The Basics of Treasuries Basis

In U.S. Treasury futures, the basis is the price spread, usually quoted in units of 1/32, between the futures contract and one of its eligible delivery securities. 

This example will show how basis is determined and will help to consider what market action might do the level of the spread or basis. 

Starting with the list of U.S. Treasury securities eligible for delivery into a quarterly U.S. Treasury futures contract, the list could range from relatively small (three issues versus the Ultra Ten-Year contract) to many (18 issues versus the Ultra Bond contract). Each eligible security has its own conversion factor for the respective quarterly futures contract it is eligible for. The conversion factors are set based on the pricing to the first business day of the quarterly contract month and are fixed for the life of that contract month. The variable inputs to the basis are therefore the price of the futures contract and the price of the security being considered, both subject to changing market conditions.

Basis can be defined as the difference between the clean price of the cash security minus the converted futures price.

Basis = Cash Price – (Futures Price x Conversion Factor)

For example, consider a cash 5-year note, the 1.75% of November 30, 2021 versus the March 2017 5-year U.S. Treasury futures contract (FVH7). 

Assume the price of the cash security to be 99-10+ (1/32), the price of FVH7 to be 117-18+ (1/32), and the conversion factor (CF) of the cash security versus March 2017 5-year futures to be 0.8292.  Because U.S. Treasury cash and futures products trade in full points and fractions of a 1/32 we must first convert our futures and cash prices to decimal then perform the math, then convert back to 1/32 form.

Pfutures = 117-18+ (1/32s) = 117.578125

CF = 0.8292, Pfutures = (117.578125 x 0.8292) = 97.49578125

Pcash = 99.10+ (1/32s) = 99.328125

Basis = 99.328125 – 97.49578125 = 1.83234375

1.83234375 = 58.64 (1/32s)

Once this is done with all the securities eligible for delivery, traders can either trade the basis outright or use the gross basis as a starting point for deeper relative value analysis like calculating the cheapest-to-deliver (CTD) security of a given futures contract.

Trading of the U.S. Treasury basis is active part of the U.S. Treasury securities market.  Basis trades can be executed and submitted for clearing at CME Group via an exchange-for-physical (EFP) transaction under Rule 538 of the exchange.