What is Futures Basis? A Simple Guide for Indian Traders
Futures basis is the difference between the futures price and the spot price of the underlying. It reflects carrying costs, interest rates and market expectations. Basis narrows toward zero as expiry approaches, since futures converge to spot at expiry.
Futures and the spot price are linked but rarely identical. The gap between them is called the basis, and it carries useful information.
Understanding basis helps you read whether futures are at a premium or discount. What follows is a no-nonsense guide for Indian traders. You can track futures and spot on Stockk.
Key Takeaways
- Basis is futures price minus spot price.
- It reflects carrying costs and expectations.
- It converges to zero at expiry.
- A positive basis is called contango.
- A negative basis is called backwardation.
How is basis calculated?
Basis = Futures Price minus Spot Price
Picture this: a stock trades at ₹500 in the cash market, with near-month futures at ₹503, next month at ₹506 and far month at ₹509. The near-month basis is ₹3, and it widens for later expiries because the cost of carrying the position is larger over a longer period. As expiry approaches, each contract drifts down toward the ₹500 spot.
Why does basis exist?
Holding a futures position instead of the underlying saves the cost of buying the asset now, but involves carrying costs like interest until expiry. These costs, along with dividends and market expectations, create the gap between futures and spot.
How do traders use basis?
Basis reveals whether futures are trading at a premium or discount to spot, which signals carrying costs and sentiment. A widening premium can reflect bullish positioning, while a discount can reflect bearishness or expected dividends. Arbitrageurs exploit unusual basis, and the convergence to zero at expiry is a reliable anchor.
Positive vs negative basis
| Basis | Name | Common cause |
|---|---|---|
| Positive | Contango | Carrying costs |
| Negative | Backwardation | Dividends or bearishness |
Curious to try futures and options yourself? Head to Stockk, open a quick demat account, and use the Knowledge Center whenever you need a refresher.
Futures and Options are leveraged products and carry a high risk of loss that can be more than the money you put in. This article is only for learning and is not a recommendation to trade in derivatives.
Frequently Asked Questions
What is futures basis?
It is the difference between the futures price and the spot price, reflecting carrying costs and expectations. It converges to zero at expiry.
Why does basis converge at expiry?
At expiry, the futures contract settles against the spot, so any gap must close as carrying costs reach zero and the two prices meet.
What does a positive basis mean?
Futures trade above spot, usually reflecting carrying costs, a state called contango. It can also reflect bullish sentiment.
What does a negative basis mean?
Futures trade below spot, called backwardation, often due to dividends or bearish sentiment. It is less common.
How do arbitrageurs use basis?
They exploit unusual gaps between futures and spot for low-risk profit, with convergence at expiry anchoring the trade.
Investments in securities market are subject to market risks. This article is for educational purposes only and does not constitute investment advice.
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