Let’s say you wanted to place a futures trade in gold that removes the US dollar component from the trade. How would you do it? Today, we examine just that. We look to answer…what are the necessary steps you would take to trade gold futures in conjunction with a currency future (aside from the USD)?
The first and arguably most important step in trading gold in non-dollar terms is to calculate the notional value. The notional value equations is…
Contract Size x Current Price = Notional Value
1 Gold (/GC) Contract = 100oz.
1 Euro FX (/6E) Contract = 125,000 Euros
/GC - 100oz x $1,091.3 = $109,130
/6E - 125,000 x $109.80 = $137,250
Next, we divide the notional value of a gold future by the notional value of each corresponding currency. Then, we multiply both by a predetermined percentage of IV differential, which gives us an approximate IV adjusted futures pair.
Gold IV: 36%
Euro FX: 64%
The spread ratio of the notional value is 1 to .80 (or a contract ratio of 5 to 4). When adjusted for IV, the ratio is closer to 2 (/GC) to 1 (/6E).
We take the IV adjusted notional ratio and then place a trade based on that - this is assuming we are bullish on gold.
In this example, we buy 2 gold contracts and sell 1 Euro FX contract. This is a trade that has a potentially high margin requirement.
If you wanted to place an equivalent trade, but one that requires less buying power, you can use options on futures. In this instance, you could buy a gold call and sell a Euro FX call. See the video for more details.
Strategies: Futures Pairs Trade
Products Discussed In This Episode: /GC, /6E
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