Expectations Approach¶
The Expectations Approach posits that the futures price reflects the market's consensus of the expected future spot price. Under this theory:
\[
F = E(S_T)
\]
Where: - F: Futures price - E(S_T): Expected spot price at maturity T
This approach assumes that futures prices are unbiased estimators of future spot prices, implying no systematic profit opportunities from trading futures contracts.
Difference Between Spot Price and Futures/Forward Price: Basis¶
The Basis is the difference between the spot price of an asset and its corresponding futures price:
\[
\text{Basis} = \text{Spot Price} - \text{Futures Price}
\]
- Positive Basis: Indicates backwardation, where the spot price is higher than the futures price.
- Negative Basis: Indicates contango, where the futures price is higher than the spot price.
Example:
If the spot price of gold is $1,200 per ounce and the futures price for delivery in three months is $1,250 per ounce:
\[
\text{Basis} = 1200 - 1250 = -50
\]
This negative basis of $50 indicates a contango market.