Futures tail wags JSE dog

MONEYWEB, SINGLE STOCK FUTURES, 15 March 2005

Retail investors should steer clear until massive, record futures positions are unwound on Thursday.

At ten-o-clock on Tuesday morning, massive volumes of futures-driven spot trade on the JSE Securities Exchange saw the all-share index rocket to an all-time intra-day high of 13 674 points. According to Arthur Buchner of Nedcor Securities, the action centres on the imminent March expiry of the futures market. At 14:00 this Thursday, to be exact, futures market players will have one hour and forty minutes to make sure that all positions are closed out.

Futures contracts are closed out four times a year, and, according to Buchner, those that expire in March always attract the greatest volume. This is because institutions hedge their positions according to a tax year that ends in February. This year’s action is the greatest the market has ever seen. To give an indication, the open positions on the Alsi 40 index recently totaled 188 000 contracts, compared to a previous high of 140 000). The number of open positions on the index currently stands at 158 000, equal to roughly R1,9-bn.

Clearly, if that volume were to be traded through the market in just one hour and forty minutes, it would have a huge effect on the market. Luckily, the vast majority of futures contracts are unwound before expiry. Buchner says that the spikes seen in Tuesday’s market can be attributed to institutional investors striking deals with futures arbitrageurs.

To give an example: Buchner says that futures arbitrageurs (the institutions that sell futures in the retail market) took short positions on equities to hedge their long futures positions. Now that the contracts are approaching expiry, the arbitrageurs are busy buying back the securities that they sold short – in large quantities. Typically, he said that deals are struck between institutional investors wishing to sell large quantities of stock for a good price and the arbitrageurs who are scrambling to cover their short positions.

Another method of delaying the crunch that looms before futures contracts expire is for traders to “roll over” their positions. This means that they simply renew their position until the next expiry date, three months later. However, Buchner said that there is not much evidence of roll overs taking place. This indicates that traders are starting to think that market levels are becoming a bit rich.

The message behind the frantic market activity is simple: the next two days of trade are best left to the professionals.

Posted in Market commentary

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