Basis trading is a financial strategy involving offsetting positions in a spot (cash) asset and a related derivative—most commonly a

futures contract In finance, a futures contract (sometimes called futures) is a standardized legal contract to buy or sell something at a predetermined price for delivery at a specified time in the future, between parties not yet known to each other. The item tr ...

– aimed to profit from price convergence over time. The price difference is known as the basis. Basis trading is used across multiple asset classes, including

commodities In economics, a commodity is an economic good, usually a resource, that specifically has full or substantial fungibility: that is, the market treats instances of the good as equivalent or nearly so with no regard to who produced them. Th ...

fixed income Fixed income refers to any type of investment under which the borrower or issuer is obliged to make payments of a fixed amount on a fixed schedule. For example, the borrower may have to pay interest at a fixed rate once a year and repay the pr ...

, equities, and digital assets.

Definition of basis

In finance, the basis typically refers to the difference between the

spot price In finance, a spot contract, spot transaction, or simply spot, is a contract of buying or selling a commodity, security or currency for immediate settlement (payment and delivery) on the spot date, which is normally two business days after t ...

of an asset and the price of a related futures contract: :Basis = Spot price − Futures price The basis reflects various factors including storage costs

interest rates An interest rate is the amount of interest due per period, as a proportion of the amount lent, deposited, or borrowed (called the principal sum). The total interest on an amount lent or borrowed depends on the principal sum, the interest rate, ...

, expected dividends (''see

Dividend yield The dividend yield or dividend–price ratio of a share is the dividend per share divided by the price per share. It is also a company's total annual dividend payments divided by its market capitalization, assuming the number of shares is constan ...

''), and time to maturity (see '' Bond''). The concept is used in assessing arbitrage opportunities and in designing hedging strategies.

Types of basis trading

Basis trading strategies are employed across multiple markets: Treasury basis trade: Refers to a position established through the sale of a Treasury futures contract and the purchase of a Treasury bond that is deliverable under the futures contract. It is widely used by hedge funds and often involves leverage through the

repurchase agreement A repurchase agreement, also known as a repo, RP, or sale and repurchase agreement, is a form of secured short-term borrowing, usually, though not always using government securities as collateral. A contracting party sells a security to a lend ...

(repo) market. Commodity basis trade: Involves buying or selling physical commodities (e.g., oil, grain) and taking an opposite position in futures contracts. It is often used by producers or consumers for hedging. Equity and ETF basis trade: Involves pricing differences between an equity-based instrument (such as an ETF) and its underlying portfolio of assets. Options-based basis trade: Involves constructing synthetic positions using call and put options to replicate or offset exposures. Crypto basis trade: Common in digital asset markets, where traders go long spot Bitcoin or Ethereum and short the corresponding futures contract to exploit futures premiums ("contango") or discounts ("backwardation").

Risks and considerations

Basis trades are generally considered low-risk under normal market conditions, but they can be subject to substantial losses when markets behave unexpectedly. Risks include: Basis risk: The risk that the spot and derivative prices do not converge as expected. Leverage: Many basis strategies are leveraged, which magnifies gains and losses. Liquidity risk: In periods of market stress, positions may need to be unwound at unfavorable prices. Counterparty risk: Especially in over-the-counter or collateralized transactions.

Definition of basis

Types of basis trading

Risks and considerations

See also

Bibliography

Annotations

Notes

References

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