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FX spot future parity theorem correlation query
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Created: by Justwondering123 Attachments:2

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FX spot future parity theorem correlation query

  #11 (permalink)
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Okay so you are looking at long term charts so forget what I said.
When you say you are looking at six month charts I guess you are looking at the last six candles on a monthly chart ie. One candle per month. in that case in theory the charts should look basically the same in terms of up and down bars and swing highs and lows.
The only problem is that spot forex is a continuous market (DailyFX graph below), but futures has contracts that roll over, 4 times a year for the currencies (CME graph below). If you look at the current front month/most heavily traded contract, from the CME you see that the data doesn't go back very far. If looking at the futures contract in a trading platform, or provided by a data provider for backtesting, they needs to combine the data together and it can be done in different ways eg. back-adjusted, not adjusted, which would make a difference for a few days every three months but shouldn't make that much difference on a monthly chart.
Sorry, After typing this out I realise it is probably another reply that answers somebody's question, but not yours.
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  #12 (permalink)
Market Wizard
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Justwondering123 View Post
Hi,

Complete newbie to futures, not to FX spot, so I do apologise for the probably dull and infant nature of my question.

IF currency futures are priced using the spot-future parity theorem (so I have read in my research), why is it I am seeing a futures contract on the GBP decrease in price 1.3290 as the price of the GBP rises? This has been racking my head for days and I can't find a definitive answer anywhere, it all seems to conflict.

Forward FX rates are simply the spot rate plus the interest rate differential until the forward point in time.

For example assume spot USDGBP is 1.30 and US interest rates are 0.50% while UK interest rates are 0.25%. If I buy £1 today, I will be short $1.30. In one years time the £1 will have grown to £1.0025 while the $1.30 will have grown to $1.3065. Hence the 1 year forward rate to avoid arbitrage must be 1.3032 (ie 1.3065/1.0025).

One way the forward rate can move differently to spot rate is if the interest rates move!

Following on from our example above, imagine tomorrow Brexit fears get worse and the USDGBP rate drops to 1.298 but at the same time the Bank of England lowers interest rates to zero. If I buy £1, I will be short $1.298. In one years time the £1 still be worth £1 while the $1.298 will have grown to $1.3045. Hence the 1 year forward rate to avoid arbitrage must be 1.3045. Hence the spot rate has dropped 0.002 (from 1.300 to 1.298) while the 1 year forward rate increased 0.0013 (from 1.3032 to 1.3045). Voila! Divergence in the spot/forward rate without violating arbitrage rules!

In reality @mattz's comment about lag is probably correct!

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  #13 (permalink)
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SMCJB View Post
Forward FX rates are simply the spot rate plus the interest rate differential until the forward point in time.



For example assume spot USDGBP is 1.30 and US interest rates are 0.50% while UK interest rates are 0.25%. If I buy £1 today, I will be short $1.30. In one years time the £1 will have grown to £1.0025 while the $1.30 will have grown to $1.3065. Hence the 1 year forward rate to avoid arbitrage must be 1.3032 (ie 1.3065/1.0025).



One way the forward rate can move differently to spot rate is if the interest rates move!



Following on from our example above, imagine tomorrow Brexit fears get worse and the USDGBP rate drops to 1.298 but at the same time the Bank of England lowers interest rates to zero. If I buy £1, I will be short $1.298. In one years time the £1 still be worth £1 while the $1.298 will have grown to $1.3045. Hence the 1 year forward rate to avoid arbitrage must be 1.3045. Hence the spot rate has dropped 0.002 (from 1.300 to 1.298) while the 1 year forward rate increased 0.0013 (from 1.3032 to 1.3045). Voila! Divergence in the spot/forward rate without violating arbitrage rules!



In reality @mattz's comment about lag is probably correct!


Correct mate but you are talking about forwards and not Futures here..


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