Cost of carry
Also written Cost of carry (financing cost)
The interest paid to finance or carry the underlying asset until the expiry of the contract.
This one is not written up yet
The definition above is the short version. A full explanation — how it works, a worked example and the exam traps — is still being written. In the meantime the chapter below covers it in context.
Written up from the same chapter
- BackwardationA market in which the futures price sits below the spot price — the cost of carry says futures should be dearer, and something is overriding it.
- Base priceThe reference price a contract starts each trading day from — the theoretical futures price on the day it is introduced, and the previous day's daily settlement price on every day after.
- BasisThe difference between the spot price and the futures price of an asset — positive when spot exceeds futures, negative when futures exceeds spot, and zero at expiry.
- BetaHow sharply a share moves relative to the market index — beta 1 moves with the index, above 1 amplifies it, below 1 dampens it. The standard measure of systematic risk.
- Cheapest-to-deliverThe bond in the deliverable basket that costs a futures seller least to deliver — and, because the seller chooses, the bond whose cash price the futures contract actually tracks.
- ContangoA market in which the futures price sits above the spot price, normally because the futures buyer is paying for the cost of carrying the commodity through to delivery.
Where this is taught
- Series VIII · Chapter 3: Introduction to Forwards and Futuresintroduced here
- Series V-D · Chapter 15: Introduction to Forwards and Futuresintroduced here
- Series XVI · Chapter 3: Commodity Futuresintroduced here
- Series IV · Chapter 3: Exchange Traded Interest Rate Futuresintroduced here
Related terms
- Price discoveryThe process by which the free interaction of buyers and sellers produces a price that reflects every participant's expectation of what the underlying will be worth at a future date.
- BasisThe difference between the spot price and the futures price of an asset — positive when spot exceeds futures, negative when futures exceeds spot, and zero at expiry.
- Break-even pointThe level of the underlying at which a position makes neither profit nor loss — for a bought call, strike plus premium; for a bought put, strike minus premium.
- RhoThe option Greek that measures interest rate sensitivity — the change in an option premium for a one percentage point change in the risk-free rate. It is positive for calls and negative for puts.
- Put-call parityThe arbitrage-free relationship binding a European call and put of the same strike and expiry to the spot and the discounted strike: c + X·e^(−rt) = p + S. Deviations create risk-free profit.
- UnderlyingThe asset a derivative contract derives its value from — the index, stock, bond or currency whose spot price drives the contract. The derivative has no value of its own without it.
- ConvergenceThe certainty that a futures price and the spot price of its underlying meet at expiry — because on the last trading day the contract settles at the cash market price, leaving no room for a difference.
- RolloverCarrying a derivatives position past expiry by closing the expiring contract and opening the same position in the next series simultaneously — the only way to hold a view longer than one contract cycle.
- ContangoA market in which the futures price sits above the spot price, normally because the futures buyer is paying for the cost of carrying the commodity through to delivery.
- BackwardationA market in which the futures price sits below the spot price — the cost of carry says futures should be dearer, and something is overriding it.
- Convenience yieldThe rupee benefit of physically holding a commodity rather than holding a futures contract on it — the term that lets a futures price fall below spot plus carry.
- Fair valueThe theoretical futures price — spot plus the cost of carrying the commodity to expiry — at which a buyer is indifferent between buying today and buying forward.
- Contango and backwardationThe two shapes a commodity futures curve can take — contango when the futures price is above spot, backwardation when it is below.
- Forward rateThe interest rate for a period that starts in the future, implied today by two spot rates — because rolling a short investment must return the same as locking in a long one, or arbitrage follows.
- ArbitragerA participant who locks a profit by entering opposite transactions in two markets at once — carrying no exposure and taking no view, and in the process pulling the two prices back together.
← All terms