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Futures Club, National Taiwan University Lin Chih-chuan Internal Affairs, Vice President of Futures Club, National Taiwan University Department of International.

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Presentation on theme: "Futures Club, National Taiwan University Lin Chih-chuan Internal Affairs, Vice President of Futures Club, National Taiwan University Department of International."— Presentation transcript:

1 Futures Club, National Taiwan University Lin Chih-chuan Internal Affairs, Vice President of Futures Club, National Taiwan University Department of International Business Introduction to Interest Rate Futures All Rights Reserved by the author The Information on this file may not be reproduced, republished or mirrored without permissions

2 Futures Club, National Taiwan University Interest Rate Definition: The cost of loan. Definition: The cost of loan. Yield to Maturity (IRR) and Current Yield Yield to Maturity (IRR) and Current Yield Rate of Return vs. Interest Rate Rate of Return vs. Interest Rate Real Interest Rate vs. Nominal Interest Rate Real Interest Rate vs. Nominal Interest Rate

3 Futures Club, National Taiwan University Yield to Maturity Curve--Term Structure Pure Expectations Theory Forward Interest Rate = Expected Future Spot Rate Pure Expectations Theory Forward Interest Rate = Expected Future Spot Rate Market Segmentation Theory Market Segmentation Theory Liquidity Preference Theory Liquidity Preference Theory Forward Interest Rate > Expected Future Spot Rate Forward Interest Rate > Expected Future Spot Rate

4 Futures Club, National Taiwan University Loanable-Funds Theory Interest rate is the price that make the supply and demand of fund be equal. Interest rate is the price that make the supply and demand of fund be equal. DepartmentDemandSupply Household Buying estate Private save EnterpriseInvestment Retained earnings GovernmentDeficit Transfer payments Monetary Institution Decrease of supply Increase of supply

5 Futures Club, National Taiwan University Factors that Affect Interest Rate Policy of Central Bank Fiscal Policy and Monetary Policy Policy of Central Bank Fiscal Policy and Monetary Policy Target: Internal and External Equilibrium Supply and Demand of Monetary Market Supply and Demand of Monetary Market Economic Index e.g: GNP, CPI, Rate of Unemployment… Economic Index e.g: GNP, CPI, Rate of Unemployment…

6 Futures Club, National Taiwan University Risk Type of Interest Rate Price Risk, for example: discount (zero-coupon) bond Price Risk, for example: discount (zero-coupon) bond Reinvestment Rate Risk, for example: coupon bond Reinvestment Rate Risk, for example: coupon bond Almost all financial instruments are affected by changing of interest rate Almost all financial instruments are affected by changing of interest rate

7 Futures Club, National Taiwan University What’s Interest Rate Futures Forward contracts for hedging against interest rate fluctuations. Forward contracts for hedging against interest rate fluctuations. e.g: GNMA (Government National Mortgage Association), U.S. Treasury Bill, 十年期政府公債期貨 (Taiwan) e.g: GNMA (Government National Mortgage Association), U.S. Treasury Bill, 十年期政府公債期貨 (Taiwan) Main Function: 1.Hegde 2.Hint about the future price 3.Accelerate liquidity of Real Goods 4.Absorbe fund of speculating Main Function: 1.Hegde 2.Hint about the future price 3.Accelerate liquidity of Real Goods 4.Absorbe fund of speculating

8 Futures Club, National Taiwan University Background of Interest Rate Futures First Contract of Interest Rate Futures: GNMA by CBOT (Chicago Board of Trade) in 1975 First Contract of Interest Rate Futures: GNMA by CBOT (Chicago Board of Trade) in 1975 Cause: 1.Policy 2.Prosperous bond market in U.S. 3.Need of hedge by bonds holders Cause: 1.Policy 2.Prosperous bond market in U.S. 3.Need of hedge by bonds holders

9 Futures Club, National Taiwan University Interest Rate Futures Of Taiwan (from Jan., 2004)

10 Futures Club, National Taiwan University Strategies of Interest Rate Futures Substitution of Bond Substitution of Bond Cross Hedge with Public Bond Cross Hedge with Public Bond Macro Hedge Macro Hedge Long Trade Long Trade Short Trade Short Trade (Yield Curve) (Yield Curve) (Spread) (Spread)

11 Futures Club, National Taiwan University Merit and Defect of Interest Rate Futures Risk Transferring Risk Transferring Low Transaction Cost Low Transaction Cost High Liquidity High Liquidity Low Risk of Deficit Low Risk of Deficit Standard Contract Standard Contract A Paradise of Speculators A Paradise of Speculators Diversification Is Not Enough Diversification Is Not Enough Undividable Contract Undividable Contract Imperfect Function of Hedge Imperfect Function of Hedge Merit Defect

12 Futures Club, National Taiwan University Reference TAIEX, http://www.taifex.com.tw/ TAIEX, http://www.taifex.com.tw/http://www.taifex.com.tw/  CBOT, http://www.cbot.com/ http://www.cbot.com/ Frederic S. Mishkin, The Economics of Money, Banking, and Financial Markets 7th edition, Addison Wesley Frederic S. Mishkin, The Economics of Money, Banking, and Financial Markets 7th edition, Addison Wesley Bodie, Kane and Marcus, Essentials of Investments, 5th edition, McGrawHill Bodie, Kane and Marcus, Essentials of Investments, 5th edition, McGrawHill

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