448
A Complete Guide to the Futures mArket
prices and rising interest rates could cause full carry to move beyond 200 points, increasing the trad-
er’s risk correspondingly. in such an instance, it is theoretically possible for the given spread to move 
significantly beyond the point the trader considered the maximum risk point. Although such an event 
can occur, it should be emphasized that it is rather unusual, since in a limited-risk spread increased 
carrying costs due to sharply higher price levels will usually imply larger gains for the nearby months. 
As for interest rates, changes substantial enough to influence marked changes in carrying costs will 
usually take time to develop.
Another example of a limited-risk spread that might contain hidden risk is the case in which 
the government imposes price ceilings on nearby contracts but not on the more distant contracts. 
Although highly unusual, this situation has happened before and represents a possible risk that the 
spread trader should consider in the unlikely event that the prevailing political environment is condu-
cive to the enactment of price controls.
Also, for short intervals of time, spread differences may well exceed full carry due to the absence 
of price limits on the nearby contract. For a number of commodities, price limits on the nearby 
contract are removed at some point before its expiration (e.g., first notice day, first trading day of 
the expiring month, etc.). Consequently, in a sharply declining market, the nearby month can move 
to a discount exceeding full carry as the forward month is contained by price limits. Although this 
situation will usually correct itself within a few days, in the interim, it can generate a substantial mar-
gin call for the spread trader. 
it is important that spread traders holding their positions beyond the 
removal of price limits on the nearby contract are sufficiently capitalized to easily handle such possible 
temporary spread aberrations.
As a final word, it should be emphasized that although there is a theoretical limit on the premium that 
a distant month can command over a nearby contract in carrying-charge markets, there is no similar limit on the 
premium that a nearby position can command. 
nearby premiums are usually indicative of a tight current 
supply situation, and there is no way of determining an upper limit to the premium the market will 
place on more immediately available supplies.
 ■ The Spread Trade—Analysis and Approach
Step 1: Straightforward historical Comparison
A logical starting point is a survey of the price action of the given spread during recent years. Histori-
cal spread charts, if available, are ideal for this purpose. if charts (or historical price data that can be 
downloaded into a spreadsheet) are unavailable, the trader should, if possible, scan historical price 
data, checking the difference of the given spread on a biweekly or monthly basis for at least the past 
5 to 10 years. 
this can prove to be a time-consuming endeavor, but a spread trade initiated without 
any concept of historical patterns is, in a sense, a shot in the dark. Although spreads can deviate 
widely from historical patterns, it is still important to know the normal range of a spread, as well as 
its “average” level.