Bond futures are financial contracts obligating the buyer to purchase a bond on a specified date at a price agreed upon at the time of purchase. The value of a bond future is based on the value of the underlying bond, which is determined by the bond's interest rate, maturity date, and creditworthiness.
Bond futures were first introduced in the early 1970s as a way to trade bonds without having to take possession of them. Prior to the introduction of bond futures, the only way to trade bonds was through the physical market, which required the buyer to take possession of the bond and hold it until maturity. This was not only cumbersome, but also risky, as the value of the bond could fluctuate during the holding period.
With bond futures, traders can take a position on the price of a bond without having to take possession of it. This allows for greater flexibility and opportunity in the bond market. Bond futures also provide greater liquidity than the physical market, as there is always a market for them.
The price of a bond future is based on the price of the underlying bond, which is determined by the bond's interest rate, maturity date, and creditworthiness. The interest rate is the most important factor in determining the price of a bond future. The higher the interest rate, the higher the price of the bond future. The maturity date is also important, as bonds with longer maturity dates are usually worth more than those with shorter maturity dates.
Creditworthiness is also a factor in determining the price of a bond future. Bonds that are considered to be more creditworthy, such as those issued by the US government, are usually worth more than those that are not.
Bond futures are traded on exchanges, and the most popular exchanges are the Chicago Mercantile Exchange (CME) and the Intercontinental Exchange (ICE).
Bond futures contracts are typically for $100,000 worth of bonds. They are traded in units of $1000, so one contract would be worth $100,000. The minimum price fluctuation is called a tick, and is typically $0.01 per $1000, or $10 per contract.
Bond futures are used by a variety of market participants, including banks, hedge funds, and individual investors. They are often used to hedge against changes in the interest rate. For example, if an investor holds a portfolio of bonds, they can use bond futures to hedge against a rise in interest rates. This is done by selling bond futures, which will offset any losses in the value of the bonds in the portfolio.
Bond futures can also be used to speculate on the future direction of interest rates. If an investor believes that interest rates are going to rise, they can buy bond futures. If rates do indeed rise, the value of the bond futures will increase, and the investor will profit. Conversely, if rates fall, the value of the bond futures will decrease, and the investor will lose money.
Bond futures are a tool that can be used by investors to manage risk and take advantage of opportunities in the bond market.