According to the no-arbitrage formula for futures contracts there should be a: A) negative correlation between the basis and interest rates and a positive correlation between the basis and the spot price. B) positive correlation between the basis and interest rates and a negative correlation between the basis and the spot price. C) positive correlation between the basis and both interest rates and the spot price.
Yup that sounds like a CFAI question. Answer is B. I dont like the first part but for 2nd. As rates increase the opportunity cost for holding futures is higher and lower the spot future
C? What is a ‘basis’?
I guess Basis is Future- Spot. Is it A?
basis is futures px - spot px. i will give everyone a 2 minute window to adjust any answers and then it’s answer time.
higher basis = PV lower = higher interest rate => positive correlation higher spot price = lower basis ceteris paribus => negative correlation i’m gonna guess B) positive correlation between the basis and interest rates and a negative correlation between the basis and the spot price. p.s. i will admit that i didn’t remember what a basis was
I give up
time to sharpen our collective pencils boys and girls. i couldn’t remember basis and thought it was spot - futures not the other way around. notecard made, FUTURE - SPOT. FUTURE - SPOT. this is a good question and very typical of CFAI type q’s- 2 parter not testing the math but rather the concept. Your answer: A was incorrect. The correct answer was C) positive correlation between the basis and both interest rates and the spot price. The equation for the no-arbitrage price of a futures contract is FP = S0 × (1 + R)T, and the equation for the basis is: basis = futures price – spot price. Clearly an increase in R will increase the basis. The basis grows proportionally with the spot price. So the basis is positively correlated with both the interest rate and the spot price.
I am just loving the 33.33% probability rule.
EDIT- this question is f’d, isn’t it. i just looked at the answer and googled basis- it IS spot minus forward not fwd - spot. someone confirm that for me. the answer makes sense if that’s the case, spot - fwd… i think they wrote the formula backwards here?
pg224 Schweser B = S - F
ok, so then was i right with A? if basis is spot - forward… if you up interest rates, it’s going to up the forward px, basis should go down. negatively correlated. if you up the spot px, basis should move up. seriously, sometimes the 'schwes kills me. it’s Question ID#: 88880 if anyone wants to see the full item set. confirm with me this thinking and i can email them.
Ans is A for sure! Basis has a indirect relation to the rate and direclt relation to the SP. Report it to them
where does the basis term come. I am reading the futures chapter and didn’t even see it. Of course I am reading from Schweser. S
page 224 in Schweser
Does this term appear in the CFAI text as well?
Basis as I unerstand is the difference between spot and future price and goes to show the extent of variation among the two rather than a mathematical relationship between the two. In a case like this basis would always be -ve according to the definition given. Why would something be defined to be negative normally. Also basis is not something CFAI jas harped on in their text so won’t loose my sleep over it. I am sure CFAI will not ask ambiguous questions like this in the exam. The concept is more important and whether we got the correct answer basis the assumption we made because I don’t think CFAI will leave any ambiguity on the exam.
So I was a victim of this 88880 too. Scored 3/6. And the Basis question is ofcourse wrong and should be reported to Schweser.