The answer to the above is easy. The harder to answer question would be: Question 2: (on average) have you EVER made any money off the indexarb.com website?
When the market sees a less than rosey outlook for the future (no pun intended), we have the cash above the futs. - Spydertrader
rofl no you dont, there is a strict risk-neutral relationship between cash and future, any deviation is due to transaction costs (or there is arbitrage)
Fair value premium/discount is defined by the relationship between the interest cost of owning the index and the dividends paid. If the interest cost is higher than the dividend paid then there is a fair value premium. If the interest cost is lower than the dividend paid then there is a fair value discount. Due to transaction costs the index futures can trade a few ticks on either side of fair value without index arbitrage taking place.
"Question: have you once made any money off the indexarb.com website?" not once. many times. but not from arb'ing. by following premium divergences at different times during the day, it helps give a picture of what institutional money is doing, which helps support trade decisions (it has kept me out of losing trades and put me in winning trades). it is not a "signal" so to speak. it's a piece of the puzzle. just like watching bonds, sectors and bid/ask divergences.
That can be true on a brief transient basis, but itâs relatively quickly corrected by Arb Programs. Just because cash is higher than futures, does not mean that the outlook is less than rosy. It typically means that the dividends are higher than the cost of carry interest for the remainder of the contract. The main reason an indexâs cash price can be higher than its futures price for the bulk of a trading day is that the fair value delta can be negative â i.e., a discount instead of a premium. Futures price = cash price + fair value delta (where the delta can be negative) Fair value delta = interest - dividends (where dividends can be greater than interest) The interest is the carry cost for owning all the stocks from now until contract expiration. The appropriate short term rates from the yield curve are used, for example 3-month LIBOR. From the perspective of the futures contract holder, the interest is essentially gained because you donât have to borrow from your bank or broker to own all the securities. The dividends are those that happen from now until contract expiration. From the perspective of the futures contract holder, the dividends are effectively lost because you own the futures contract instead of the securities. The input values are adjusted proportionally for the remaining life of the 3-month contract.
If you believe that, how do you explain the huge S&P futures discount to cash during the 87 crash? Nothing which involves leverage is a "strict risk-neutral relationship".
Aside from the cost to carry issues and the dividend stream issues its pretty simple. The Cash closes at 4:00 and the futures close at 4:15. Therefore the fair value for the next day, is not only based off the cost to carry but also the differential in the cash and futures close. Forget Index arb you're not going to do it on any major index. Try this one... How many stocks would you put in your replication basket for SnP500 index arb?