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FRM Part I · FRM Exam Part I · Futures Markets

A bond trader holds a bond currently quoted at 104.20 with a conversion factor of 1.0500. The Treasury futures price is 99.00. Which statement about this bond's delivery economics is correct?

The delivery cost is 0.25, computed as bond price 104.20 minus futures price 99 times conversion factor 1.05 (103.95). The cheapest-to-deliver bond is the one with the lowest cost, so this bond is a candidate; a negative cost is not required.

  1. AIts cost to deliver is 104.20 - 99.00 x 1.0500 = 0.25, so it is a candidate for the cheapest-to-deliverCorrect
  2. BIts cost to deliver is 104.20 - 99.00 x 1.0500 = 0.25, so it is not a candidate for cheapest-to-deliver, since a negative cost is required
  3. CIts cost to deliver is 104.20 - 99.00/1.0500 = 9.91
  4. DIts cost to deliver is 99.00 - 104.20 x 1.0500 = -10.41, so it is the cheapest-to-deliver

Explanation

Cost to deliver = bond price - futures price x conversion factor = 104.20 - 103.95 = 0.25. The cheapest-to-deliver bond is the one with the lowest such cost, and a small positive value is plausible for it. Option 2 wrongly requires a negative cost; options 3 and 4 use incorrect formulas.

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