . . . in prolonged Bull or Bear trends in the stockmarket, the futures will tend to trade above or below "fair value" as a reflection of the overall trend and marketplace sentiment. Also very important to note, there are times when premiums/discounts will occur for prolonged periods due to the fact that the I-Banks may not have the "capacity" to enter the marketplace and initiate the typical stock-index arbitrage. It just all depends on what they have in inventory, and how their customer accounts are all lined-up. If the majority of these customers ( usually corporate treasury accounts ) are totally maxed out for the funds that are allocated to this type of investment strategy, then it is easy to understand that the demand for such arbitrage has been satiated (for the time being)and as a result, the futures premium/discount might not trade as "tight" around fair-value as normally might be the case. In periods of tremendous uncertainty ( such as Oct. 1987 ) the futures will trade at severe discounts to what is calculated as "fair value", day after day. At the end of the day, the bottomline is that SENTIMENT does play a significant factor in how the the futures trade around "fair-value".
I don't know the answer either, but i probably make much more money than you do. I learned to understand what the market does,that makes money, the futures premium is to me what it is, but irrelevant for my return. What makes someone an amateur? Not knowing the theoretical matters or not knowing how to make money?