Chapter 13
Financial Futures Markets
Outline
Background on Financial Futures
Popular Futures Contracts
Market for Financial Futures
Purpose of Trading Financial Futures
Trading Process
Trading Requirements
Interest Rate Futures Contracts
Valuing Interest Rate Futures
Speculating with Interest Rate Futures
Hedging with Interest Rate Futures
Stock Index Futures
Valuing Stock Index Futures
Speculating in Stock Index Futures
Hedging with Stock Index Futures
Dynamic Asset Allocation with Stock Index Futures
Arbitrage with Stock Index Futures
Circuit Breakers on Stock Index Futures
Single Stock Futures
Risk of Trading Futures Contracts
Market Risk
Basis Risk
Liquidity Risk
Credit Risk
Prepayment Risk
Operational Risk
Exposure of Futures Market to Systemic Risk
Globalization of Futures Markets
Non-U.S. Participation in U.S. Futures Contracts
Foreign Stock Index Futures
Currency Futures Contracts
Key Concepts
1. Explain why speculators take positions in financial futures, and how the outcome is determined.
2. Explain how institutional investors hedge with interest rate futures, and the tradeoff involved.
3. Explain how stock index futures can be used by institutional investors.
POINT/COUNTER-POINT:
Has the Futures Market Created More Uncertainty for Stocks?
POINT: Yes. Futures contracts encourage speculation on indexes. Thus, an entire market can be
influenced by the trading of speculators.
COUNTER-POINT: No. Futures contracts are commonly used to hedge portfolios, and therefore can
reduce the effects of weak market conditions. Moreover, investing in stocks is just as speculative as taking
a position in futures markets.
WHO IS CORRECT? Use the Internet to learn more about this issue. Offer your own opinion on this
issue.
ANSWER: While excessive speculation could affect the underlying stock price or stock index, more
informed investors should be able to correct for any mispricing, and therefore push the price toward its
fundamental value. In addition, speculators could trade the underlying stocks as well and could have a
direct effect on the stock price.