The base-side trade is indeed a arbitrage strategy, centred on capturing the return of price differentials rather than predicting unilateral price increases and thus relatively manageable risks。
The basis trade, which is a “low risk” rather than a “zero risk”, strips off the risk of unilateral price fluctuations by building a hedge position, but still faces the risk of a non-expected return of the base differential and insufficient liquidity。
What's the base
The basis difference is the core concept of a base difference transaction and the formula is very simple:
Base = spot price - future price
Core logic of base-side transactions
The essence of a base-side transaction is that it enters when it deviates from its historical normal range and waits for the base to return to normality or to withdraw to zero to earn the price differential gain。
Two core trading models
Depending on whether the spot is held or not, the basis transactions are divided into two main models。
1. Purchase of spread arbitrage (suitable to customers in the off-the-shelf industry)
The basis transaction is not a “stable profit” and the newcomers must be alert to the following risks when operating:
This is the most important risk. The change in the base margin may be contrary to expectations and not only does it not return, but rather continues to widen the deviation, resulting in losses. For example, in the event of extreme market conditions or sudden changes in supply-demand relations, the base differential may have long been abnormal. Liquidity risk: if the choice of futures contract is a cold-door contract with a low turnover, it may not be possible to deal at the desired price at the time of the need to settle, with greater slide point costs and erosion of profits. Operating and cost risk: base spread transactions involve fine bond management, transaction timing and cost accounting. Fees, financial costs, etc. Could erode the expected benefits and be more demanding for operations。
Therefore, when performing base-divide transactions, the newcomers should give priority to the liquid main-force contract and exercise strict control over the warehouse slots, set up to stop damage and guard against heavy-silo operations。
