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  • Bonds futures and forwards bond transactions

    • CA-4.7.5

      Bond futures, forward bond transactions and the forward leg of repos, reverse repos and other similar transactions will use the two-legged approach. A forward bond transaction is one where the settlement is for a period other than the prevailing norm for the market.

      (a) The first leg is a zero coupon bond with zero specific risk. Its maturity is the time to expiry of the futures or forward contract. Its size is the cash flow on maturity discounted to present value, although in the maturity method, the cash flow on maturity may be used without discounting.
      (b) The second leg is the underlying bond. Its maturity is that of the underlying bond for fixed rate bonds, or the time to the next reset for floating rate bonds. Its size is as set out in (c) and (d) below.
      (c) For forward bond transactions, the underlying bond and amount is used at the present spot price.
      (d) For bond futures, the principal amounts for each of the two legs is reckoned as the futures price times the notional underlying bond amount.
      (e) Where a range of deliverable instruments may be delivered to fulfil a futures contract (at the option of the 'short'), then the following rules are used to determine the principal amount, taking account of any conversion factors defined by the exchange:
      (i) The 'long' may use one of the deliverable bonds, or the notional bond on which the contract is based, as the underlying instrument, but this notional long leg may not be offset against a short cash position in the same bond.
      (ii) The 'short' may treat the notional underlying bond as if it were one of the deliverable bonds, and it may be offset against a short cash position in the same bond.
      (f) For futures contracts based on a corporate bond index, the positions will be included at the market value of the notional underlying portfolio of securities.
      (g) A repo (or sell-buy or stock lending) involving exchange of a security for cash should be represented as a cash borrowing - i.e. a short position in a government bond with maturity equal to the repo and coupon equal to the repo rate. A reverse repo (or buy-sell or stock borrowing) should be represented as a cash loan - i.e. a long position in a government bond with maturity equal to the reverse repo and coupon equal to the repo rate. These positions are referred to as 'cash legs'.
      (h) It should be noted that, where a security owned by the bank (and included in its calculation of market risk) is repo'd, it continues to contribute to the bank's interest rate or equity position risk calculation.
      October 07