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Basis Risk Calculator

Calculate basis risk between spot and futures prices to assess hedging effectiveness and price convergence.

Basis Risk Calculator

Calculate basis risk between spot and futures prices to assess hedging effectiveness and price convergence.

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Guide

Understanding basis risk and hedging effectiveness

  • Basis = Spot Price - Futures Price. Basis risk is the risk that basis changes, causing imperfect hedging even with optimal hedge ratio.
  • Basis Risk = sqrt(SpotVol² + FuturesVol² - 2 × Correlation × SpotVol × FuturesVol). Lower basis risk indicates better hedging effectiveness.
  • Hedge Effectiveness = Correlation² (R-squared). Higher correlation (closer to 1.0) results in higher hedge effectiveness and lower basis risk.
  • Basis typically converges to zero at futures expiration (spot and futures prices converge), but can fluctuate significantly before expiration.
  • Factors affecting basis risk include correlation, volatility differences, time to expiration, storage costs, interest rates, and supply/demand imbalances.

Frequently Asked Questions

Basis risk, hedging effectiveness, and futures pricing

What is basis?

Basis is the difference between spot price and futures price: Basis = Spot Price - Futures Price. Positive basis (contango) means futures trade above spot, negative basis (backwardation) means futures trade below spot.

What is basis risk?

Basis risk is the risk that basis changes, causing imperfect hedging. Even with optimal hedge ratio, basis movements can result in gains or losses if spot and futures prices don't move in perfect correlation.

How is basis risk calculated?

Basis Risk = sqrt(SpotVol² + FuturesVol² - 2 × Correlation × SpotVol × FuturesVol). It measures the volatility of basis, indicating how much basis can change over time.

What is hedge effectiveness?

Hedge effectiveness = Correlation² (R-squared), ranging from 0% to 100%. Higher effectiveness means the hedge better offsets spot price movements. Effectiveness above 80% is generally considered good.

Why does basis exist?

Basis exists due to carrying costs (storage, insurance, interest), convenience yield, supply/demand imbalances, and time to expiration. Basis typically converges to zero at futures expiration.

What is contango and backwardation?

Contango: futures price > spot price (positive basis). Backwardation: futures price < spot price (negative basis). Contango is common in commodities with storage costs, backwardation in markets with convenience yield.

How does correlation affect basis risk?

Higher correlation reduces basis risk. If correlation = 1.0 and volatilities are equal, basis risk = 0. Lower correlation increases basis risk, making hedging less effective.

Can basis risk be eliminated?

Basis risk cannot be completely eliminated unless spot and futures prices move identically (correlation = 1.0, same volatility). In practice, basis risk is minimized but not eliminated.

How does time to expiration affect basis?

Basis typically converges to zero as expiration approaches (spot and futures prices converge). Longer time to expiration generally means higher basis risk due to more time for basis to change.

What is cross-hedging basis risk?

Cross-hedging (hedging with different asset) typically has higher basis risk due to lower correlation. Basis risk in cross-hedging is often higher than direct hedging with the same asset.

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Basis Risk Calculator

Calculate basis risk between spot and futures prices to assess hedging effectiveness and price convergence.

How to use Basis Risk Calculator

Step-by-step guide to using the Basis Risk Calculator:

  1. Enter your values. Input the required values in the calculator form
  2. Calculate. The calculator will automatically compute and display your results
  3. Review results. Review the calculated results and any additional information provided

Frequently asked questions

How do I use the Basis Risk Calculator?

Simply enter your values in the input fields and the calculator will automatically compute the results. The Basis Risk Calculator is designed to be user-friendly and provide instant calculations.

Is the Basis Risk Calculator free to use?

Yes, the Basis Risk Calculator is completely free to use. No registration or payment is required.

Can I use this calculator on mobile devices?

Yes, the Basis Risk Calculator is fully responsive and works perfectly on mobile phones, tablets, and desktop computers.

Are the results from Basis Risk Calculator accurate?

Yes, our calculators use standard formulas and are regularly tested for accuracy. However, results should be used for informational purposes and not as a substitute for professional advice.