Total return = Spot return + Collateral yield + Roll yield.
It’s so difficult for me to understand this formula:
First, what is Collateral yield?
Second, Roll yield = Δ futures price – Δ spot price. So if spot price is unchanged and new future price is higher than old future price (Contango) then roll yield is positive. But it’s opposite to what my Scheweser note says.
Can you help me?
Thank you in advance.
When you enter into a futures contract you must post collateral. This is the means the exchange uses to make sure you can honor your commitment if prices move against you. Usually the collateral is very safe investments, so the collateral yield is normally assumed to be the risk-free rate. Basically you are yielding the risk-free rate because you are purchasing a risk-free asset.
The roll yield will be positive if the futures price moves up more than the spot price. This will occur if the convenience yield is great enough.
I think you meant when future prices moves down.