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Do futures markets drive the underlying markets?
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Do futures markets drive the underlying markets?

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Do futures markets drive the underlying markets?

That's probably a misleading title, but what I'm trying to find out is which is the chicken and which is the egg?!

For example, in British and Irish horse racing the dominant market is the Betfair betting exchange. In the final few minutes before each race the liquidity is on this exchange, and it is these prices that drive the market. Bookmakers react to the exchange prices, rather than visa versa, and the bookmakers use the exchange themselves to lay off bets.

What I'd like to know is the relative importance of futures markets to the underlying stock, currency, bond and commodities markets.

Thanks in advance.

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martifc View Post
That's probably a misleading title, but what I'm trying to find out is which is the chicken and which is the egg?!

For example, in British and Irish horse racing the dominant market is the Betfair betting exchange. In the final few minutes before each race the liquidity is on this exchange, and it is these prices that drive the market. Bookmakers react to the exchange prices, rather than visa versa, and the bookmakers use the exchange themselves to lay off bets.

What I'd like to know is the relative importance of futures markets to the underlying stock, currency, bond and commodities markets.

Thanks in advance.

The underlying instrument can exist without the existence of futures instrument, but the futures instrument cannot exist without the underlying instrument. That's why it's referred to as a derivative. The raison d'etre lies with the cash instrument, and the derivative instrument serves to provide risk transference, liquidity, and price discovery. At times cash may lead, and at times futures may lead, depending on various factors.

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If it would we would all know it and we would be all rich.

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The reason why we ask such questions ("what's the hen and what's the egg" or similar "which future is leading and which is lagging"-you will find many threads about this) is that we want to take advantage of it. Make money of it.

It is quite helpful to think about the big market participants that employ huge staff and have vast infrastructure. What might they do, how will they think.
If e.g. ES (future) always would lead its underlyings (the 500 constituents) the big players would surely have the equipment (intelligent people, computers, money) to detect it and then take advantage of the correlation.

Therefore if a fixed correlation has ever been there today with fast computers, connections and extreme amount of money flowing into algorithmic trading departments it would be gone.

Btw I would rather doubt that such a connection is existent for Betfair and the other betting service providers. If it could be detected it would be a way to make free money. Today if such an opportunity existed it would have been found and exploited. At least last time I looked (some months ago) I couldn't find a consistent relation.
If you are so happy to have found a consistent relation: Go for it, take the chance, use it now and don't think a second about equity markets.

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uexkuell View Post
The reason why we ask such questions ("what's the hen and what's the egg" or similar "which future is leading and which is lagging"-you will find many threads about this) is that we want to take advantage of it. Make money of it.

It is quite helpful to think about the big market participants that employ huge staff and have vast infrastructure. What might they do, how will they think.
If e.g. ES (future) always would lead its underlyings (the 500 constituents) the big players would surely have the equipment (intelligent people, computers, money) to detect it and then take advantage of the correlation.

Therefore if a fixed correlation has ever been there today with fast computers, connections and extreme amount of money flowing into algorithmic trading departments it would be gone.

Btw I would rather doubt that such a connection is existent for Betfair and the other betting service providers. If it could be detected it would be a way to make free money. Today if such an opportunity existed it would have been found and exploited. At least last time I looked (some months ago) I couldn't find a consistent relation.
If you are so happy to have found a consistent relation: Go for it, take the chance, use it now and don't think a second about equity markets.

Thanks for your reply.

I'm not interested in any kind of arbitrage - that sounds like a futile venture for a retail trader. I just want to know the relative importance of futures markets, e.g. can big players move prices temporarily using futures because the cash market may respond?


Last edited by martifc; December 27th, 2010 at 08:30 AM.
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martifc View Post
Thanks for your reply.

I'm not interested in any kind of arbitrage - that sounds like a futile venture for a retail trader. I just want to know the relative importance of futures markets, e.g. can big players move prices temporarily using futures because the cash market may respond?

It "depends" is probably the correct answer. I think though you are trying to figure out what one is the horse and what one is the cart being pulled by a horse. That is simply the incorrect way to conceptualize what is going on. Neither is the horse and neither is the cart, they are both connected and information is flowing back and forth between both...both of which are connected to a thousand other things.

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martifc View Post
I just want to know the relative importance of futures markets, e.g. can big players move prices temporarily using futures because the cash market may respond?

Being in the position of a big player it seems only logical to sometimes initiate a move in the market starting with a move in the futures sometimes with a cash move first.

Big players are engaged in all possible markets anyways: futures (globally - just plot ES, FTSE, DAX, Hangseng together), underlying stocks, ETFs ...

It would also make sense to select "leader" and "lagger" through a randomized, unforeseeable procedure.

(But perhaps I did not yet understand your question right)

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martifc View Post
Thanks for your reply.

I'm not interested in any kind of arbitrage - that sounds like a futile venture for a retail trader. I just want to know the relative importance of futures markets, e.g. can big players move prices temporarily using futures because the cash market may respond?


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martifc View Post
I'm not interested in any kind of arbitrage - that sounds like a futile venture for a retail trader.

Even though you might not be interested in arbitrage as an activity that you would like to do, I think you need to be interested in order to understand what can\is happening.

Just using the example you posted. Bookmakers react to the exchange and they even offload inventory to the exchange.

Well I'm a bookmaker and got 500K in bets on Team A at -2 -110. That means I'm long +2 +110 on TEAM B

I don't want all the risk I need to dump ...Well I want 500K of team A preferably @ -2 -109 or better.
I wait for favorable entry and then I make my move and dump them them on the exchange...
.let's say i get some @ -1.0. eat all that available inventory
eat all the inventory @ -1.5
and finally I finish @ -2..

So using your logic the exchange was @ -1.0 when i started and since the bookmakers follow they were at -1.0
Exchange moved the number to -1.5 bookmakers followed suit
Finally moved it to -2 and bookmakers followed suit.

Now just staring at just the screen .. we saw what we thought was the exchange lead and the bookmakers follow...
But what you didn't see, was that it wasn't the exchange leading.that event. It looked like the exchange was leading, but in fact it was a bookmaker leading the way... and through more price discovery we find that it really wasn't a bookmaker that started all this, but it was syndicate betting group with the original bets. ( Bets that happened 4 hours earlier on top of that)

Sorry for such crude example but bottom line is that it's all interlinked..

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