2.

Money Market Futures

Money market futures are exchange-traded interest rate contracts. Contrary to their
counterpart in the OTC market the FRA the specifications of futures are strongly
standardised. Usually, the underlying is a 3-month deposit, in some currencies also a 1month deposit, that represents the interest rate of a future time period.

Money market futures can be used like FRAs. That is, to



eliminate a future interest rate risk (hedging)

speculate on interest rate trends (trading)

to arbitrage between different markets (arbitrage)

Money market futures are standardised products, because they are traded in the exchange
market. Thus, some specifications are already fixed by the particular exchange:


contract volume

maturity dates

marginal price changes (tick size)

value of a price change by one tick based on one contract (tick value)

For money market futures the most important exchanges are Euronext.Liffe (London), CME
(Chicago) and SGX (Singapore) resp. Tiffe (Tokio).
Mostly, futures contracts can only be closed at the same exchange where the position has
been opened. Some contracts can be sold or bought (and consequently closed), at different
exchanges [e.g. a USD 3-months contract purchased in Chicago (CME) and sold in
Singapore (Simex)]. Thus the contract can be traded 24 hours and not only during the trading
hours at the particular exchange.

Interest Rate Derivatives / Page 17 of 37

2.1

Conventions and Contract Specifications

Trade dates
Trade dates of money market futures are set by the futures exchange. For the core markets
these are always the third Wednesday of the last month of the quarter (March, June,
September, December). These trade dates are called IMM-dates (International Money
Market dates).

The delivery months have the following abbreviations:

March

June

September U
December

(Note: the abbreviations do not follow any logic)

In addition, at most futures exchanges so-called serial months are traded. These are the
maturities between the IMM dates. At the LIFFE for example, in addition to the IMM dates,
4 serial months are traded. Consequently, there are maturities for all following 6 months.

Trade date:

4th April
Maturities:
May

(serial month)

June

(IMM)

July
August

(serial month)
(serial month)

September (IMM)
October

(serial Month)

(after settlement of the May contract the next new serial month will be
November)

Front month is the contract with the next maturity. Contracts with a later maturity are called
Back months. For the front month liquidity is usually the highest.

Interest Rate Derivatives / Page 18 of 37

Last trading day

Last trading days of futures are determined by the exchanges and are usually two days
before delivery date (an exception is GBP, where the theoretical delivery date is the last
trading date, i.e. same-day fixing).

Quotation
The quotation for futures prices is: 100.00 minus interest rate
Therefore a forward interest rate of 4.50 % p.a. (i.e. an interest rate for a future period)
equals a futures price of 95.50 (= 100 4.50).
The consequences of this quoting convention are illustrated below:

interest rates

prices

interest rates

prices

If the interest rate rises from 4.50 % to 5 %, the future price will fall
from 95.50 to 95.00.
If the interest rate falls from 4.50 % to 4 %, the future price will rise
from 95.50 to 96.00.

With the quotation of an interest rate on the basis of 100, the buying/selling of a money
market future has just the opposite effect to an FRA purchase/sale:

FRA purchase

future short

FRA sale

future long

A future's quote of JUNE (M) 96.64 / 96.65 corresponds to an interest rate of 3.35 % /
3.36 % p.a. for the term from the third Wednesday in June XY until the third Wednesday in
September XY, in a specific currency.

Interest Rate Derivatives / Page 19 of 37

Underlying
Usually, the underlying is a 3-months interbank deposit (e.g. Eurodollar, Euroyen, Euro
Swiss Franc, EURIBOR). The fixing for these contracts is normally BBA LIBOR (resp.
EURIBOR for EURIBOR futures). The term is always exactly 90 days for the 3-months
futures period (resp. 30 days for a 1-month futures period). The fixed LIBOR resp. EURIBOR
though is calculated on the exact number of days.

Volume of the contract

Not only the underlying but also the volume (principal) of a future contract is exactly
specified. (see table below)

Futures purchase
as hedging operation: protection against falling interest rates
as speculation:

speculation on falling interest rates

Futures sale
as hedging operation:
as speculation:

protection against rising interest rates

speculation on rising interest rates

Tick
A tick is the marginal movement of the futures price. For EUR, USD and JPY money market
futures, a tick is usually half a basis point, i.e. a hundredth of 0.5 % (= 0.005 % or 0.00005),
for GBP contracts it is 1 BP. (see table below)

Tick value
The tick value is the profit or loss which occurs when the price changes by one tick. Also the
tick value is specified by the exchange (e.g. USD 12.5 for the 3-months Eurodollar contract
at LIFFE). The tick value can be determined in the following way:

volume of thecontract quantity of the tick

term
360

Interest Rate Derivatives / Page 20 of 37

1,000,000 x 0.00005 x

1-months LIBOR

3,000,000 x 0.000025 x

3-months EURIBOR

1,000,000 x 0.00005 x

3-months short sterling 500,000 x 0.0001 x

2.2
Currency

90
360

3-months Eurodollar

30
= USD 6.25
360

90
360

90
360

= USD 12.5

= EUR 12.5
= GBP 12.5

Main Markets of Money Market Futures

Futures

Contract

Underlying

exchange

volume

EUR

EUREX

1,000,000

3-mo EURIBOR

EUR

LIFFE

1,000,000

GBP

LIFFE

500,000

Tick

Tick value

BP value

0.5 BP

12.5 EUR

25 EUR

3-mo EURIBOR

0.5 BP

12.5 EUR

25 EUR

3-mo LIBOR (Short

1 BP

12.5 GBP

12.5 GBP

size

Sterling)
JPY

LIFFE

100,000,000

3-mo TIBOR (Euroyen)

0.5 BP

1,250 JPY

2,500 JPY

CHF

LIFFE

1,000000

3-mo LIBOR (Euroswiss)

1 BP

25 CHF

25 CHF

USD

CME

1,000,000

3-mo LIBOR (Eurodollar)

0.5 BP*)

12.5 USD*)

25 USD

USD

CME

3,000,000

1-mo LIBOR

0.25 BP

6.25 USD

25 USD

USD

CME

1,000,000

13 weeks T-bill

0.5 BP

12.5 USD

25 USD

*) At the CME the tick size for the 3-month Eurodollar future can vary from 0.25 BP to 0.5 BP or 1 BP, depending
on the delivery month.

Some contracts are traded at several exchanges, e.g.:

3-months Eurodollar:

CME, Euronext.LIFFE and SGX

3-months Euroyen:

CME, Euronext.LIFFE and SGX

Links:
Eurex:

www.eurexchange.com

Euronext.Liffe:

www.liffe.com

CME:

www.cme.com

SGX:

www.sgx.com

Interest Rate Derivatives / Page 21 of 37

2.3

Exchange and Clearing House

The exchange specifies the conditions for the trading. It defines among other things
which contracts are traded and their specifications.

The settlement of the deals is carried out by the clearing house of the exchange.
The clearing house has the following main functions:


It is counterparty for both the buyer and the seller in all traded contracts. Placing the
clearing house between buyer and seller reduces the credit risk. To reduce this risk to a
minimum, the clearing house deals solely with registered clearing members who for their
part offer their services as brokers or clearers. In order to protect against default risk of
exchange members, so-called initial margins and variation margins are calculated.

Daily revaluation and accounting of variation margins for all open deals

Fixing of the initial margin; the initial margin depends on the markets volatility. Therefore
it is adjusted regularly to the actual market conditions.

2.4

The Margin System

As mentioned above, margins are required when dealing with futures. They reduce the credit
risk for the exchange to a minimum. They are demanded either one-shot and up-front in
relation to the number of contracts (initial margin) or daily for the accrued profits and losses
(variation margin).


The initial margin is a fixed amount; differing by contract and currency, e.g. USD 350
for each 3-month eurodollar contract.
The amount is fixed by the clearing house and changes in relation to the volatility of the
markets. The initial margin serves as an additional protection against default risk in
order to cover the potential loss of a market participant that could result from the daily
price fluctuations.
The initial margin is usually not paid in cash but securities. The returns of these
securities belong to the market participant.
The initial margin is returned to the market participant at expiry of the position or if the
position is closed earlier.
Interest Rate Derivatives / Page 22 of 37

A spread margin is a reduced initial margin due to simultaneous long and short
positions (in different periods), e.g. Eurodollar March long, 100 contracts and June short,
100 contracts.
Instead of paying a margin of USD 350 for 200 contracts (total amount of contracts), i.e.
USD 70,000, a reduced spread margin is applied, e.g. USD 250. New calculation 200
(total amount of contracts) x 250 = USD 50,000.

Some clearing houses calculate the initial margin by means of a risk-based system with
certain parameters. This method is called span margin (Standardized Portfolio Analysis
of Risk). Here the total risk of a position is calculated based on a series of risk factors.
The result is converted by a specific ratio into a margin that is eventually charged.

Variation margin (Margin Calls)

The variation margin is the daily accounting of all accrued profits or losses. Here the
difference between closing price and purchase price (or the closing price of the day before) is
determined daily, and thus, the real profits or losses are charged.
5th of May 10:00 a.m., buy 100 June Eurodollar futures, price 96.60
(without initial margin)
closing price 5th of May 96.65:
variation margin: 10 ticks x 12.5 tick value x 100 = USD 12,500
(credit)
closing price 6th of May 96.57:
variation margin: 16 ticks x 12.5 tick value x 100 = USD 20,000
(charge)
Realised loss since the purchase = 6 x 12.5 x 100 = USD 7,500

(this equals the total sum of all margin calls)

Note: as the variation margin is paid cash, for the exact calculation of the total result of a
futures position also the refinancing costs (resp. investment returns) have to be taken into
account.

Interest Rate Derivatives / Page 23 of 37

Settlement on the last Trading Date (EDSP)

While bond futures (e.g. US T-bonds, UK gilt, Euro-Bund) need to be settled by physical
delivery of the underlying, the money market futures are settled cash on the last trading date.
The "cash settlement" is based on the EDSP (Exchange Delivery Settlement Price) which is
determined on the last trading day. Thus, the EDSP is 100 fixing rate (e.g. 3-months USD
LIBOR). The settlement amount is calculated as the difference between the EDSP and the
closing price of the day before. The result of a futures position is the sum of the daily
variation margins plus the settlement amount of the last trading day.

You are long 100 contracts 3-months June Eurodollar futures.

Purchase price:

96.50

Yesterday closing price:

96.75

3-months BBA LIBOR today: 3.30% ( = last trading date)

What is the settlement amount?

The EDSP is 96.70 (100 3.30).

Settlement amount: (96.70 96.75) x 2 = -0.1 (10 ticks)
10 x 12.5 x 100 = USD -12,500
You have to pay USD 12,500.

(Note: Of course the total result of this position is a profit. The

remaining result has been taken into account for the daily variation
margins.)

Closing a Futures Position

Each futures position can be closed by an appropriate, opposite futures position before or at
the last trading date. The closing leads to the elimination of the position and the related initial
margin. The profits and losses result from the daily variation margin payments (plus possible
interest returns resp. payments).

Interest Rate Derivatives / Page 24 of 37

2.5

Comparison: Money Market Futures vs. FRA

Since money market futures and forward rate agreements have very similar effects, we
compare these two instruments:

FRA


Money Market Futures

quotation = interest rate (e.g. 4.50 %)

quotation = 100 interest rate

(e.g. 95.50)

OTC product

product of exchange market

non-standard contracts

standard contracts

volume: unlimited (depending on dealer)

volume (e.g. EUR, USD 1 m )

fixed, depending on currency

terms: 1 or 3 months (often only specific

terms: unlimited (also broken dates)

months, as March, June, etc.)



spread: 1 4 points (main currencies)

spread: mostly 1 bp, sometimes bp

small credit risk

no credit risk

small charge of capital

no charge of capital

reversal (doubled charge of the line,

buying / selling possible: in the future's

twice charge of capital, two FRAs in the

book only balanced, open positions

books)


low back office requirements

a lot of back office work : margins must

be booked daily

calculation of interest: real number of

days


calculation of interest: always 30 or

90 days

difference between interest rates is

if paid "flat, no discounting

discounted

"front fee by margins

Interest Rate Derivatives / Page 25 of 37