Basis trading

This article is about the general trading strategy involving spot-derivative price differences. For other uses, see Basis.

Basis trading is a financial strategy involving offsetting positions in a spot (cash) asset and a related derivative—most commonly a futures contract – aimed to profit from price convergence over time. The price difference is known as the basis. Basis trading is used across multiple asset classes, including commodities, fixed income, equities, and digital assets.^[1]

Definition of basis

In finance, the basis typically refers to the difference between the spot price of an asset and the price of a related futures contract:

Basis = Spot price − Futures price

The basis reflects various factors including storage costs^[a] interest rates, expected dividends (see Dividend yield), and time to maturity (see Bond). The concept is used in assessing arbitrage opportunities and in designing hedging strategies.

Types of basis trading

Basis trading strategies are employed across multiple markets:

Treasury basis trade: Refers to a position established through the sale of a Treasury futures contract and the purchase of a Treasury bond that is deliverable under the futures contract.^[2] It is widely used by hedge funds and often involves leverage through the repurchase agreement (repo) market. Commodity basis trade: Involves buying or selling physical commodities (e.g., oil, grain) and taking an opposite position in futures contracts. It is often used by producers or consumers for hedging. Equity and ETF basis trade: Involves pricing differences between an equity-based instrument (such as an ETF) and its underlying portfolio of assets. Options-based basis trade: Involves constructing synthetic positions using call and put options to replicate or offset exposures. Crypto basis trade: Common in digital asset markets, where traders go long spot Bitcoin or Ethereum and short the corresponding futures contract to exploit futures premiums ("contango") or discounts ("backwardation").

Risks and considerations

Basis trades are generally considered low-risk under normal market conditions, but they can be subject to substantial losses when markets behave unexpectedly. Risks include:

• Basis risk: The risk that the spot and derivative prices do not converge as expected.^[3]
• Leverage: Many basis strategies are leveraged, which magnifies gains and losses.
• Liquidity risk: In periods of market stress, positions may need to be unwound at unfavorable prices.
• Counterparty risk: Especially in over-the-counter or collateralized transactions.

See also

• Arbitrage
• Futures contract
• Basis swap
• Derivative (finance)
• Repo market