Calendar spread trading

Instead of betting on whether USDINR will rise or fall, a calendar spread trader bets on the gap between two expiries of the same contract.

The workbook's definition: a calendar spread is a contract where a trader buys/sells a particular month contract (Futures or Options) and sells/buys (take an opposite position) of the same contract of a different month. Both have the same underlying but different maturities.

Because one leg is long and the other short, a general move in USDINR largely cancels out. What remains is exposure to basis risk — the risk that the spread between the two contracts changes.

What drives that spread? The workbook lists three things: interest rate differentials, liquidity in the banking system, and monetary policy decisions (repo, reverse repo, CRR). That is interest rate parity at work: the forward premium between two months reflects the interest differential for the period between them.

Views and positions (Chapter 5, section 5.6):

Lower margin. Because the legs offset, a futures position in one month hedged by one in another month attracts a calendar spread charge instead of full margin (Chapter 7, section 7.9.1.1.3):

For options, the spread charge is based on the delta of the portfolio in each month. The benefit lasts until the near-month contract expires.

Execution risk. Entering the two legs as separate orders exposes the trader to adverse price movement between them, and to higher margin until the second leg fills. The spread order facility removes both.

A wording slip in the workbook. Section 5.6 says the calendar spread trader "does face the risk of underlying security/currency movement but is only exposed to the basis risk". The sense of the passage — and the lower margin — is that the trader is not materially exposed to the currency's direction, only to the spread.

The workbook's trade. A trader expects the near-month / mid-month USDINR spread to widen.

Square off both legs, per contract of USD 1,000:

March: sold 83.00, bought back 83.10 → −0.10 × 1,000 = −Rs 100
April: bought 83.20, sold 83.40      → +0.20 × 1,000 = +Rs 200
Net                                  = +Rs 100

That matches the workbook's shortcut: (0.30 − 0.20) × 1,000 = Rs 100 per contract.

USDINR itself rose 10 paise in March and 20 paise in April; the trader profited only from the extra 10 paise of widening.

Margin. Illustrative scale. For 10 such one-month USDINR spreads, the calendar spread charge is 10 × Rs 500 = Rs 5,000, far below what two outright 10-lot positions would require.

Chapter 5, section 5.6 (Trading Spreads Using ETCD), defines the calendar spread, lists the drivers of spread movement and works the March/April example. Chapter 6, section 6.2.5, describes the spread order book; Chapter 7, section 7.9.1.1.3, gives the calendar spread charge table. Expect a spread profit calculation and the margin figures.

• Same underlying, different maturities. Different underlyings with the same maturity is not a calendar spread.
• Expect widening → sell near, buy far. Reversing the legs is the classic error.
• Profit = change in spread × lot size, not the change in either leg alone.
• Spread benefit ends when the near month expires; the far leg then becomes an outright position.
• USDINR 1-month calendar spread charge is Rs 500; 4 months or more, Rs 1,100.
• The main risk is basis risk plus execution risk between legs — which the spread order facility addresses.