I’m often asked if a Futures contract expiration can cause a seasonal tradable pattern. The answer is yes, no and maybe. All Future’s contracts expire at some point, but not all contracts are deliverable. As well, only long positions in the market are ever delivered against.
When trading in the Futures market, the trader is simply entering into a contractual obligation to buy or sell a Commodity at today’s price and take or make delivery at some point in the Future when that contract expires. But, rarely are deliveries made today. Approximately 98% of them are offset before the contract expires to avoid taking or making delivery.
Even the Commercials will use the cash from a Futures hedge of the physical Commodity at times. Some of this is to avoid the excessive delivery charges for where the Futures contract is written to be delivered from. Or perhaps the commercial does not want to pay to store the Commodity over time.
Not all Futures contracts are physically delivered. Some are simply settled in cash at settlement of the contract expiration. Cash settled contracts carry no risk of being delivered against. These contracts do not see the same panic of exit near expiration like a deliverable contract does.
Traders can be long or short a Futures contact. The traders holding long positions going into expiration or First Notice Day (FND) are the ones who face delivery of the physical Commodity.
When prices are trending either up or down that means speculators, both large (professional) and small (novice), are in that trend. Following trends is how speculators make money. As a result, the last thing a speculator wants is to take delivery of a Futures contract. Just one Live Cattle contract would be 40,000 pounds of on the hoof beef. Due to this lack of desire to take delivery, they will exit uptrends in masses near contract expirations and FND’s.
The interest rate market has been in a strong seasonal uptrend as I wrote about recently that Moore Research had shown to have a high percentage win rate through the month of August.
First Notice Day – First day notice is given to broker of intent to take or make delivery. For the interest rate products that date is August 31 for the September contract. Treasury Futures are a deliverable product for $100,000 of a Treasury per contract. The chart below shows this price action. I would like to thank Moore Research again for use of their charts.
From the chart we can see that the 10 year Treasury Futures contract has been in a strong uptrend since June. This would mean there are a lot of speculators in this market and they must exit by August 31 FND or face taking delivery of a 10 Year Treasury.
I used MRCI’s chart to illustrate how the Open Interest (contracts entered into, but have not yet been offset) has dropped off during the last few days coming into the end of August.
Below the price chart are two sub-charts. The upper one is the contract specific volume (purple) and open interest (black) and does very little for analysis as the volume and open interest must go up and down as the contract becomes the front month and when it comes into expiration. Unfortunately, most of our charting packages only show contract specific open interest and volume making the information useless.
The lower chart shows cumulative (all 10 Year Futures contracts traded) volume and open interest. Using cumulative allows us to see traders truly entering markets and showing strength or weakness in the trend.
A trader could use this information to gain an edge in their trading. If there is a strong uptrend in a Futures market that is physically delivered and it is days from FND or expiration, they should anticipate the open interest to drop off showing traders are leaving the market to avoid delivery.
If you look at a weekly continuous chart of the 10 year Treasury Futures contract you will see a beautiful supply (resistance) level that the market traded into the day before the mass exit started which caused the price to drop.
“To be upset over what you don’t have is to waste what you do have” Ken Keyes