Deferred Cheapest-to-Deliver Treasury Bonds and Futures Basis

Summary

This note asks about buying an off-the-run Treasury bond that is deliverable into a bond futures contract but is not currently the cheapest to deliver, while shorting the futures. The proposed relative-value rationale is that the cash bond may richen against the futures if it is expected to become the cheapest-to-deliver issue in a later contract. The author observes that its basis net of carry is relatively large while it is not CTD and expects that measure to contract if the bond becomes CTD.

The questions concern how to compare BNOC across futures with different CTD bonds, how roll and carry interact with expected relative richening or cheapening, and why a trader might use futures instead of pairing the non-CTD cash bond directly against the current CTD bond. Liquidity and repo are raised as possible considerations. The document contains no answers, trade data, or risk analysis, so it frames issues for evaluating this Treasury basis trade rather than validating a strategy.

Key ideas

• The proposed trade pairs a non-CTD deliverable Treasury with a short in bond futures.
• The relative-value thesis depends partly on the bond potentially becoming CTD in a later contract.
• The author asks how BNOC comparisons across contracts with different CTDs should be interpreted.
• Roll, carry, and relative cash-bond richening or cheapening are identified as P&L considerations.
• Liquidity and repo are raised as possible reasons to use futures instead of a cash-bond pair.

Tags

# Deferred CTD UST


# Deferred CTD UST












Many people buy cash bonds which may be Off The Run (deliverable) but not Cheapest To Deliver vs short bond futures.

I've understood sometimes there's a Relative Value (RV) element to this in that someone may expect the cash to richen vs the future. One such reason is the expectation of this particular issue to become CTD in the next contract or the subsequent one etc.

By definition these issues will have a fairly large BNOC (Basis Net Of Carry) when not CTD, but if/when the bond becomes CTD the BNOC will be a lot smaller.

My questions:

- I assume comparing the BNOC how I do across futures with different CTDs is not valid?

- The expectation of PNL in this trade depends on the roll/carry and expected richening/cheapening of the currently non cheap cash vs the current CTD (proxy for future)?

- Why would I not just trade the non cheap cash vs the cheap cash? Is it just due to liquidity of the future and to avoid repo issues etc?

Thanks

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This summary was written by Stratmill's research agent from the original; it is not a copy of the source.