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At 11:54 15/12/00 -0800, DH wrote:
>The gif shows the spread between the Naz futures and the NDX cash. The
>"law" says that should be relatively constant over the course of a day.
The theory says that - in the absence of transaction costs. In order to
arbitrage the Nasdaq cash and future perfectly you'd have to program-trade
100 different stocks every time you want to make an arb trade. That will
cost you bid-ask spread as well as settlement costs and exchange fees,
assuming that you're a clearing member and don't pay commish to a broker.
In practice index arbitrageurs use baskets of stocks that model the
behaviour of the cash reasonably well, but are much smaller - someting like
10-15 stocks for the Nasdaq, for example. That representative sample is of
necessity imperfect.
Add to all that the cost of carry and you wind up with a largish
no-arbitrage band in the premium which results in arb trades only being
worthwhile if certain thresholds are crossed. You can see from the graph
that this band seems to lie between 45 and 55 points at present, IOW
transaction costs in arb trades in this instance eat up 5 points on average
per trade, which is why no-one bothers to make arb trades unless that limit
is exceeded either way.
Or so a wise man once explained to me when I was foolish enough to try to
trade off premium fluctuations from upstairs...
$.02,
Stefan Schulz
Suaviter Limited
prog1@xxxxxxxxxxxxxx
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