can someone plz explain what basis risk is? how does this come into play in interest rate risk management? thx.
Basically, when a future expires, its price is guaranteed to be equal to the underlying’s spot price. This makes futures a useful tool for synthetically buying or selling the underlying and it tends to have lower transaction costs too. However, if you close out your futures position before expiration, you are not guaranteed the spot price, and interest rate changes can change how much off you are. So that is basis risk: the risk that your future will differ from spot price when you close your position.
Difference between Spot and Future price at experiation