Capital Markets Trading and Investment Strategies in China by Xiaojiang Zhang

Author:Xiaojiang Zhang
Language: eng
Format: epub, pdf
Publisher: Springer Singapore, Singapore

3.4.7 Bond Future Net Basis, Implied Repo Rate and Cheapest-to-Deliver Optionality

Gross Basis A bond future contract derives its fundamental value from treasury bonds. Traders monitor the difference between cash bond and the bond future contract, defined as gross basis. Any perceived divergence, could signal that the value of the future contract is out of line with cash bond and a profit trade can be executed.

Net Basis The holder of cash bond position gains accrued interest over time, which is not included in the value of a future bond. Repo rate is the financing cost of that position. Hence, a spot cash bond price, minus accrued interest rate from spot time to future contract settlement time, and plus repo financing cost over the same period, should be the theoretical value of the future contract. The difference between cash theoretical future price after taking into account the accrued interest and repo cost, and traded future price, is defined as net basis. The net basis is therefore a more accurate measurement for bond future relative value analysis than gross basis.

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