Stock Index Futures Spread Trading
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Transcript of Stock Index Futures Spread Trading
Stock Index Futures Spread Trading
S&P 500 vs. DJIA
January 2009
2 To contact the CME Group Equity Team with questions and comments CLICK HERE
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Contents* Introduction S&P 500 vs. DJIA Index Methodology and Sector Weightings Spread Methodology and Sector Performance Spread Analysis P&L and Risk Margin Calculations Index Correlations and Historical Volatilities Appendix Contract Specifications Average Daily Volumes Liquidity and Hourly Analysis Index Calculations Stock Index Futures Fair Value Equity Price Limit Guide
* Written by Charles Farra, CME Group; [email protected]
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Stock Index Futures Spread Trading Introduction About CME Group and Stock Index Futures CME Group, formed by the 2007 merger of the Chicago Mercantile Exchange (CME) and the Chicago Board of Trade (CBOT), and the 2008 merger with the New York Mercantile Exchange (NYMEX), is the world's largest and most diverse derivatives exchange. It is also the world’s premier marketplace for trading stock index futures. The first successful stock index futures contract, the S&P 500 contract, began trading at CME in 1982. Since then, our product line has grown to include a comprehensive range of benchmark indexes on U.S. and international stocks. In 2008, the CME Group equity index product line had an average daily volume (ADV) of over 3.7 million contracts, with an average daily notional value traded in excess of $200 billion. CME Group offers trading on stock index futures virtually 24 hours per day, with the E-mini products available electronically only on the state-of-the-art CME Globex electronic trading platform. The markets are liquid around the clock, even during non-U.S. hours, and especially in the European morning hours leading into the U.S. daytime open for the stock market. About This Guide This spread trading guide introduces and studies the spread relationship between the S&P 500 and the Dow Jones Industrial Average indexes, two leading benchmarks for the U.S equity markets. If you are interested in trading this spread relationship this guide is designed to help you get started. S&P 500 vs. the DJIA The Standard & Poor’s 500 (S&P 500) Index and the Dow Jones Industrial Average (DJIA) are the two most widely known U.S. stock indexes. The S&P 500 Index is the leading large-cap benchmark for the U.S. stock market and is the main barometer for institutional and professional investors. The DJIA is the popular measure of the U.S. stock market, especially among the media and general population. In addition: • The S&P 500 index contains 500 stocks, while the DJIA has 30 stocks. All 30 of the stocks in the
DJIA are also in the S&P 500. • The S&P 500 is a capitalization-weighted, float-adjusted index. The DJIA is a price-weighted index. • ADV for the CME Group E-mini S&P 500 index futures was 2,505,492 contracts in 2008, an increase
of 52.6% from 2007. • ADV for the CME Group E-mini Dow ($5) index futures was 218,768 contracts in 2008, an increase of
38.0% from 2007. The spread between the S&P 500 and DJIA indexes is one of the most popular spreads because the two indexes are closely related – but not 100 percent correlated. Given that the DJIA has only 30 stocks, it is also feasible to monitor the main stocks that may have an impact on the spread relationship, as will be discussed later.
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Index Methodology and Sector Weightings Background of the S&P 500 and DJIA S&P 500 The S&P 500 Index, although dating back to 1923, was expanded to include 500 stocks in 1957. Constituents in the index represent approximately 75 percent of the market capitalization of the entire U.S. stock market universe. The S&P 500 Index is calculated from a base date of 1941 ~ 1943 with an original value of 10 points. The S&P 500 Index is maintained by S&P Index Committee, whose stated goal is to insure that the index remains a leading indicator of U.S. equities. The S&P 500 Index is not simply the 500 largest companies in the U.S. equity market. A few selected criteria for any stock to be considered in the S&P 500 Index are as follows. • The minimum market capitalization for stocks in the S&P 500 Index is $4 billion. • Minimum public float of at least 50 percent of outstanding shares. • The company’s addition to the index will maintain a sector balance that is in line with sector
composition of the universe of eligible companies with a market cap in excess of $4 billion. For further detailed information on the S&P 500 and other S&P Indexes, please visit the Standard and Poor’s website at www.standardandpoors.com. DJIA The Dow Jones Industrial Average, although dating back to 1896, was expanded from the original 12 stocks to 30 stocks in 1928. Additionally – and also in 1928 -- the DJIA started being calculated with a divisor to account for stock splits and also additions and deletions from the index. The DJIA is maintained by the Dow Jones Indexes, but any changes to the DJIA are decided by the editors of The Wall Street Journal. For further information on the DJIA and other Dow Jones indexes please visit the Dow Jones Indexes website at www.djindexes.com. Changes in Index Composition – Dow Jones Industrial Average Given that the DJIA is a price-weighted index and has only 30 stocks, any changes in its composition could have a potentially significant impact on a spread relationship – i.e., it will likely impact the S&P 500 vs. DJIA spread. Decisions to make changes to the DJIA are made by the Dow Jones index committee on an ad-hoc basis. Note: The addition/deletion of stocks is accompanied by a change in the DJIA Divisor, so any such changes will not impact that day’s DJIA price level. However, these changes will impact how the DJIA behaves going forward, which includes intraday spread relationships. A detailed explanation of the DJIA divisor as well as its current level can be found at www.djindexes.com. Changes do not normally occur frequently, yet during the following period there were a total of 10 – from November 1999 through December 2008, a total of 10 stocks have been added to the DJIA, and 10 others have been deleted. A summary of those changes follows.
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Changes to the DJIA on November 1, 1999 Added: Microsoft (MSFT), Intel (INTC), SBC Communications (SBC) and Home Depot (HD) Deleted: Chevron (CVX), Goodyear Tire & Rubber (GT), Union Carbide (UK) and Sears, Roebuck (S) This was a very significant change to the DJIA with a major shift towards the information technology sector and away from some of the old industrial stocks. Changes to the DJIA on April 8, 2004 Added: American International Group Inc. (AIG), Pfizer Incorporated (PFE) and Verizon Communications Inc (VZ) Deleted: AT+T Corporation (T), Eastman Kodak Co. (EK) and International Paper Co (IP) Changes to the DJIA on February 19, 2008 Added: Bank of America Corp (BAC) and Chevron Corp (CVX) Deleted: Altria Group Inc (MO) and Honeywell International Inc (HON) This most recent change did have a significant impact on the energy sector weighting in the DJIA, nearly doubling its weighting to above 11 percent, as CVX was added and joined ExxonMobil (XOM). Adding BAC to the DJIA did not have a huge impact on the financial sector, as there were already four other financial stocks in the DJIA, and BAC itself had a weighting of less than 3.00 percent of the DJIA. This was the third time that Chevron (previously known as Standard Oil of California) has been added to the DJIA since 1924. It was added in 1924, 1930 and finally, in 2008. It had been deleted in 1925 and 1999. Changes to the DJIA on September 22, 2008 Added: Kraft Foods (KFT) Deleted: American International Group (AIG) AIG was deleted from the DJIA after its price collapsed and it was effectively taken over by the Federal Reserve. What Factors Affect the S&P 500 vs. DJIA Spread? Although the spread between the S&P 500 and DJIA may be affected by potentially many factors, basically there are three main factors which account for the majority of changes in the spread: Sector Weightings, Index Constituents and Index Methodology. We will address each of these three main factors in this paper. The factor which has the strongest and most significant influence on the spread, however, is the difference in Sector Weightings, and we shall therefore spend much more time on that subject. SECTOR WEIGHTINGS The various index providers use industry classification standards to calculate the many sectors, subsectors, and so on for the primary indexes. Standard and Poor’s and Dow Jones Indexes each use a different classification standard which they produce with a partner. We simply use the sector analysis for
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purposes of studying the S&P 500 vs, DJIA spread, and specifically how it behaves as different sectors have significant moves. Detailed examples will follow in this paper. Industry Classification Standards Global Industry Classification Standard (GICS) – GICS is developed and maintained by Standard and Poor’s and MSCI Barra. The GICS is used by Standard and Poor’s to classify the sectors for all its indexes including the S&P 500 Index. Industry Classification Benchmark (ICB) – ICB is developed and maintained by Dow Jones and FTSE. The ICB is used by Dow Jones to classify the sectors for all of its indexes including the DJIA. The GICS and ICB are similar in concept but do have some differences, especially when you get to the smaller subsector levels. But for our main “sector” level – the top 10 – they are quite similar. The following tables outline the major categories used by GICS and ICB in their classification standards and also the exact names assigned to each type of sector by GICS and ICB. INDEX CONSTITUENTS Index constituents will obviously play a role in how the S&P 500 vs. DJIA spread behaves. Although all 30 DJI A stocks are in the S&P 500 Index, because the former is price-weighted while the latter is market- -cap-weighted, the DJIA stocks represent only about 30-35 percent of the total weightings in the S&P 500 Index. So, the remaining 65-70 percent of the weightings in the S&P 500 Index may certainly have a market impact on the spread, especially on days when some of these stocks do not move in lock-step with the S&P 500 stocks that also happen to be DJIA stocks. This is an important factor, although the real impact on the spread may not be very significant, with the possible exceptions of a major stock that is only in the S&P 500, which has a significant move, possibly due to earnings. We do review the impact of earnings on some of these key stocks in a later section. INDEX METHODOLOGY STANDARD AND POOR’S 500 INDEX (S&P 500) The S&P 500 Index is a capitalization-weighted, float-adjusted index. The S&P 500 Index is calculated as the sum of the constituent’s float-adjusted market capitalization divided by the S&P 500 Divisor. A capitalization-weighted index measures the market capitalization of all the stocks in the index, rather than just the stock prices. The market capitalization of a stock refers to the value of the stock price multiplied by the number of shares outstanding. “Float-adjusted” refers to shares. When calculating a capitalization-weighted, float-adjusted index, only those shares available to investors are counted. This will be less than a company’s total outstanding shares. Shares held by government agencies, closely held groups and others are not counted. DOW JONES INDUSTRIAL AVERAGE (DJIA) The DJIA is a price-weighted index. The DJIA is calculated as the sum of the constituent’s prices divided by the DJIA Divisor. A price-weighted index is calculated using only the component’s stock prices, summed up and divided by the DJIA Divisor. The number of outstanding shares of each stock is not used. Therefore, the weight of a stock in the DJIA is simply determined by the stock’s price. The stock with the highest price will have the highest weighting in the DJIA. Additionally, on any given day, a $1.00 move in any two stocks would
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have the same impact on the DJIA – so a $1.00 move in IBM has the same impact as a $1.00 move in Intel, even though their respective weightings on December 18, 2008, were 7.78 percent and 1.32 percent. Although the S&P 500 and DJIA indexes are different in terms of methodology and the number of stocks comprising them, they have shown very high levels of correlation – over 95 percent during the vast majority of trading days (see “Index Correlation” section). Both indexes are dominated by large- capitalization, blue-chip stocks.
S&P 500 = Sum of Float Adjusted Market Capitalization / DivisorS&P 500 = 7,866,544,377,303 = 903.25
8,709,107,684
DJIA = Sum of DJIA Prices / DivisorDJIA = 1,101.90 = 8776.39
0.1255527090
Index Calculations - December 31, 2008
Spread Methodology and Sector Performance Introduction on Spread Trading The term “spread trading” is often applied broadly and can encompass a wide array of different relationship trades, from true arbitrage trades to spreading of different asset classes. It may be helpful to illustrate where the S&P 500 vs. DJIA index spread would be in this spectrum. Arbitrage - The simultaneous buying and selling of a security at two different prices in two different markets, resulting in profits without risk. Perfectly efficient markets present no arbitrage opportunities. Perfectly efficient markets seldom exist, but arbitrage opportunities are often precluded because of transactions costs. (Source: Bloomberg). An example could be buying and selling Intel (INTC) on two different ECN networks, or foreign exchange arbitrage between different banks. Arbitrage can also include stock index arbitrage, which is the specific trading of a stock index futures contracts against a basket of the underlying stocks in that same index. Another variant of index arbitrage is the spreading of stock index futures against the exchange traded fund (ETF) based on the same underlying index. Single Component Spreads – Examples can be divided into two basic types, similar or non-similar. Similar single component spreads can be stocks of integrated oil majors for example, such as trading the spread between ExxonMobil and Chevron. These are two different companies but they are in the same specific subset of the energy sector. Another example could be spreading between different classes of wheat in the futures markets. Examples of non-similar single component spreads could be the spreads between gold vs. platinum, gold vs. silver, ethanol vs. gasoline, and so on. Multiple Components - Index Spreads – Trading the spread between two different indexes is another type of spread trading. Depending on the nature of the indexes, the spread could be more or less complicated that trading single component spreads. For stock index markets, the spread between the S&P 500 and DJIA is one of the most highly correlated. However, there are still risks involved in spread trading, and although it may be unlikely, it is possible for a spread to have higher risk than the outright components for brief periods of time. Even for the S&P 500 vs DJIA spread, as viewed in the historical rolling correlation charts in the latter part of this paper, there are certainly moments when the markets are less than 90 percent correlated. So, even though the S&P 500 and DJIA “normally” show a correlation above 95 percent, traders must acknowledge and manage the potential risks in this spread.
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Pricing the Spread as a Ratio1 With many traditional spreads, the “spread price” or “spread value” would simply be equal to A minus B. For example, consider a spread involving two stocks, such as ExxonMobil (XOM) vs. Chevron (CVX). On December 5, 2008, XOM closed at 76.60 and CVX closed at 74.42 – so the “spread price” was simply $2.18. Another example would be the spread between Chicago Wheat futures vs. Kansas City Wheat futures. On December 5, 2008, their closing prices (for March 2009 futures) were $4.755 and $5.0325 respectively, so KC was trading at a premium of $0.2775 to Chicago. Trying to use this convention for the E-mini S&P 500 futures vs. E-mini Dow ($5) futures spread would be impractical and risky. A trader could also try taking the difference between the notional values but this would result in a “spread price” that would vary significantly and could be awkward to view. For example, using the notional values for December 5, 2008, the spread price would be (negative) - $231. During the period from January 2000 through December 2008, the range of the spread price was -$231 to $21,622. However, using a ratio (E-mini S&P 500 notional value / E-mini Dow notional value) of the respective notional dollar values of the futures contracts results in a more stable looking “spread price” for traders to analyze and view. For example, using the notional values for December 5, 2008, the spread price would be 1.0131. During the period from January 2000 through December 2008, the range of the spread price was 0.9943 to 1.4144. The S&P 500 and DJIA indexes are not only calculated using different methodologies; they are also at very different price levels. For example, on December 5, 2008, the December 2008 E-mini S&P 500 futures settled at 872.50 while the December 2008 E-mini Dow ($5) futures settled at 8612. They also have different futures “multipliers,” resulting in different dollar notional values. While there is no single “official” or “correct” way to price a spread, we will use a convention based on the ratio of dollar notional value for both pricing a spread and also helping to determine the optimal ratio of contracts to buy and sell (depending on a trader’s risk profile). Using the closing values of December 5, 2008, the E-mini S&P 500 futures had a notional value of $43,625 (872.50 x $50) and the E-mini Dow futures had a notional value of $43,060 (8612 x $5).
Calculating the Spread Price for December 5, 2008: (E-mini S&P 500 futures price * $50) / (E-mini Dow futures price * $5) (872.50 * $50) / (8612 * $5) = 1.0131
Minimum Ticks and the Dollar Value of a Net Change in the Spread Ratio2 The term “minimum tick” refers to the minimum increment that a futures contract may move in price. For example, the minimum tick in the E-mini S&P 500 futures is 0.25 index points. The value of the minimum tick is 0.25 * $50 = $12.50. For the E-mini Dow futures, the minimum tick is one Dow point with a value of 1 * $5 = $5. This is straightforward enough. However, when trading spreads, the dynamic can change. For intra-commodity spreads such as June E-mini S&P 500 vs. September E-mini S&P 500, or intercommodity spreads that are essentially similar, such as March Chicago Wheat vs. March Kansas City Wheat, the spread price is simply one contract less the other contract. Both the minimum tick and its dollar value are the same as for the individual contracts. (Note that there are some contracts that allow for a smaller minimum tick for calendar spreads).
1 Obviously there are as many ways to look at spreads as there are traders. Some traders may prefer a convention using the ratio, while others prefer the simple difference in notional values. See the following pages on monitoring the spread. 2 This issue is not unique to the S&P 500 vs. DJIA spread, as any spread market that involves contracts that 1) have a different minimum tick and 2) are being traded as a quantity ratio will not have a standard “minimum tick” for the spread.
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For an inter-commodity spread such as E-mini S&P 500 futures vs. E-mini Dow futures, however, both the minimum ticks and their dollar value are different for each contract.3 Therefore, there is no set minimum tick for the spread ratio itself, and of course set no set dollar value. The following example can illustrate this point. E-mini S&P 500 Moves Up 1 Tick E-mini S&P 500 Moves Down 1 Tick
E-mini S&P 500 E-mini Dow Spread Ratio E-mini S&P 500 E-mini Dow Spread Ratio886.00 8600 1.0302 886.00 8600 1.0302886.25 8600 1.0305 885.75 8600 1.0299
Net Change 0.25 0.00 0.0003 Net Change -0.25 0.00 -0.0003E-mini Dow Moves Up 1 Tick E-mini Dow Moves Down 1 Tick
886.00 8600 1.0302 886.00 8600 1.0302886.00 8601 1.0301 886.00 8599 1.0304
Net Change 0.00 1.00 -0.0001 Net Change 0.00 -1.00 0.0001 The net change in the spread ratio depends on whether it is due to a change in the E-mini S&P 500 futures or to a change in the E-mini Dow futures. And this is the simplest example. Both indexes will be moving at the same time during the majority of the trading day. Calculating the Spread Ratio Note: Examples in this guide use only the E-mini S&P 500 and E-mini Dow contracts. Buying the spread means buying the E-mini S&P 500 contract and selling the E-mini Dow contract, and selling the spread means selling the E-mini S&P 500 contract and buying the E-mini Dow contract. For example, if a trader expects the S&P 500 to outperform the DJIA (either up or down regardless of time frame), the trader would want to “buy the spread” – buy the E-mini S&P 500 contract and sell the E-mini Dow contract. If the spread ratio was at 1.1020, the trader who bought the spread would be looking to sell it for a ratio above 1.1020. When trading the spread between the E-mini S&P 500 and the E-mini Dow futures, the different index levels and their respective multipliers need to be taken into account. Ideally, a spread ratio which closely balances the notional values of the contracts should be used, so that the net effect of market movements is captured more precisely. This can be called a “dollar neutral” spread when it is initiated.
3 Since there is no minimum tick and we are pricing the spread as a ratio, the resulting ratio price could easily extend to 10 decimals or more. For purposes of our examples and analysis, we shall go out to four decimal places.
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S&P 500 vs. DJIA Spread Ratio Year-End Calculations A B C D E
Year End S&P 500 $notional DJIA $notional Ratio= A x $50 = C x $5 = B / D
1995 615.93 $30,797 5117.12 $25,586 1.203671996 740.74 $37,037 6448.27 $32,241 1.148741997 970.43 $48,522 7908.25 $39,541 1.227111998 1229.23 $61,462 9181.43 $45,907 1.338821999 1469.25 $73,463 11497.12 $57,486 1.277932000 1320.28 $66,014 10787.99 $53,940 1.223842001 1148.08 $57,404 10021.57 $50,108 1.145612002 879.82 $43,991 8341.63 $41,708 1.054732003 1111.92 $55,596 10453.92 $52,270 1.063642004 1213.75 $60,688 10783.01 $53,915 1.125612005 1248.29 $62,415 10717.50 $53,588 1.164722006 1418.30 $70,915 12463.15 $62,316 1.137992007 1468.36 $73,418 13264.82 $66,324 1.106962008 903.25 $45,163 8776.39 $43,882 1.02918
Trading the Spread as a Ratio Additionally, traders must also decide on the “quantity ratio” when actually trading the spread. How many contracts of the respective index futures do you buy and sell? For traders who prefer to trade the smallest quantities, trading the spread on a 1:1 basis is the obvious choice. For traders who are trading larger quantities, however, and for those who are “position traders” (holding spreads for hours, one day or potentially much longer), trading a ratio of quantities is the preferred method. CME Clearing offers reduced margins via Spread Credits for traders who use a ratio of 5:6 (five contracts of E-mini S&P 500 futures vs. six contracts of E-mini Dow futures). Although some traders may wish to trade equal quantities between the E-mini S&P 500 and E-mini Dow futures, others may want to trade using a ratio of these contracts. While there is no single “correct” ratio, consider the following three ratio alternatives:
“Buying the spread” 1 x 1 ratio = Buy one contract E-mini S&P 500 – Sell one contract E-mini Dow 5 x 6 ratio = Buy five contracts E-mini S&P 500 – Sell six contracts E-mini Dow 10 x 11 ratio = Buy 10 contracts E-mini S&P 500 – Sell 11 contracts E-mini Dow “Selling the spread” 1 x 1 ratio = Sell one contract E-mini S&P 500 – Buy one contract E-mini Dow 5 x 6 ratio = Sell five contracts E-mini S&P 500 – Buy six contracts E-mini Dow 10 x 11 ratio = Sell 10 contracts E-mini S&P 500 – Buy 11 contracts E-mini Dow
Spread Ratio – Trading “Dollar Neutral” Note: This is a critical point - even for short term traders – Given the market’s extreme volatility during the last four months of 2008, during that period of time daily net percentage moves in excess of 5 percent were not uncommon. So, even though a trader may be correct in their assessment of the spread’s direction, if they were not “dollar neutral” when the trade was initiated, the spread trade could easily show a loss. The objective is to trade a spread in a dollar neutral ratio at initiation – the trader will either make or lose money based on net percentage moves that differ between the S&P 500 and the
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DJIA. If both these indexes have exactly the same percentage move, and the spread trade was done in a dollar neutral ratio, then regardless of the extent of the percentage move that day, the spread trade should show little or no profit/loss. 4 Trading a ratio of quantities is important for traders who are holding positions long enough to witness significant market moves. For example, if both the S&P 500 and DJIA increased by 10 percent, a trader using a 1:1 quantity ratio would see the notional value of the spread move by about $500, even though the underlying markets moved by the exact same percentage amount. Trading a ratio quantity of approximately equal notional dollar amounts will have the trade as close as possible to being “dollar neutral” at initiation. Monitoring the Spread and Trade Execution There are two further hurdles that need to be addressed before a trader can start actively trading the S&P 500 vs. DJIA spread: Namely, how to monitor the spread, and then how to execute the trade. Monitoring the Spread The quote snapshots that follow are from CME Group E-Quotes5 linked into a Microsoft Excel spreadsheet. The dynamic link into Excel allows a trader to set up the spread quote and monitor it on a real time basis along with the underlying index futures. Because this is a calculated spread, a trader must set up a user defined quote, either in a software front end system or in a program such as Excel that allows for a dynamic data link. It is extremely difficult, if not impossible, to monitor the spread by simply looking at the movements of the underlying futures contracts. For the spread quotes that follow, the spread’s “Last” trade is simply the notional ratio of the last trades in the underlying indexes. The Bid and Ask for the spread is calculated as follows – Since buying (selling) the spread means buying (selling) the E-mini S&P 500 futures, then if we want to buy the spread and we need to show an offer for the spread, we need to assume that we would have to buy the offer in the E-mini S&P 500 futures and sell the bid in the E-mini Dow futures – i.e., giving up both “edges.” The reverse would be true for an order to sell the spread. The point is that since both underlying index futures are very liquid with a usual one tick market between bids and offers, then the spread itself is also quite liquid. Spread: E-mini S&P 500 vs. E-mini Dow
9-Jan-09 8:33:55 AM CDT
Contract Last Net Change Net Change % High Low Bid Ask Prev Close
ESH9 906.50 -0.25 -0.020% 914.75 900.00 906.50 906.75 906.75
YMH9 8700 4 0.050% 8749 8639 8699 8700 8696
SPREAD 1.0420 -0.0008 1.0420 1.0424 1.0427
Net % Change in Spread -0.074%
Net Diff in Outright % Changes -0.070% Note: Also displayed for informational purposes is the net percentage change in the spread ratio for that day and the net difference in the outright percentage changes between the underlying indexes – these two percentages will be virtually the same, except for a very slight difference due to the spread ratio actually carrying out further than the four decimals places shown. 4 Traders can expect to see some residual P+L even if they are trading a dollar neutral ratio and both the S&P 500 and DJIA move by the exact same percentage amount, since the true ratio is likely a fraction and futures are traded in full contracts. 5 Link to CME Group E-Quotes – www.cmegroup.com/market-data
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These quote snapshots were taken on Friday January 9, 2009, after the release of the December unemployment report. The first snapshot was taken just after the underlying stock markets opened at 8:33 am Chicago time, and both the E-mini S&P 500 futures and E-mini Dow futures were essentially unchanged in terms of price – and by extension, the spread itself was also basically unchanged. The following two quote snapshots were taken near the market close on Friday January 9, 2008. Comparing these quotes against the snapshot taken on the market open provides a good illustration of the following important points: First, the dollar weighted spread tracks the net difference in percentage changes in the underlying indexes. By definition, if the trade is initiated with a dollar neutral ratio, it will exactly track the net changes in the underlying markets, which is precisely what the trader wants to accomplish. As previously mentioned, an exact neutral weighting may not be feasible due to the fractional ratio of the spread vs. trading full contracts, but it will be extremely close. The second point that is illustrated is that the spread can and will have significant movements on many days, which provides trading opportunities. The net difference in percentage changes for the underlying markets on this day was 0.55 percent, which is a significant move. Spread: E-mini S&P 500 vs. E-mini Dow
9-Jan-09 2:47:44 PM CDT
Contract Last Net Change Net Change % High Low Bid Ask Prev Close
ESH9 889.50 -17.25 -1.900% 914.75 886.75 889.25 889.50 906.75
YMH9 8575 -121 -1.390% 8749 8542 8574 8575 8696SPREAD 1.0373 -0.0054 1.0370 1.0374 1.0427
Net % Change in Spread -0.518%
Net Diff in Outright % Changes -0.510% Spread: E-mini S&P 500 vs. E-mini Dow
9-Jan-09 2:55:44 PM CDT
Contract Last Net Change Net Change % High Low Bid Ask Prev Close
ESH9 885.25 -21.50 -2.370% 914.75 884.25 885.25 885.50 906.75
YMH9 8537 -159 -1.820% 8749 8531 8536 8537 8696
SPREAD 1.0370 -0.0058 1.0370 1.0374 1.0427
Net % Change in Spread -0.553%
Net Diff in Outright % Changes -0.550% Trade Execution Trading tactics for entering and exiting a spread trade need to be considered and planned out ahead of time:
• The spread between the E-mini S&P 500 futures and the E-mini Dow futures is not a “pre-defined” spread on the CME Globex trading platform. That means traders need to trade each leg of the spread separately instead of in just one transaction. Trading a spread by “legging” the two sides can entail some execution risk. Even though the individual sides of this spread are extremely liquid, and during the vast majority of time the individual bids and offers are at just one tick, traders need to take into account the potential risk of having to “chase” one of the sides of the spread. Again, given the normal levels of liquidity and volume, even if a trader had to “give up
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both edges,” i.e., selling the bid side and buying the offer side, this may be preferable given the risks of trying to buy the bid or sell the offer, which for stock index futures is an extremely difficult, if not impossible task.
• Another option that a trader can consider is using a so-called “auto spreader,” which is a built-in function provided by many software firms offering trading systems. The auto spreader can be used to have the computer automatically enter the order to trade both sides of the spread simultaneously once a predetermined spread level is reached.
The following information is from the CME Group website, www.cmegroup.com/globex, and provides further details for traders interested in learning more about electronic trading on the CME Globex platform: “The CME Globex platform is designed with open architecture that accommodates a wide variety of trading and market data interfaces. If you need a front-end trading system, you can:
• Develop your own • Purchase one from an independent software vendor (ISV) • Use an application provided by a broker, data center, proprietary trading group, trading arcade or
clearing firm The CME Globex Access Directory (PDF)6 lists all the companies that provide trading and market data applications that are certified for compliance with CME Globex. These companies also are committed to keeping current with platform enhancements and changes to CME interfaces and functionality. Many also offer network access in addition to front-end trading applications.”
6 The CME Group Globex Access Directory can also be found on the following direct link - http://www.cmegroup.com/globex/files/GAD.pdf
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Sector Weightings Analysis in 2008 The time period from September 2008 through November 2008 was one of the most volatile in market history, especially on the financial sector. Since the S&P 500 has had a greater weighting in the financial sector than the DJIA for at least the past seven years, the bear market had a significant impact on the S&P 500 vs. DJIA spread ratio. Below are the sector weightings for recent quarters. Quarter Ending Sector Weightings
June 30, 2008 S&P 500 DJIA DifferenceConsumer Discretionary 8.12% 11.98% -3.86%Consumer Staples 10.79% 8.92% 1.87%Energy 16.22% 13.43% 2.79%Financials 14.25% 9.98% 4.27%Health care 11.92% 8.57% 3.35%Industrials 11.12% 21.34% -10.22%Information Technology 16.44% 15.19% 1.25%Basic Materials 3.83% 5.63% -1.80%Telecom 3.32% 4.96% -1.64%Utilities 3.99% 0.00% 3.99%
100.00% 100.00%
September 30, 2008 S&P 500 DJIA DifferenceConsumer Discretionary 8.48% 13.08% -4.60%Consumer Staples 12.20% 12.09% 0.11%Energy 13.36% 11.75% 1.61%Financials 15.85% 10.10% 5.75%Health care 13.09% 8.76% 4.33%Industrials 11.08% 19.88% -8.80%Information Technology 15.96% 15.31% 0.65%Basic Materials 3.37% 4.62% -1.25%Telecom 3.05% 4.40% -1.35%Utilities 3.56% 0.00% 3.56%
100.00% 100.00%
December 31, 2008 S&P 500 DJIA DifferenceConsumer Discretionary 8.38% 14.88% -6.50%Consumer Staples 12.85% 12.45% 0.40%Energy 13.31% 13.96% -0.65%Financials 13.29% 6.43% 6.86%Health care 14.76% 9.80% 4.96%Industrials 11.06% 19.48% -8.42%Information Technology 15.30% 14.03% 1.27%Basic Materials 2.99% 3.32% -0.33%Telecom 3.83% 5.66% -1.83%Utilities 4.23% 0.00% 4.23%
100.00% 100.00%
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Sector Weightings and Spread Changes during September ~ November 2008 The S&P 500 vs. DJIA notional spread ratio declined from 1.1113 to 1.0151 during the period of August 29 – November 28, 2008. The overall market had a significant decline during this period, and some sectors were especially affected. For example, the financial sector (and the utility sector, which is not represented in the DJIA) saw significant declines, and the S&P 500 has been more heavily weighted to the financial sector than the DJIA. So, if the financial sector really underperforms the overall market, then this is likely one of the main reasons for the spread ratio to decline.
Month Ending # Constituents MKTCAP $m Sector Pct Level MTD YTDSeptember 30, 2008
S&P 500 499 10,181,456 1166.36 -9.08% -20.57%Energy 40 1,360,605 13.36% 489.34 -12.00% -18.85%Materials 30 342,691 3.37% 200.66 -17.24% -22.78%Industrials 56 1,128,268 11.08% 275.04 -12.16% -22.38%Consumer Discretionary 81 862,978 8.48% 221.25 -7.92% -14.75%Consumer Staples 41 1,242,569 12.20% 285.29 -1.62% -4.76%Health Care 53 1,332,716 13.09% 354.51 -6.33% -13.47%Financials 84 1,613,717 15.85% 270.68 -5.22% -30.96%Information Technology 74 1,625,182 15.96% 313.19 -12.75% -23.91%Telecommunications Services 9 310,264 3.05% 114.99 -12.70% -31.66%Utilities 31 362,464 3.56% 167.99 -11.67% -22.26%
October 31, 2008S&P 500 500 8,485,552 968.75 -16.94% -34.03%Energy 40 1,115,525 13.15% 401.20 -18.01% -33.47%Materials 30 266,696 3.14% 156.16 -22.18% -39.90%Industrials 57 929,732 10.96% 222.98 -18.93% -37.07%Consumer Discretionary 80 696,340 8.21% 178.62 -19.27% -31.17%Consumer Staples 41 1,094,747 12.90% 253.67 -11.08% -15.31%Health Care 53 1,175,390 13.85% 312.66 -11.81% -23.69%Financials 84 1,266,175 14.92% 209.13 -22.74% -46.66%Information Technology 74 1,335,754 15.74% 257.41 -17.81% -37.46%Telecommunications Services 9 280,706 3.31% 104.03 -9.53% -38.17%Utilities 32 324,486 3.82% 148.06 -11.87% -31.49%
November 28, 2008S&P 500 500 7,830,378 896.23 -7.49% -38.96%Energy 40 1,119,972 14.30% 402.80 0.40% -33.20%Materials 28 233,598 2.98% 138.64 -11.22% -46.64%Industrials 57 863,086 11.02% 206.03 -7.60% -41.86%Consumer Discretionary 81 629,950 8.04% 161.14 -9.78% -37.91%Consumer Staples 41 1,024,540 13.08% 248.56 -2.01% -17.02%Health Care 55 1,099,179 14.04% 290.21 -7.18% -29.17%Financials 84 1,046,139 13.36% 169.94 -18.74% -56.66%Information Technology 73 1,182,537 15.10% 227.97 -11.44% -44.62%Telecommunications Services 9 298,746 3.82% 110.72 6.43% -34.20%Utilities 32 332,632 4.25% 151.66 2.43% -29.82% Source: Standard and Poor’s.
Stock Index Futures Spread Trading
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Sector Performance in Recent Significant Market Moves The table below illustrates the impact that a sector could have on an index and therefore also on the spread ratio. Since mid-2001, the S&P 500 Index has had greater weightings in both the financial and energy sectors that the DJIA, while the latter has consistently had a greater weighting in the industrial sector. The very significant moves in both the financial and energy sectors since 2002 have led the S&P 500 to either outperform or underperform the DJIA during those years. Sector PerformanceJuly 24, 2002 ~ January 17, 2006S&P 500 Outperforms; Spread Ratio Increases from 1.0297 to 1.1748
Price Appreciation Total ReturnS&P 500 52.11% 61.92%DJIA 33.02% 43.89%Financial Sector 55.08% 67.37%Energy Sector 163.67% 179.33%Industrial Sector 52.57% 60.94%January 17, 2006 ~ March 17, 2008DJIA Outperforms; Spread Ratio Decreases from 1.1748 to 1.0663
Price Appreciation Total ReturnS&P 500 -0.49% 3.78%DJIA 9.87% 15.65%Financial Sector -27.13% -23.36%Energy Sector 29.63% 32.83%Industrial Sector 14.11% 17.93%June 27, 2008 ~ November 20, 2008DJIA Outperforms; Spread Ratio Decreases from 1.1267 to 0.9963
Price Appreciation Total ReturnS&P 500 -41.14% -40.56%DJIA -33.44% -32.58%Financial Sector -54.35% -53.96%Energy Sector -54.20% -54.06%Industrial Sector -40.65% -40.34%Source: Bloomberg Sector Comparisons Since 1999 The table on the following page shows historical sector distributions at each year end from 1999 through 2008. For the DJIA, the addition of Chevron in February 2008 was a significant change – at year end 2007, the S&P 500’s energy weighting was more than double that in the DJIA, but by year end 2008, the energy weightings was virtually identical, and the closest ‘spread’ between the energy weightings in the past ten years. This also helped to reduce the industrial sector weighting in the DJIA to below 20 percent for the first time since 1999. It is somewhat interesting to note that at year end 2008, the sectors for both the S&P 500 and DJIA were probably more balanced than at any other time since 1999 – i.e., neither index had a sector which dominated the others. Compare the 2008 year-end sector percentages to 1999, which had a very large technology weighting, or 2006 with the financial sector dominating the S&P 500 Index.
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Historical Sector DistributionsS&P 500 DJIA S&P 500 DJIA
12/31/1999 12/31/2004Consumer Discretionary 12.70% 12.73% Consumer Discretionary 11.90% 14.84%Consumer Staples 7.17% 10.43% Consumer Staples 10.48% 9.37%Energy 5.55% 3.44% Energy 7.16% 3.51%Financials 13.02% 14.57% Financials 20.64% 14.34%Health Care 9.31% 7.02% Health Care 12.68% 8.39%Industrials 9.91% 19.88% Industrials 11.79% 27.86%Information Technology 29.18% 18.68% Information Technology 16.05% 11.63%Basic Materials 3.00% 8.85% Basic Materials 3.09% 5.51%Telecom 7.94% 4.39% Telecom 3.27% 4.54%Utilities 2.22% 0.00% Utilities 2.94% 0.00%
100.00% 100.00% 100.00% 100.00%12/31/2000 12/31/2005Consumer Discretionary 10.28% 13.83% Consumer Discretionary 10.81% 16.41%Consumer Staples 8.11% 10.70% Consumer Staples 9.45% 8.78%Energy 6.57% 4.90% Energy 9.31% 4.20%Financials 17.34% 15.32% Financials 21.28% 15.53%Health Care 14.36% 11.21% Health Care 13.34% 8.61%Industrials 10.57% 23.00% Industrials 11.35% 24.92%Information Technology 21.23% 10.47% Information Technology 15.10% 12.09%Basic Materials 2.29% 6.92% Basic Materials 2.99% 5.38%Telecom 5.46% 3.64% Telecom 3.01% 4.08%Utilities 3.79% 0.00% Utilities 3.36% 0.00%
100.00% 100.00% 100.00% 100.00%12/31/2001 12/31/2006Consumer Discretionary 13.16% 16.04% Consumer Discretionary 10.62% 16.12%Consumer Staples 8.24% 12.10% Consumer Staples 9.25% 9.21%Energy 6.34% 2.73% Energy 9.83% 4.93%Financials 17.82% 8.50% Financials 22.27% 15.19%Health Care 14.34% 8.18% Health Care 12.03% 8.71%Industrials 11.28% 24.14% Industrials 10.84% 23.98%Information Technology 17.57% 16.14% Information Technology 15.14% 12.11%Basic Materials 2.63% 8.22% Basic Materials 2.96% 5.06%Telecom 5.50% 3.95% Telecom 3.51% 4.69%Utilities 3.12% 0.00% Utilities 3.55% 0.00%
100.00% 100.00% 100.00% 100.00%12/31/2002 12/31/2007Consumer Discretionary 13.44% 15.06% Consumer Discretionary 8.48% 14.78%Consumer Staples 9.49% 13.76% Consumer Staples 10.23% 9.79%Energy 6.00% 2.88% Energy 12.86% 5.74%Financials 20.45% 7.81% Financials 17.64% 11.24%Health Care 14.91% 9.11% Health Care 11.97% 9.04%Industrials 11.53% 25.78% Industrials 11.51% 25.71%Information Technology 14.31% 12.96% Information Technology 16.74% 13.53%Basic Materials 2.83% 8.27% Basic Materials 3.33% 4.94%Telecom 4.19% 4.37% Telecom 3.62% 5.22%Utilities 2.85% 0.00% Utilities 3.62% 0.00%
100.00% 100.00% 100.00% 100.00%12/31/2003 12/31/2008Consumer Discretionary 11.29% 15.39% Consumer Discretionary 8.38% 14.88%Consumer Staples 10.98% 14.49% Consumer Staples 12.85% 12.45%Energy 5.80% 2.91% Energy 13.31% 13.96%Financials 20.65% 9.48% Financials 13.29% 6.43%Health Care 13.31% 6.95% Health Care 14.76% 9.80%Industrials 10.90% 26.22% Industrials 11.06% 19.48%Information Technology 17.74% 12.26% Information Technology 15.30% 14.03%Basic Materials 3.04% 9.02% Basic Materials 2.99% 3.32%Telecom 3.45% 3.29% Telecom 3.83% 5.66%Utilities 2.84% 0.00% Utilities 4.23% 0.00%
100.00% 100.00% 100.00% 100.00%
Stock Index Futures Spread Trading
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Spread Analysis The Spread Analysis section that follows over the next several pages will review the spread over a long-term period with major sector movements and their impact on the spread. This will be followed by an analysis of six key trading days that occurred during the period from September ~ November 2008. The table below helps to illustrate the magnitude of price ranges for the underlying indexes and the spread. Historical Index & Spread Levels
2004 Spread S&P 500 DJIA Open 1.0643 1111.92 10452.74High 1.1285 1217.33 10868.07Low 1.0643 1060.72 9708.40Last 1.1239 1211.92 10783.01Range 0.0642 156.61 1159.67Range Pct of High 5.69% 12.87% 10.67%
2005Open 1.1204 1211.92 10783.75High 1.1710 1275.80 10984.46Low 1.1135 1136.15 10000.46Last 1.1647 1248.29 10717.50Range 0.0574 139.65 984.00Range Pct of High 4.91% 10.95% 8.96%
2006Open 1.1697 1248.29 10718.30High 1.1826 1431.81 12529.88Low 1.1300 1219.29 10661.15Last 1.1380 1418.30 12463.15Range 0.0527 212.52 1868.73Range Pct of High 4.45% 14.84% 14.91%
2007Open 1.1356 1418.03 12459.54High 1.1543 1576.09 14198.10Low 1.0871 1363.98 11939.61Last 1.1070 1468.36 13264.82Range 0.0672 212.11 2258.49Range Pct of High 5.82% 13.46% 15.91%
2008Open 1.1094 1467.97 13261.82High 1.1289 1471.77 13279.54Low 0.9943 741.02 7449.38Last 1.0292 903.25 8776.39Range 0.1346 730.75 5830.16Range Pct of High 11.92% 49.65% 43.90%Source: Bloomberg
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Long-Term Impact of Sector Weightings on the S&P 500 vs. DJIA Spread Viewing the S&P 500 vs. DJIA Spread Ratio from a long-term angle helps to put some historical perspective on market moves and especially on how the different sector weightings can and do have a significant impact on the spread. Since 1999, although there have been many moves among the various sectors, the two most important impacts on the spread have been 1) The decline of the spread ratio during 2000 to 2003 due to the significant overweight in technology in the S&P 500 Index compared to the DJIA; and 2) The decline during the last half of 2008 due to the significant overweight in financials in the S&P 500 Index compared to the DJIA. While it may be safe to say that very few or virtually no traders may hold stock index spread positions for multiple year periods, it is still extremely useful to examine the chart below to see the potential impact when a sector that happens to be over/under weight in one index has a significant move. For example, the collapse in the technology sector – at the start of 2000, the S&P 500 Index had a technology weighting of approximately 29 percent, while the DJIA had a tech weighting of about 17 percent. Since the spread is defined here as the ratio of the notional value of the E-mini S&P 500 divided by the notional value of the E-mini Dow, as the S&P 500 Index experiences a more significant decline due to the technology weightings, then the spread ratio itself also see a serious decline, from about 1.4000 to 1.0245, during the time frame that basically matched the bear market itself.
0.9000.9250.9500.9751.0001.0251.0501.0751.1001.1251.1501.1751.2001.2251.2501.2751.3001.3251.3501.3751.4001.4251.4501.4751.500
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Dollar Weighted Notional Ratio - S&P 500 ~ DJIA
Technology bear market. S&P 500 overweight in tech vs. DJIA. Spread Ratio declines from 1.4051 to 1.0245 during March 2000 to July 2002.
Recovery in technology and advances in energy sector. S&P 500 overweight in both tech and energy vs. DJIA. Spread Ratio increases from 1.0245 to 1.1810 during July 2002 to January 2006.
Financial shares crash. S&P 500 overweight financials vs. DJIA. Spread Ratio declines from 1.1267 to 0.9963during June 2008 to November 2008.
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Spread Ratio E‐mini S&P 500
Date: September 29, 2008 S&P 500: 1106.39 -8.790% DJIA: 10365.45 -6.979% Spread Ratio: 1.0674 (1.0886) Divergence: High Comment: A high divergence day with a large downmove in the underlying markets and a very
significant decline in the spread ratio level. Monday September 29, 2008 was an extremely volatile day which saw the S&P 500 close down 8.79 percent and the DJIA closes down 6.98 percent. Additionally, this was a day of significant divergence between the indexes, and the S&P 500 vs. DJIA Spread Ratio fell from 1.0886 to 1.0674, historically a large one day movement. The S&P 500 underperformed the DJIA as the financial sector fell by 16.01 percent and the energy sector fell by 10.93 percent. The S&P 500 Index was overweight in both the financial and energy sectors compared to the DJIA during this time.
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Spread Ratio E‐mini S&P 500
Date: October 15, 2008 S&P 500: 907.84 -9.035% DJIA: 8577.91 -7.873% Spread Ratio: 1.0583 (1.0719) Divergence: High Comment: Another high divergence day with a large downmove in the underlying markets and a
significant decline in the spread ratio level. The S&P 500 underperformed the DJIA as the energy sector fell by 15.54 percent and the utility sector fell by 8.17 percent. The S&P 500 Index is overweight in the energy sector compared to the DJIA; at end of September 2008, the S&P 500 energy weighting was 13.36 percent compared to the DJIA’s energy weighting of 11.75 percent. The DJIA has no utility stocks (they are reserved for the Dow Jones Utility Index). The financial sector fell 9.12 percent on this day, basically matching the underlying indexes and therefore not having an impact on the spread ratio.
Stock Index Futures Spread Trading
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Spread Ratio E‐mini S&P 500
Date: November 24, 2008 S&P 500: 851.81 +6.472% DJIA: 8443.39 +4.933% Spread Ratio: 1.0088 (0.9943) Divergence: High Comment: A high divergence day with a large upmove in the underlying markets and a significant
increase in the spread ratio level. The S&P 500 Index overperformed the DJIA as the financial sector increased by 18.77 percent. The S&P 500 Index is overweight in the financial sector compared to the DJIA; at the end of September 2008, the S&P 500 Index had a financials weigthting of 15.85 percent compared to the DJIA’s financial sector weighting of 10.10 percent, which helps account for the significant outperformance of the S&P 500 Index on this day.
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1‐Dec‐08
Spread Ratio E‐mini S&P 500
Date: December 1, 2008 S&P 500: 816.21 -8.930% DJIA: 8149.09 -7.701% Spread Ratio: 1.0016 (1.0151) Divergence: High Comment: A high divergence day with a large downmove in the underlying markets and a significant
decrease in the spread ratio level. The S&P 500 Index underperformed the DJIA as the financial sector fell by 17.01 percent. The S&P 500 Index is overweight in the financial sector compared to the DJIA; at the end of September 2008, the S&P 500 Index had a financials weighting of 15.85 percent compared to the DJIA’s financial sector weighting of 10.10 percent, which helps account for the significant underperformance of the S&P 500 Index on this day. Additionally, the utility sector fell by 6.54 percent, also hurting the spread ratio as the DJIA has no utility stocks.
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24‐Sep‐08Spread Ratio E‐mini S&P 500
Date: September 24, 2008 S&P 500: 1185.87 -0.198% DJIA: 10825.20 -0.267% Spread Ratio: 1.0955 (1.0947) Divergence: Low Comment: A low divergence day with a basically unchanged market and a quite stable spread ratio.
The energy sector was virtually unchanged on this day, increasing by 0.06 percent. The financial sector fell by 1.48 percent, which normally would have hurt the S&P 500 Index a bit more and affected the spread; however, on this day, the industrial sector fell by 1.34 percent, more than the overall market. Because the DJIA is overweight the industrial sector, this helped to offset the decrease in the financial sector.
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28‐Oct‐08Spread Ratio E‐mini S&P 500
Date: October 28, 2008 S&P 500: 940.51 +10.789% DJIA: 9065.12 +10.878% Spread Ratio: 1.0375 (1.0383) Divergence: Low Comment: A low divergence day with a large upward move in the underlying market and a quite
stable spread ratio. This is a significant day to review, as the markets had a huge net gain on the day, near historic percentage records, yet it was a very low divergence day, with the S&P 500 and DJIA indexes increasing by virtually the same percentage amount. There were no moves in any of the sectors that varied significantly from the overall market: Energy +11.94 percent, Financials +12.50 percent, Industrials +9.98 percent.
Stock Index Futures Spread Trading
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Intra-Day Dollar Weighted Ratio Comparison The chart and table below illustrate the spread ratio on an intraday basis on two very different days. September 29, 2008 was chosen as a High Divergence day and September 24, 2008, as a Low Divergence day.
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24‐Sep‐08 29‐Sep‐08
24-Sep-08 29-Sep-08Spread Ratio S&P 500 DJIA Spread Ratio S&P 500 DJIA
High 1.0992 1197.41 11041.02 1.0888 1209.07 11139.62Low 1.0934 1179.79 10696.38 1.0676 1106.42 10266.76Last 1.0982 1185.87 10825.17 1.0701 1106.42 10365.45Net Change 0.0008 -2.35 -29.00 -0.0212 -106.85 -777.68Range 0.0058 17.62 344.64 0.0211 102.65 872.86Range Percent 0.52% 1.49% 3.18% 1.98% 9.28% 8.42%
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26
Sensitivity of the Spread On some days, the spread between the S&P 500 Index and the DJIA Index will not perform as expected. Those will be the days when either the end of day net percentage changes are significantly different and/or when the intraday correlations are low or volatile. The net effect is that, on those days, trading this spread will be a challenge. Keeping a close vigil on the main “high discrepancy” stocks (such as IBM, Boeing, 3M and others), however, can help reduce the spread trading risk by helping a trader to determine if this will be a High Divergence (HD) day or a Low Divergence (LD) day. Obviously, there will be more risk on the HD days (this is not to say that a trader can expect to make money just because he sees an LD day – like all trading, there is risk involved, and a trader’s job is to manage risk). Example: If all the stocks in both the S&P 500 and DJIA indexes were unchanged on a given day except for IBM, the effect on each index would be as follows.
January 4, 2008 closing prices – IBM = 101.13 S&P 500 = 1411.63 DJIA = 12800.18
If IBM were to increase by 1.00 percent while all the other stocks remained unchanged:
IBM = Increase from 101.13 to 102.14, up 1.01 or + .998715 percent S&P 500 = Increase from 1411.63 to 1411.79, up .16 points or + .011334 percent
DJIA = Increase from 12,800.18 to 12,808.39, up 8.21 points or + .064140 percent
So, just a relatively small move in IBM, coupled with other stocks remaining unchanged, can cause a measurable divergence in the spread.
January 4, 2008, closing prices: Boeing = 85.82 S&P 500 = 1411.63 DJIA = 12800.18
If Boeing were to increase by 5.00 percent while all the other stocks remained unchanged:
BA = Increase from 85.82 to 90.11, up 4.29 or + 4.9988 percent S&P 500 = Increase from 1411.63 to 1412.01, up .38 points or + .02691 percent DJIA = Increase from 12,800.18 to 12,835.05, up 34.22 points or + .27242 percent
Stock Index Futures Spread Trading
27
Spread Risk – Earnings Release Days for “High Discrepancy” Stocks One potential source of volatility in the S&P 500 – DJIA spread could be earnings announcements among the group of so-called High Discrepancy stocks. The list of eleven stocks shown in the following table all had weighting discrepancies of at least 3.00 percent (as of December 18, 2008). Weighting Discrepancies on December 18, 2008
12/18/2008 Ticker DJIA Weight SPX Weight Weight DiscrepancyIBM IBM 7.78% 1.47% 6.31%Chevron CVX 6.76% 1.94% 4.82%McDonalds MCD 5.67% 0.89% 4.78%3M MMM 5.25% 0.51% 4.74%United Technologies UTX 4.70% 0.63% 4.07%Caterpillar CAT 3.90% 0.33% 3.57%Wal Mart WMT 5.13% 1.61% 3.52%Boeing BA 3.80% 0.39% 3.41%Johnson & Johnson JNJ 5.46% 2.13% 3.33%Procter & Gamble PG 5.58% 2.34% 3.24%Coca-Cola KO 4.18% 1.16% 3.02% All the stocks listed above have a March/June/September/December earnings cycle. Their normal earnings announcements usually occur the following month, i.e., January/April/July/October. Spread Risk Example: April 11, 2008 – General Electric Co. Earnings Release General Electric (GE) released Q1 2008 earnings on April 11, 2008. The results were well below market expectations, and GE stock closed down 12.79 percent (second worst day for GE since Oct. 1987). GE Q1 earnings were $0.43/share actual vs. $0.51/share expected. However, GE is a “low discrepancy” stock – its weightings difference between the S&P 500 and DJIA was only 0.64 percent on April 11, 2008. So even a 12.79 percent change in GE’s stock did not impact the spread – both the S&P 500 and DJIA closed down 2.04 percent for the day. GE weightings on April 11, 2008 were 2.117 percent in the DJIA and 2.76 percent in the S&P 500 Index.
April 11, 2008 DJIA 12325.42 -256.56 -2.04 percent S&P 500 1332.83 -27.72 -2.04 percent GE 32.05 -4.70 -12.79 percent
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28
E-mini S&P 500 vs. E-mini Dow - April 11, 2008 Trade Date
1.077
1.078
1.079
1.080
1.081
1.082
1.083
1.084
1.085
1.086
1.087
17:0
0:00
18:1
0:00
19:2
0:00
20:3
0:00
21:4
0:00
22:5
0:00
0:00
:00
1:10
:00
2:20
:00
3:30
:00
4:40
:00
5:50
:00
7:00
:00
8:10
:00
9:20
:00
10:3
0:00
11:4
0:00
12:5
0:00
14:0
0:00
15:1
0:00
Divergence: S&P 500 - 2.04% DJIA - 2.04% Net Diff: .00%
General Electric Co. (GE) - April 11, 2008
Source: Bloomberg.
Stock Index Futures Spread Trading
29
P&L and Risk Margin Calculations Calculating the Spread’s P+L – Day Trading Examples E-mini S&P 500 vs. E-mini Dow Day Trade
Day Trade Example - BUYING the SpreadTrade Date - September 29, 2008
S&P 500 1x1 5x6 10x1111:20:00 AM Buy 1166.50 1166.50 1166.5011:45:00 AM Sell 1173.25 1173.25 1173.25
Net $337.50 $1,687.50 $3,375.00
DJIA11:20:00 AM Sell 10854 10854 1085411:45:00 AM Buy 10899 10899 10899
Net -$225.00 -$1,350.00 -$2,475.00
Net P+L $112.50 $337.50 $900.00
Ratio Spread Level11:20:00 AM Buy 1.0747 Spread Change11:45:00 AM Sell 1.0765 Up .0018
Day Trade Example - SELLING the SpreadTrade Date - September 29, 2008
S&P 500 1x1 5x6 10x118:25:00 AM Sell 1197.00 1197.00 1197.00
10:00:00 AM Buy 1176.00 1176.00 1176.00Net $1,050.00 $5,250.00 $10,500.00
DJIA8:25:00 AM Buy 11008 11008 11008
10:00:00 AM Sell 10897 10897 10897Net -$555.00 -$3,330.00 -$6,105.00
Net P+L $495.00 $1,920.00 $4,395.00
Ratio Spread Level8:25:00 AM Sell 1.0874 Spread Change
10:00:00 AM Buy 1.0792 Down .0082
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Calculating the Spread’s P+L – Position Trading Examples E-mini S&P 500 vs. E-mini Dow Position Trade
Position Trade Example - BUYING the Spread
S&P 500 1x1 5x6 10x116-Nov-08 Buy 904.50 904.50 904.50
10-Nov-08 Sell 921.50 921.50 921.50Net $850.00 $4,250.00 $8,500.00
DJIA6-Nov-08 Sell 8700 8700 8700
10-Nov-08 Buy 8887 8887 8887Net -$935.00 -$5,610.00 -$10,285.00
Net P+L -$85.00 -$1,360.00 -$1,785.00
Ratio Spread Level6-Nov-08 Buy 1.0397 Spread Change
10-Nov-08 Sell 1.0369 Down .0028
Position Trade Example - SELLING the Spread
S&P 500 1x1 5x6 10x1117-Nov-08 Sell 851.00 851.00 851.0020-Nov-08 Buy 748.25 748.25 748.25
Net $5,137.50 $25,687.50 $51,375.00
DJIA17-Nov-08 Buy 8259 8259 825920-Nov-08 Sell 7487 7487 7487
Net -$3,860.00 -$23,160.00 -$42,460.00
Net P+L $1,277.50 $2,527.50 $8,915.00
Ratio Spread Level17-Nov-08 Sell 1.0304 Spread Change20-Nov-08 Buy 0.9994 Down .0310
Stock Index Futures Spread Trading
31
Spread Margin Requirements Initial margin requirements for U.S. stock index futures have often been in the range of 5-7 percent of the underlying notional value of the contract (note: Margin requirements can and will be increased if market conditions warrant such a decision). The CME Clearing Division offers “spread credits” for spread trades between similar products. These spread credits can have a dramatic impact on the initial margin requirements for highly correlated spread such as the S&P 500 vs. the DJIA. Currently, CME Group offers a spread credit rate of 90 percent for the S&P 500 vs. the DJIA spread. That means that the margins for a spread would only be 10% of the normal outright initial margins. The spread credit for the E-mini S&P 500 vs. the E-mini Dow contracts applies a standard spread ratio of 5:6 (five contracts of E-mini S&P 500 vs. six contracts of E-mini Dow).
Fractional Spreads
The CME Clearing Division will calculate spread credits based on whole and fractional spreads. For example, the standard ratio for margin purposes is 5:6 (five contracts of E-mini S&P 500 vs. six contracts of E-mini Dow). So, spread quantities based exactly on the 5:6 ratio (i.e., 10 x 12, 50 x 60, and so on) will enjoy the full 90 percent spread credit. Spread ratios that are not exactly on a 5:6 ratio will receive spread credits at an effective rate of less than 90 percent, as all of the spread that qualifies for the 5:6 rate will be margined at the 90 percent credit, while the remaining fractional quantities will be margined at a combination of the 90 percent credit rate and the normal outright margin rate. The following example will help illustrate this point. Position: Long 10 E-mini S&P 500 futures and Short 11 E-mini Dow futures
1) Margin the 11 E-mini Dow futures at the 90 percent spread credit rate 2) Multiply 11 x .8333 (the standard ratio of 5 divided by 6) to arrive at 9.166, rounding this up to
9.17. The number of E-mini S&P 500 futures that can be margined at the 90 percent spread credit rate is 9.17.
3) The remaining .83 contracts of E-mini S&P 500 futures will be margined at the normal outright margin rate of $4,500 per contract.
Please see the following table to view examples using both the 5:6 Standard Ratio and also the 10:11 Ratio.
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32
Standard Ratio - 5 E-mini S&P 500 vs. 6 E-mini DowInitial Margins Outright MarginE-mini S&P 500 6,188E-mini Dow 6,875
Total 13,063
Spread Credit 90% Spread CreditE-mini S&P 500 618.80 (6188*.10)E-mini Dow 687.50 (6875*.10)
Total 1,306
Spread with 5:6 Ratio Outright MarginLong 5 E-mini S&P 500 30,940 (5*6188)Short 6 E-mini DJIA 41,250 (6*6875)
Total $72,190
Spread Credit 90% Spread CreditLong 5 E-mini S&P 500 3,094 (5*618.80)Short 6 E-mini DJIA 4,125 (6*687.50)
Net Margin Due $7,219
Net Margin Savings $64,971Net Savings Percent 90%
Refined Ratio - 10 E-mini S&P 500 vs. 11 E-mini DowInitial Margins Outright MarginE-mini S&P 500 6,188E-mini Dow 6,875
Total 13,063
Spread Credit 90% Spread CreditE-mini S&P 500 618.80 (6188*.10)E-mini Dow 687.50 (6875*.10)
Total 1,306
Spread with 10:11 Ratio Outright MarginLong 10 E-mini S&P 500 61,880 (10*6188)Short 11 E-mini DJIA 75,625 (11*6875)
Total $137,505
Spread Credit 90% Spread CreditLong 9.17 E-mini S&P 500 5,674 (9.17*618.80)Long 0.83 E-mini S&P 500 5,136 (0.83*6188)Short 11 E-mini DJIA 7,563 (11*687.50)
Net Margin Due $18,373
Net Margin Savings $119,132Net Savings Percent 87%
(Outright margin levels and spread credits of 90% as of December 2008)
Stock Index Futures Spread Trading
33
Index Correlations and Historical Volatilities Index Correlations Correlation between the S&P 500 Index and the Dow Jones Industrial Average The correlation between the S&P 500 Index and the Dow Jones Industrial Average is among the highest among all indexes overall, and certainly when considering the major high volume stock index futures with the most liquidity available. While correlations will vary over time, the S&P 500 and DJIA indexes are consistently correlated above 95 percent during the majority of trading days. Rolling correlations of percentage price changes, over varying time periods, have been used as a way to measure the relationship between the S&P 500 and DJIA indexes thoroughly. The time periods studied are 10 days, 20 days, 50 days and 63 days. Additionally, in eight separate and specific trading day examples, 10 minute rolling correlations have also been calculated. These are shown in the examples included in this paper. The following table helps to describe in further detail the correlation between the S&P 500 and the DJIA. The data covers all trading days from January 2002 through December 2008 for a total of eight years, or to be exact, 1,761 trading days. January 2002 Through December 2008: 1,761 Trading Days
Total Days 10 day 20 day 50 day 63 day<85% 24 0 0 0<90% 70 26 0 0<95% 398 358 274 247
Percent of Days 10 day 20 day 50 day 63 day<85% 1.06% 0.00% 0.00% 0.00%<90% 3.10% 1.15% 0.00% 0.00%<95% 17.60% 15.83% 12.12% 10.92%
For example, looking at the 20-day rolling correlation of percentage price changes from January 2002 through December 2008, the correlation between the S&P 500 and the DJIA was below 90 percent on only 26 days or only during 1.15 percent of trading days. If correlations are virtually 100 percent, then there are almost no trading opportunities. Conversely, low correlations, or those that are often moving erratically, may indicate a spread that can be very risky to trade, especially if overnight positions need to be maintained.
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Rolling Correlations of Percentage Price Changes
0%
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20-day Rolling Correlation of Percent Price Changes -Long Term View
S&P 500 vs. DJIA
80%
82%
84%
86%
88%
90%
92%
94%
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98%
100%
2/3/
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20-day Rolling Correlation of Percent Price Changes
S&P 500 vs. DJIA
Stock Index Futures Spread Trading
35
Historical Volatilities The Historical Volatilities (HVs) of the S&P 500 and DJIA are extremely similar, as can be expected since these indexes have very high degrees of correlation.
0.00%
20.00%
40.00%
60.00%
80.00%
100.00%
120.00%
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/3/2
002
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312
/3/2
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/3/2
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512
/3/2
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/200
612
/3/2
006
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8/3/
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/200
712
/3/2
007
2/3/
2008
4/3/
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8/3/
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10/3
/200
812
/3/2
008
S&P 500 Index & DJIA - 10 day Historical Volatility
S&P 500 DJIA
0.00%
20.00%
40.00%
60.00%
80.00%
100.00%
120.00%
1/16
/198
5
1/16
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1/16
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S&P 500 Index & DJIA - 20 day Historical Volatility - Long Term View
S&P 500 DJIA
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36
Review of Recent Volatility Periods The previous historical volatility charts and the percentage price change chart below help illustrate the major trends since the late 1980s. Following the October 1987 market crash, volatility fell, and except for a few brief periods – October 1989 and October 1990 - remained low for a sustained period of time until finally rising again in 1997 after the start of the Asian financial crisis. The period during 1997 through mid-2003 was almost the opposite – overall higher levels of volatility with a few periods of lower levels. Especially during the bear market period from March 2000 until mid-2003, volatility remained at high levels. From late 2003 until the end of 2007 again saw a sustained period of low volatility as the stock markets rebounded from the 2003 lows and made new all time highs in October 2007. As the percentage price change chart below shows, 2008 was a period of very high levels of volatility, especially from September through mid December.
-22.50%
-20.00%
-17.50%
-15.00%
-12.50%
-10.00%
-7.50%
-5.00%
-2.50%
0.00%
2.50%
5.00%
7.50%
10.00%
12.50%
15.00%
1/2/
1985
1/2/
1986
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S&P 500 Percentage Price Changes, 1985 ~ 2008
Years of sustained low volatility followed the 1987 market crash.
The period from 1997 ~ mid 2003 was one of moderate to high volatility. This was followed by relatively low levels of volatility from late 2003 until late 2007.
Stock Index Futures Spread Trading
37
Overview of Daily Percentage Returns for S&P 500 and DJIA Daily Percentage Price ReturnsJanuary 2000 ~ December 2008
S&P500 DJIAMean -0.0123% Mean -0.0036%Median 0.0409% Median 0.0357%Minimum -9.0350% Minimum -7.8733%Maximum 11.5800% Maximum 11.0803%
0
50
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Freq
uenc
y
S&P 500 Histogram of Daily Returns - Jan. 2000 ~ Dec. 2008
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Freq
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DJIA Histogram of Daily Returns - Jan. 2000 ~ Dec. 2008
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38
Appendix Contract Specifications Average Daily Volumes Liquidity and Hourly Analysis Index Calculations Stock Index Futures Fair Values Equity Price Limit Guide
Stock Index Futures Spread Trading
39
Contract Specifications
Trade Unit Trade Unit
Contract Listing Contract Listing
Product Code Product Code
Hours Hours
Limits Limits
Regular 0.25=$12.50 Regular 1=$5.00
Calendar Spread
0.05=$2.50 Calendar Spread 1=$5.00
Minimum Fluctuation
E-mini Dow Futures$5 times the Dow Jones Industrial Average
Four months in the March Quarterly Cycle.
Clearing=YM ; Ticker=YM
Trading Venue: CME® Globex®
Overnight Hours: 5% (up & down) Daytime Hours: 10%, 20% and 30% limits (down only)
E-mini S&P 500 Futures$50 times the Standard & Poor's 500 Stock Index
Five months in the March Quarterly Cycle.
Minimum Fluctuation
Trading Venue: CME® Globex®Mon/Thurs 5:00 p.m.-3:15 p.m. & 3:30 p.m.-4:30 p.m.; Shutdown period from 4:30 p.m. to 5:00 p.m. nightly; Sun & Holidays 5:00 p.m.-3:15 p.m. Month end(3:15 p.m.) LTD(8:30 a.m.)^̂ ^̂ ̂(AON FLOOR ONLY! 8:30 a.m.-3:15 p.m.)
Overnight Hours: 5% (up & down) Daytime Hours: 10%, 20% and 30% limits (down only)
Mon/Thurs 5:00 p.m.-3:15 p.m. & 3:30 p.m.-4:30 p.m.; Shutdown period from 4:30 p.m. to 5:00 p.m. nightly; Sun & Holidays 5:00 p.m.-3:15 p.m. Month end(3:15 p.m.) LTD(8:30 a.m.)^̂ ^̂ ̂(AON FLOOR ONLY! 8:30 a.m.-3:15 p.m.)
Clearing=ES ; Ticker= ES
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40
Average Daily Volumes (ADV)
0
250,000
500,000
750,000
1,000,000
1,250,000
1,500,000
1,750,000
2,000,000
2,250,000
2,500,000
2,750,000
3,000,000
3,250,000
3,500,000
3,750,000
4,000,000
Apr
-02
Jun-
02A
ug-0
2O
ct-0
2D
ec-0
2Fe
b-03
Apr
-03
Jun-
03A
ug-0
3O
ct-0
3D
ec-0
3Fe
b-04
Apr
-04
Jun-
04A
ug-0
4O
ct-0
4D
ec-0
4Fe
b-05
Apr
-05
Jun-
05A
ug-0
5O
ct-0
5D
ec-0
5Fe
b-06
Apr
-06
Jun-
06A
ug-0
6O
ct-0
6D
ec-0
6Fe
b-07
Apr
-07
Jun-
07A
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7O
ct-0
7D
ec-0
7Fe
b-08
Apr
-08
Jun-
08A
ug-0
8O
ct-0
8D
ec-0
8
E-mini S&P 500 ADV - monthly
0
25,000
50,000
75,000
100,000
125,000
150,000
175,000
200,000
225,000
250,000
275,000
300,000
325,000
350,000
Apr
-02
Jun-
02A
ug-0
2O
ct-0
2D
ec-0
2Fe
b-03
Apr
-03
Jun-
03A
ug-0
3O
ct-0
3D
ec-0
3Fe
b-04
Apr
-04
Jun-
04A
ug-0
4O
ct-0
4D
ec-0
4Fe
b-05
Apr
-05
Jun-
05A
ug-0
5O
ct-0
5D
ec-0
5Fe
b-06
Apr
-06
Jun-
06A
ug-0
6O
ct-0
6D
ec-0
6Fe
b-07
Apr
-07
Jun-
07A
ug-0
7O
ct-0
7D
ec-0
7Fe
b-08
Apr
-08
Jun-
08A
ug-0
8O
ct-0
8D
ec-0
8
E-mini Dow ADV - monthly
Stock Index Futures Spread Trading
41
Liquidity and Hourly Analysis Liquidity vs. ETFs (Exchange Traded Funds) Both the E-mini S&P 500 Index futures (ES) and the E-mini Dow Index futures (YM) have daily average notional value traded of at least five times the comparative underlying ETF. Liquidity is therefore significantly better in the E-mini index futures than their ETF counterparts. Additionally, E-mini index futures have a significant advantage vs. the ETF in terms of initial margin requirements. Current initial margins for E-mini S&P 500 index futures (ES) and the E-mini Dow index futures (YM) are $4,500 and $3,503 respectively, or about 6.8 percent and 5.7 percent of the underlying value. This compares to initial deposit requirements for ETFs of 50 percent (Reg T).
$-
$10
$20
$30
$40
$50
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$70
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$90
$100
$110
$120
$130
$140
$150
$160
E-mini SP500 SPY E-mini ND100 QQQQ E-mini Dow DIA E-mini SP400 MDY
Average Daily $Volume Traded (US$ billions)E-mini Index Futures vs. Exchange Traded Funds
2007 2008
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Liquidity in U.S. and Non-U.S. Trading Hours – E-mini S&P 500 and S&P 500 Futures The E-mini S&P 500 index futures are very liquid even during non-U.S. standard hours. All times shown in the chart below are in Central Time. Average volume per hour increases substantially once the London day session begins at approximately 2:00 a.m. Central Time (8:00 a.m. London time). The times shown below represent the one-hour period ending at that time (4:00 a.m. means the one-hour period between 3:00 a.m. and 4:00 a.m.). During the 2:00 a.m. to 7:00 a.m. periods, there may be increased spreading activity between U.S. and European stock index futures.
-
5,000
10,000
15,000
20,000
25,000
30,000
35,000
40,000
45,000 Average Hourly Volumes - Non-US Hours July Through November 2008
S&P 500 E-mini S&P 500
* Times are local Chicago time, showing a full trading hour ending at the time stated above
-
100,000
200,000
300,000
400,000
500,000
600,000 Average Hourly Volumes - All Hours
July Through November 2008
S&P 500 E-mini S&P 500
* Times are local Chicago time, showing a full trading hour ending at the time stated above
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Liquidity in U.S. and Non-U.S. Trading Hours – E-mini Dow, E-mini NASDAQ-100 and E-mini S&P Midcap 400 Futures Overnight liquidity patterns are similar for other stock index futures, with the E-mini Dow and E-mini NASDAQ-100 futures showing the best volume levels on average. Some of the volume in these contracts can be linked to spreading activity with the E-mini S&P 500 index futures contract.
-
1,000
2,000
3,000
4,000
5,000
6,000
7,000 Average Hourly Volumes - Non-US Hours July Through November 2008
E-mini Dow E-mini S&P 400 E-mini ND 100
* Times are local Chicago time, showing a full trading hour ending at the time stated above
-
20,000
40,000
60,000
80,000
100,000
120,000
140,000 Average Hourly Volumes - All HoursJuly Through November 2008
E-mini Dow E-mini S&P 400 E-mini ND 100
* Times are local Chicago time, showing a full trading hour ending at the time stated above
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Index Calculations- December 31, 2008 S&P 500 = Sum (S&P 500 component prices x float adjusted shares) / SPX Divisor DJIA = Sum (DJIA component prices) / DJIA Divisor
December 31, 2008 DJIA S&P 5008,776.39 903.25
Symbol Name Closing Price Float Adj Mkt CapMMM 3M 57.54 7,866,544,377,303AA Alcoa 11.26 DivisorAXP American Express 18.55 8,709,107,684T AT&T 28.50BAC Bank of America 14.08 903.25BA Boeing 42.67 Close December 31, 2008CAT Caterpillar 44.67CVX Chevron 73.97C Citigroup 6.71KO Coca-Cola 45.27DIS Disney 22.69DD Dupont 25.30XOM ExxonMobil 79.83GE General Electric 16.20GM General Motors 3.20HPQ Hewlett Packard 36.29HD Home Depot 23.02IBM IBM 84.16INTC Intel 14.66JNJ Johnson & Johnson 59.83JPM JPMorgan Chase 31.53KFT Kraft Foods 26.85MCD McDonalds 62.19MRK Merck 30.40MSFT Microsoft 19.44PFE Pfizer 17.71PG Procter & Gamble 61.82UTX United Technologies 53.60VZ Verizon 33.90WMT Wal Mart 56.06
Sum of Prices 1101.900Divisor 0.125552709Close December 31, 2008 8,776.39 Source: Bloomberg
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Components and Ranking of the DJIA and Their Relative Positions in the S&P 500 Index
December 31, 2008 USD CLOSE DJIA Rank DJIA Weight SP500 Weight SP500 Rank Weight Diff IBM IBM 84.16 1 7.64% 1.44% 12 6.20%
ExxonMobil XOM 79.83 2 7.24% 5.17% 1 2.07% Chevron CVX 73.97 3 6.71% 1.90% 6 4.81% McDonalds MCD 62.19 4 5.64% 0.88% 26 4.76% Procter & Gamble PG 61.82 5 5.61% 2.32% 2 3.29%
Johnson & Johnson JNJ 59.83 6 5.43% 2.11% 5 3.32% 3M MMM 57.54 7 5.22% 0.51% 42 4.71% Wal Mart WMT 56.06 8 5.09% 1.59% 8 3.50%
United Technologies UTX 53.60 9 4.86% 0.65% 31 4.21%
Coca-Cola KO 45.27 10 4.11% 1.15% 15 2.96%
Caterpillar CAT 44.67 11 4.05% 0.34% 64 3.71%
Boeing BA 42.67 12 3.87% 0.40% 56 3.47%
Hewlett Packard HPQ 36.29 13 3.29% 1.12% 18 2.17%
Verizon VZ 33.90 14 3.08% 1.23% 13 1.85%
JPMorgan Chase JPM 31.53 15 2.86% 1.50% 11 1.36%
Merck MRK 30.40 16 2.76% 0.82% 27 1.94%
AT&T T 28.50 17 2.59% 2.14% 4 0.45%
Kraft Foods KFT 26.85 18 2.44% 0.50% 43 1.94%
Dupont DD 25.30 19 2.30% 0.29% 72 2.01%
Home Depot HD 23.02 20 2.09% 0.50% 44 1.59%
Disney DIS 22.69 21 2.06% 0.53% 39 1.53%
Microsoft MSFT 19.44 22 1.76% 1.89% 7 -0.13%
American Express AXP 18.55 23 1.68% 0.27% 77 1.41%
Pfizer PFE 17.71 24 1.61% 1.52% 10 0.09%
General Electric GE 16.20 25 1.47% 2.16% 3 -0.69%
Intel INTC 14.66 26 1.33% 1.04% 21 0.29%
Bank of America BAC 14.08 27 1.28% 1.15% 16 0.13% Alcoa AA 11.26 28 1.02% 0.11% 194 0.91%
Citigroup C 6.71 29 0.61% 0.47% 48 0.14%
General Motors GM 3.20 30 0.29% 0.02% 444 0.27%
Total Index Weight 100.00% 35.72% On December 31, 2008 the 30 stocks listed above accounted for 100.00 percent of the DJIA and 35.72 percent of the S&P 500 indexes The following stocks had weighting discrepancies of at least 400bp on December 31, 2008: IBM, 3M, Chevron, United Technologies and McDonald’s.
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Stock Index Futures Fair Value Calculating Index Futures Fair Value Stock index futures fair value (FV) levels are calculated using the following inputs:
- Cash index level - Days to futures expiration - Applicable short term interest rate - Estimated dividends to be paid up to futures expiration
There is more than one variation on the fair value formula, but the results will be very similar. However, one of the most important factors which determine the results for FV calculations is the estimated dividends to expiration. Whether you estimate your own dividends to expiration or simply get them from one of the financial services, it is possible that the various sources will have slightly different estimates for dividends remaining. These differences will likely be extremely small, but they do illustrate how different sources may have different FV estimates. Additionally, the short term interest rate being used will also have a slight impact on the FV estimate. For example, using the numbers below for the S&P 500 Index – setting the interest rate at 2.14 percent produces a theoretical futures price of 896.84. By changing the interest rate slightly to 2.24 percent, the theoretical futures price increases to 897.09. Fair Value Examples Fair Value = cash index x {1+r(x/360)} - Div R = applicable short term interest rate X = Days until expiration Div = Estimated dividends to be paid up to expiration
Fair Value Example using March 2009 Futures
E-mini S&P 500Trade Date: December 10, 2008Days to Expiration - March 2008 Futures: 100Cash Index: 899.2Dividends to Expiration: 7.71Interest Rate: 2.14%Theoretical Fair Value Spread: -2.36Theoretical Futures Price: 896.84
E-mini DowTrade Date: December 10, 2008Days to Expiration - March 2008 Futures: 100Cash Index: 8769.7Dividends to Expiration: 84.96Interest Rate: 2.14%Theoretical Fair Value Spread: -32.83Theoretical Futures Price: 8736.87
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Effect of “Fair Value” on the S&P 500 vs. DJIA Spread Potential changes in the theoretical value of stock index futures could have limited but not insignificant impacts on the spread between the S&P 500 and DJIA indexes. Changes in either the short term risk free interest rate or the estimated dividends to be received by expiration will impact the theoretical futures price. Now, since the risk free rate will be the same for either the S&P 500 or DJIA futures, it is likely not going to have an effect on the S&P 500 vs DJIA spread, although it will impact each of the futures contracts. For the estimated Dividends to expiration, we could in theory see some impact on the S&P 500 vs DJIA spread, for example, if a fairly high capitalization stock that is in the S&P 500 but is not in the DJIA has a significant change to its dividend payout, either up or down, then this could impact the spread. For example, the following 3 stocks are in the S&P 500 but not the DJIA (yields as of Dec. 10, 2008): Altria (MO) with a dividend yield of 8.50%; Abbott Labs (ABT) with a dividend yield of 2.70%; ConocoPhillips (COP) with a dividend yield of 3.70% The following table illustrates how changes in the risk free interest rate and time (days to expiration) can impact the theoretical futures price and its fair value spread vs. the underlying.
Theoretical Futures and FV Spreads at Various Risk Free Rates and Days to Expire (DTE) S&P 500 = 899.20 S&P 500 = 899.20 S&P 500 = 899.20Est. Dividends to Expiration = 7.71 Est. Dividends to Expiration = 3.85 Est. Dividends to Expiration = 1.16Est. Dividend Yield = 3.09% Est. Dividend Yield = 3.09% Est. Dividend Yield = 3.09%
DTE 100 DTE 50 DTE 15Risk Free Rate Theo Futures FV Spread Theo Futures FV Spread Theo Futures FV Spread
0.00% 891.49 -7.71 895.35 -3.86 898.04 -1.160.25% 892.11 -7.09 895.66 -3.54 898.14 -1.060.50% 892.74 -6.46 895.97 -3.23 898.23 -0.970.75% 893.36 -5.84 896.28 -2.92 898.32 -0.881.00% 893.99 -5.21 896.59 -2.61 898.42 -0.781.25% 894.61 -4.59 896.91 -2.29 898.51 -0.691.50% 895.24 -3.96 897.22 -1.98 898.61 -0.591.75% 895.86 -3.34 897.53 -1.67 898.70 -0.502.00% 896.49 -2.71 897.84 -1.36 898.79 -0.412.25% 897.11 -2.09 898.16 -1.04 898.89 -0.312.50% 897.73 -1.47 898.47 -0.73 898.98 -0.222.75% 898.36 -0.84 898.78 -0.42 899.07 -0.133.00% 898.98 -0.22 899.09 -0.11 899.17 -0.033.25% 899.61 0.41 899.40 0.20 899.26 0.063.50% 900.23 1.03 899.72 0.52 899.35 0.153.75% 900.86 1.66 900.03 0.83 899.45 0.254.00% 901.48 2.28 900.34 1.14 899.54 0.344.25% 902.11 2.91 900.65 1.45 899.64 0.444.50% 902.73 3.53 900.97 1.77 899.73 0.534.75% 903.35 4.15 901.28 2.08 899.82 0.625.00% 903.98 4.78 901.59 2.39 899.92 0.725.25% 904.60 5.40 901.90 2.70 900.01 0.815.50% 905.23 6.03 902.21 3.01 900.10 0.905.75% 905.85 6.65 902.53 3.33 900.20 1.006.00% 906.48 7.28 902.84 3.64 900.29 1.09
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Equity Price Limit Guide
S‐4808 January 2, 2009
Stock Index Price Limits Revised
Effective for 1st Quarter 2009 Price limits for domestic stock index futures are revised to the following levels, effective as of the
commencement of Electronic Trading Hours (ETH) on Thursday, January 1, 2009 at 5:00 p.m. These limits shall be in force for the entire first calendar quarter, 2009. Limits and bands are as follows:
1st Quarter 2009 Stock Index Price Limits and Bands
Contracts
5% Limit (Overnight Hours) up and down
10% Limit Down only
20% Limit Down only
30% Limit Down only
2x No
Bust Band
4x No Bust Band
S&P 500® & E-mini® 40.00 80.00 160.00 240.00 12.00 na MidCap 400™ & E-mini 25.00 50.00 100.00 150.00 8.00 na
DJIA® Futures 450.00 850.00 1,700.00 2,600.00 na na S&P/Citigroup Growth™ 20.00 40.00 80.00 120.00 8.00 na S&P/Citigroup Value™ 20.00 40.00 80.00 120.00 8.00 na
NASDAQ-100® & E-mini 55.00 110.00 220.00 330.00 24.00 na E-mini NASDAQ
Composite® 80.00 160.00 320.00 480.00 24.00 na E-mini NASDAQ Biotechnology® 30.00 60.00 120.00 180.00 24.00 na
S&P 500 Financial SPCTR™ 8.00 16.00 32.00 48.00 6.00 na
S&P 500 Technology (Telecom/IT) SPCTR™ 8.00 16.00 32.00 48.00 6.00 na S&P Smallcap 600™ &
E-mini® 12.00 24.00 48.00 72.00 8.00 Na All TRAKRSSM na 1.00
Exchange Rules call for the limits to be re-calculated quarterly at the close of business on the
day preceding the commencement of a new calendar quarter. Note that stock index price limits are generally revised upwards from the limits that were in force during the previous calendar quarter.
The Exchange’s price limits are re-assessed quarterly rather than established at fixed levels insofar as fixed limits are not responsive to on-going market fluctuations. Exchange Rules are designed to coordinate with circuit breaker provisions as applied by the New York Stock Exchange (NYSE).
The NYSE enforces limits at 10%, 20% and 30% declines of the Dow Jones Industrial Average
(DJIA), calculated at the beginning of each calendar quarter, using the average closing value of the DJIA for the prior month, rounded to the nearest 50 points. Limits enforced during the current quarter are 850, 1,700 and 2,600 (limits during the fourth quarter of 2008 were at 1,100, 2,200 and 3,350 index points).
Please consult the Rulebook for a complete description of the application of the circuit breaker provisions. Or, you may wish to direct any inquiries to Lucy Wang, Research Analyst, Product Research and Development at 312-648-5478.
Copyright © 2009 CME Group. All rights reserved.
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Disclaimer The Globe logo, CME, Chicago Mercantile Exchange, and CME Group are trademarks of Chicago Mercantile Exchange Inc. CBOT® and Chicago Board of Trade® are trademarks of the Board of Trade of the City of Chicago. All other trademarks are the property of their respective owners, used with license. Standard & Poor's®", "S&P®", "S&P 500®", "Standard & Poor's 500®", “S&P SmallCap 600™“, “S&P MidCap 400™“, “S&P/Citigroup Growth®“ and “S&P/Citigroup Value®“ are trademarks of The McGraw-Hill Companies, Inc. These products are not sponsored, sold or endorsed by S&P, a division of The McGraw-Hill Companies, Inc., and S&P makes no representation regarding the advisability of investing in them. The Nasdaq Stock Market®, NASDAQ®, NASDAQ-100® and NASDAQ-100 Index® are registered service/trademarks of The Nasdaq Stock Market, Inc. ("Corporations"). The Corporations and Nasdaq Financial Products Services, Inc. make no warranty, express or implied, and bear no liability with respect to the NASDAQ-100 Index, its use or any data included therein. Dow Jones Industrial Average” is a service mark and “Dow Jones,” “DJIA,” and “The Dow” are registered trademarks of Dow Jones & Company and have been licensed for use for certain purposes by the Board of Trade of the city of Chicago (CBOT ). The CBOT ’s futures and futures-options based on the Dow Jones Industrial Average are not sponsored, endorsed, sold or promoted by Dow Jones, and Dow Jones makes no representation regarding the advisability of trading in such products. All other trademarks are property of their respective owners. Copyright © 2009. CME Group. All rights reserved.