D E C E M B E R D E C E M B E R I N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E SI N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E S S T R I C T L Y P R I V A T E A N D C O N F I D E N T I A LS T R I C T L Y P R I V A T E A N D C O N F I D E N T I A L Prepared for the Bank of Thailand

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Copyright 2004 J.P. Morgan Chase & Co. All rights reserved. JPMorgan is the marketing name for J.P. Morgan Chase & Co., and its subsidiaries and affiliates worldwide. J.P. Morgan Securities Inc. is a member of NYSE and SIPC. JPMorgan Chase Bank is a member of FDIC. J.P. Morgan Futures Inc., is a member of the NFA. J.P. Morgan Securities Ltd. (JPMSL), J.P. Morgan Europe Limited and J.P. Morgan plc are authorized by the FSA and JPMSL is a member of the LSE. J.P. Morgan Equities Limited is a member of the Johannesburg Securities Exchange and is regulated by the FSB. J.P. Morgan Securities (Asia Pacific) Limited (CE number AAJ321) is regulated by the Hong Kong Monetary Authority. J.P. Morgan Securities Singapore Private Limited is a member of Singapore Exchange Securities Trading Limited and is regulated by the Monetary Authority of Singapore (“MAS”). J.P. Morgan Securities Asia Private Limited is regulated by the MAS and the Financial Services Agency in Japan. J.P.Morgan Australia Limited (ABN /AFS Licence No: ) (JPMSAL) is a licensed securities dealer. Additional information is available upon request. Information herein is believed to be reliable but JPMorgan does not warrant its completeness or accuracy. Opinions and estimates constitute our judgment and are subject to change without notice. Past performance is not indicative of future results. The investments and strategies discussed here may not be suitable for all investors; if you have any doubts you should consult your investment advisor. The investments discussed may fluctuate in price or value. Changes in rates of exchange may have an adverse effect on the value of investments. This material is not intended as an offer or solicitation for the purchase or sale of any financial instrument. JPMorgan and/or its affiliates and employees may hold a position, may undertake or have already undertaken an own account transaction or act as market maker in the financial instruments of any issuer discussed herein or any related financial instruments, or act as underwriter, placement agent, advisor or lender to such issuer. Clients should contact analysts at and execute transactions through a JPMorgan entity in their home jurisdiction unless governing law permits otherwise. This report may have been edited or contributed to from time to time by affiliates of J.P. Morgan Securities (Far East) Ltd, Seoul branch. This report should not be distributed to others or replicated in any form without prior consent of JP Morgan. This report has been issued, in the U.K. only to persons of a kind described in Article 19 (5), 38, 47 and 49 of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2001 (all such persons being referred to as “relevant persons”). This document must not be acted on or relied on by persons who are not relevant persons. Any investment or investment activity to which this document relates is only available to relevant persons and will be engaged in only with relevant persons. In other European Economic Area countries, the report has been issued to persons regarded as professional investors (or equivalent) in their home jurisdiction. Australia: This material is issued and distributed by JPMSAL in Australia to “wholesale clients” only. JPMSAL does not issue or distribute this material to “retail clients.” The recipient of this material must not distribute it to any third party or outside Australia without the prior written consent of JPMSAL. For the purposes of this paragraph the terms “wholesale client” and “retail client” have the meanings given to them in section 761G of the Corporations Act I N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E SI N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E S

Agenda I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Relative value in bond futures and the bond basis Hedging with bond futures Government bond futures I N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E SI N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Government bond futures contract highlights 2 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand How Treasury bond and note futures work The Chicago Board of Trade lists futures contracts on Treasury bonds, 10-year Treasury notes, 5-year Treasury notes and 2-year Treasury notes. Each contract has its own “contract grade” which defines the issues that are eligible for delivery into each contract. The shorts are required to make delivery (or close out their position before expiration); the longs are required to take delivery and pay the invoice price for the bond. Each contract has a “size” or notional principal amount which defines the par amount of the bond or note that is deliverable into the contract. This is $100,000 for bonds, 10-year, and 5-year futures, and $200,000 for 2-year futures. Futures exchanges regulate the minimum amount by which the futures price is allowed to change. This minimum price change, which is called a “tick”, is 1/32nd of a point for bond futures, 1/2 of 1/32nd of a point for 10- and 5-year note futures and 1/4 of 1/32nd for 2-year note futures. An increase of 1/32nd in the bond futures price produces a gain of $31.25 for the long and a corresponding loss for the short. 3 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Average Open interest, 02/ /04 Average Daily Volume, 02/ /04 Volume and open interest 1,389,382 4 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Key concepts: Conversion factor Treasury bond and note futures are based on deliverable baskets of Treasury issues with widely different price and yield characteristics. For example, any U.S. Treasury bond with at least 15 years remaining to first call on the first delivery day of the contract month is eligible for delivery. Any original Treasury note with at least 6-1/2 years remaining to maturity is eligible for delivery into the ten-year note contract. To put all these bonds on a more or less equal footing, the CBOT uses conversion factors in calculating the final invoice price. That is, the invoice price for a bond is set equal to the futures price times the bond’s conversion factor plus accrued interest on the bond. A bond’s conversion factor is the approximate price, in decimal form, at which the bond would, as of the first delivery day of the contract month, yield 6% to maturity (rounded to whole quarters) or to first call if callable. 5 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand 6 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Key concepts: Futures invoice price When a bond is delivered into the CBOT T-Bond contract, the receiver of the bond pays the short an invoice price equal to the futures price times the conversion factor of the bond chosen by the short plus any accrued interest on the bond: Invoice price = Futures price x Conversion Factor + Accrued Interest Accrued interest is calculated for the period running from the last coupon date to delivery day. 7 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Key concepts: Implied repo rate and cheapest to deliver The implied repo rate is the theoretical return you would earn if you bought the cash bond, sold futures short against it, and then delivered the cash bond into the futures. If there is no coupon payment before delivery day, the formula for the implied repo rate is: Of all the bonds that are eligible for delivery, the bond with the highest implied repo rate is considered to be cheapest to deliver 8 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Implied repo rate calculation Market Data: May 20, 2004; Trade: May 21, 2004; Settle: May 24, 2004; Delivery: Jun 30, 2004 Jun 2004 US Treasury bond futures contract Price=105-13/32nds Days (settle to delivery)=37 6 1/4% of 8/15/23 Clean price=109-02/32nds Full price= Accrued interest at delivery= Conversion factor= Invoice Price (IP) Implied repo rate (IRP) 9 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand 10 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand 30-year OTR Treasury yield 4.75 price/factor 8-1/2 of 2/20 6-1/4 of 8/23 5-1/4 of 11/28 futures price before expiration Sep 2004 Treasury bond futures; COB May 20, Cash/futures price relationships 11 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Bond CTD maturity in years Bond CTD switches since 2000 Maturity; years 12 G O V E R N M E N T B O N D F U T U R E SG O V E R N M E N T B O N D F U T U R E S

Agenda I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Relative value in bond futures and the bond basis Hedging with bond futures Government bond futures I N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E SI N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand For a given change in rates, Number of futures contracts sold x Change in value of one futures contract = Change in value of bond portfolio Hedge ratio Number of futures contracts sold = Change in value of bond portfolio Change in value of one futures contract Use of BPV Number of futures contracts sold = BPV of portfolio BPV of futures Futures hedge algebra 14 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand BPV of futures needs to take several factors into account Carry (spot price do not move one for one with forward price) Prior to expiration, the cost of carry drives a wedge between futures prices and the converted price of the cheapest to deliver bond. As yields change, carry costs also change so that futures prices will not track spot CTD prices (divided by the conversion factor) one for one. Strategic delivery options The short’s delivery options also drive a wedge between cash and futures prices. Thus, assessing the sensitivity of futures prices to changes in yields requires an estimate of how yield changes affect the value of these delivery options. Non-parallel yield changes Cheapest-to-deliver yields generally don’t move one-for-one with the yields of other bonds that are being hedged. In the Treasury market, for example, the yield curve tends to systematically steepen on a rally and flatten on a sell-off. This means that yields of low duration bonds usually change by more than yields of high duration bonds. 15 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand The deliverable Treasury bond and note curves regularly steepen in a rally and flatten in a sell-off. This means that the yields of low duration bonds regularly fall faster than the yields of high duration bonds in a rally and rise faster than the yields of high duration bonds in a sell-off. Yield spread between 5-1/4% of 11/28 and 8-1/8% of 8/19; April April 2004 Treasury yield changes are not parallel yield spread; bp 16 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand 17 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Reckoning yield betas Yield betas measure how much the yield of one bond usually changes relative to the yield of another bond. These are usually estimated using historical data from a regression model. The Basis Reference Sheet shows yield betas on the full set of deliverable bonds and notes into Treasury futures estimated using yield changes over the past 6 months. The yield beta of 1.16 on the 6-1/4% of 08/23 means that, over the past six months, a 1 basis point change in the yield of the on-the-run 30-year (which is defined to have a yield beta of 1) has, on average, resulted in a 1.16 basis point change in the yield of the 6-1/4% of 08/23. Thus, the yield on the CTD 08/23 has been more volatile than yields of on-the-run bonds. In practice, it can be disastrous for bond traders to not account for yield betas when constructing hedge ratios with bond futures. 18 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand BPV of bond Option-adjusted futures BPV x Yield beta of bond Option-adjusted BPV A measure of the sensitivity of futures prices to yield changes allowing for shifts in the cheapest to deliver bond and allowing for changes in the value of strategic delivery options. Delivery option values are derived from an option pricing model. Option-adjusted BPVs also allow for non-parallel yield changes in deliverable bond yields. For example, the option-adjusted BPV’s on the Basis Reference Sheet are defined as the projected change in the value of one futures contract given 1) a 1- basis point change in the yield of the “on-the-run” bond, and 2) changes in the yields of the other bonds in the basket are equal to the bond’s yield beta. Hedge ratio using option-adjusted BPV: Hedge ratio = 19 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Market data: COB May 20, 2004 June Treasury bond futures Price=105-13/32nds OABPV (beta-adj)=$ Hedge ratio Long $100 million 8-1/8% of 08/19 Price= /32nds BPV=$123,600 ($1,236 per $1 million) Yield beta=1.254 Hedging the 8-1/8% of 8/15/19 example 20 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Modifying the duration of a portfolio with Government bond futures High yield Portfolio Market value = $1,000 MM Duration = 8 years BPV = 8 * $1,000 * = $0.8 MM = $800,000 Target desired duration = 7.5 years BPV of portfolio = 7.5 * $1,000 * = $0.75 MM = $750,000 Sep 10-year note futures BPV desired = $800,000 - $750,000 = $50,000 Option-adjusted BPV of Sep 10Y note futures = $ / contract Contracts required = $50,000 / = 627 (sell) The above analysis assumes that the portfolio yield moves one-for-one with 10-year note yields If this is not true, an adjustment should be made for the relative volatilities of the yields 21 H E D G I N G W I T H B O N D F U T U R E SH E D G I N G W I T H B O N D F U T U R E S

Agenda I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Relative value in bond futures and the bond basis Hedging with bond futures Government bond futures I N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E SI N T R O D U C T I O N T O G O V E R N M E N T B O N D F U T U R E S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand What is the basis? Definition A bond's basis is the difference between the price of a bond and the product of the bond’s conversion factor* and the futures price. Basis = Price - (Factor x Futures) Trading the Basis Basis trading is the simultaneous trading of cash bonds and bond futures to take advantage of expected changes in the relative prices of bonds and bond futures. To buy the basis or go long the basis is to buy cash bonds and sell a number of futures equal to the bond's conversion factor for every $100,000 par value of the cash bond. To sell the basis or go short the basis is just the opposite: selling the cash bond and buying a number of futures equal to the bond's conversion factor for every $100,000 par value of the cash bond. *A conversion factor is the decimal price at which the bond would, as of the first delivery day of the contract month, yield 6%. Conversion factors are used for calculating invoice prices for bonds that are delivered into the contract. Example: Buying the 10-year basis on 5/20/04 June 10-year futures: /32nds 4-7/8% of 2/12:102-18/32nds Conversion factor: Basis = price - (futures x factor) = ( x ) = (20+/32nds) Buy $100 mm of 2/14 basis (factor weighted) Buy $100mm bonds Sell 933 futures ( x 100MM/100k) 23 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Theoretical Basis = Carry + Delivery Option Value Carry Carry is the difference between coupon income earned on the bond and the cost of financing the bond. Delivery Option Value Delivery Option Value is the value associated with the short’s right to choose what bond to deliver and when to deliver it. The value of this option depends on the likelihood of shifts in the cheapest to deliver, which in turn depends on interest rate volatility. What drives the basis? 24 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Sample carry calculation Market Data: May 20, 2004; Trade: May 21, 2004; Settle: May 24, 2004 Last Delivery Date: June 30, 2004 Bond:4-7/8% of 02/12 Full price: Days in coupon period:182 Financing rate:0.83% Days from settle to Dec delivery:37 25 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Basis net of carry Basis= cash price - (futures price x factor) = carry + delivery option value BNOC= basis - carry BNOC is the amount that the short is paying for (and the long is being paid for) the option to deliver any of the bonds in the deliverable basket. In some contracts, the short also has a choice of when to deliver during the delivery month. Market Data: COB May 20, 2004 Bond: 4-7/8% of 02/12 Jun basis:20+/32nds Jun carry:13/32nds BNOC = basis - carry = 20+/32nds - (13/32nds) =7+/32nds 26 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Basis net of carry is the cost of owning the delivery option Basis net of carry; rolling front Treasury note futures; 32nds 27 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand 30-year OTR Treasury yield 4.75 price/factor 8-1/2 of 2/20 6-1/4 of 8/23 5-1/4 of 11/28 futures price before expiration Sep 2004 Treasury bond futures; COB May 20, Cash/futures price relationships 28 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand * Basis = Cash bond price – Futures price x factor Y1Y1 Y2Y2 Price/Factor Futures Price Yield Basis* Yield Y1Y1 Y2Y2 5-1/4 of 11/28 Basis of high duration bond is like a call option on bond futures 29 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Y1Y1 Y2Y2 Price/Factor Futures Price Yield Basis* Yield Y1Y1 Y2Y2 8-7/8 of 2/19 * Basis = Cash bond price – Futures price x factor Basis of low duration bond is like a put option on bond futures 30 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Y1Y1 Y2Y2 Price/Factor Futures Price Yield Basis* Yield Y1Y1 Y2Y2 6-1/4 of 08/23 * Basis = Cash bond price – Futures price x factor Basis of medium duration bond is like a straddle on bond futures 31 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Actual basis =bond price - (futures price x bond factor) =carry + actual delivery option value Theoretical basis=carry + theoretical delivery option value OABNOC The Option-Adjusted Basis Net of Carry (OABNOC) is the amount by which the actual basis exceeds the theoretical basis. OABNOC = actual basis - theoretical basis =actual BNOC - theoretical BNOC = (basis - carry) - theoretical delivery option value If OABNOC is positive, the basis is rich (actual basis > theoretical basis), so you would sell the basis (that is, sell cash bonds, buy futures). If OABNOC is negative, the basis is cheap, so you would buy the basis (that is, buy cash bonds, sell bond futures). Measuring relative value 32 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand 33 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand When futures are... Hedging Yield enhancement Cheap Buy futures to hedge future purchases (instead of buying forward) Rich Sell futures to shorten duration instead of shorting cash bonds Replace bonds with synthetic bonds (long futures and short-term investment) Replace short-term investments with synthetic money markets (buy bonds and short futures) Putting relative value to work 34 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S

I N T R O D U C T I O N T O B O N D F U T U R E SI N T R O D U C T I O N T O B O N D F U T U R E S Intro to Tsy Futures_Bank_of_Thailand Yield Enhancement with 10-year futures P/L from selling CTD 10-year basis 3-months before expiration; 6/98-3/04 35 R E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I SR E L A T I V E V A L U E I N B O N D F U T U R E S A N D T H E B O N D B A S I S