Euro dollar 8th April 2013

Initial margin Eurodollar futures

Eurodollar futures are a way for companies and banks to lock in an interest rate today, for money it intends to borrow or lend in the future. They are traded on the Chicago Mercantile Exchange (CME), and are the most widely traded futures in the world, with open interest (number of contracts outstanding) typically in the 7 to 9 million range for the shortest maturity futures.

Eurodollar futures are a cash settled futures contract on an interest rate for a 3 month loan with a $1 million notional value. They are essentially the futures equivalent of forward rate agreements (FRAs). However, because Eurodollar futures are exchange traded, they offer greater liquidity and lower transaction costs, but can not be customized like over the counter (OTC) FRAs. Since Eurodollar futures are margined, there is virtually no credit risk because any gains or losses are marked to market, or in other words they are paid daily. As such, if interest rates move in your favor, you receive cash compensation that day rather than waiting until expiry; these settlements are done every day. Since the contract is cash settled, no loan is actually extended even though the contract mentions a notional principal amount.

Many banks and large corporations will use Eurodollar futures to hedge future interest rate exposure. Sellers hedge against the risk of rising interest rates, while buyers hedge against the risk of falling interest rates. Other parties that use Eurodollar futures are speculators purely looking to make bets on future directional changes in interest rates.

Eurodollar futures terminology

Pricing of Eurodollar futures is unique in the sense that it is quoted as numerical price, despite the fact that it is an interest rate. The price quoted is simply 100 minus the implied interest rate. For instance, a price of 95.00 means an interest rate of 5.0%, while a price of 93.00 implies an interest rate of 7.0%.

  • refers to a method of settling gains and losses daily. The basic idea is that both the seller and the buyer of the contract puts up an initial margin account, and gains are added to this account (losses are subtracted). If the margin account falls below a certain level (called the maintenance margin), then the CME will make a margin call, forcing the investor to either replenish money in the margin account or to close their position. Because margining is done many times throughout each trading day, this effectively eliminates credit risk from the futures contract.
  • Ticks are a 0.01 change in the price (.01% change in the interest rate) of the futures contract, or the change of a single basis point (bps). In dollar terms, each tick represents a $25 gain or loss that must be paid out of a margin account. The $25 is derived as follows: $1, 000, 000 notional loan *(.01%)*(90/360)=$25.00. For instance, if the price were to drop from 95.00 to 94.99, then $25 is paid from the buyer's margin account into the margin account of the seller.
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Popular Q&A

avatar
Why are the initial/ maintenance margin for longer dated futures contracts lower than those for near maturity?

Mine are the same for both brokers I use.
Specifics, details, example, link? Have you compared brokers?

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