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Futures price limit moves as options
Author(s) -
Holder Mark E.,
Ma Christopher K.,
Mallett James E.
Publication year - 2002
Publication title -
journal of futures markets
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.88
H-Index - 55
eISSN - 1096-9934
pISSN - 0270-7314
DOI - 10.1002/fut.10038
Subject(s) - futures contract , economics , limit (mathematics) , financial economics , unobservable , portfolio , limit price , normal backwardation , mid price , asset (computer security) , treasury , econometrics , forward market , price level , monetary economics , mathematics , mathematical analysis , computer security , archaeology , computer science , history
This note demonstrates that an asset's price in an environment with price limit rules can be replicated bythe price of a portfolio consisting of a riskless asset and two synthetic options. A procedure is developed tounbundle the unobservable option values imbedded in the actual futures price and impute a theoretical true futuresprice. Using this framework, evidence from the Treasury Bond futures market suggests that theoretical true futuresprices diverge from actual futures prices, on average, 3 h prior to the activation of price limit rules,indicating that price limit moves might be predictable. The reversal of both the actual futures prices and thetheoretical futures prices back within the limit range after a limit move provides support for the possibilitythat traders tend to overreact when market prices are near price limits. © 2002 Wiley Periodicals, Inc. JrlFut Mark 22:901–913, 2002