Speculation Opportunity

Let’s look at the FKLI futures prices recently. 2 June 2008 closed at 1267.0 and the overall prices of the futures are declining over the month. At the end of the month, the price has dropped to 1186.5. This may be the lower point of the month and it should be taken advantage of.

To ascertain the downward movement of the market, we decided to wait for a few days in order to buy in at the lowest price possible. The following shows the market prices a few days before the real purchase is made:

Date	Open Int.	Open	High	Low	Closed
01-Jul 02-Jul 03-Jul 04-Jul 07-Jul	33,945 35,738 36,978 36,539 36,438	1,172.0 1,152.0 1,126.5 1,119.5 1,113.0	1,175.5 1,159.0 1,132.0 1,121.0 1,121.5	1,152.0 1,137.5 1,110.0 1,104.5 1,106.5	1,152.0 1,144.0 1,117.0 1,110.0 1,119.0

By referring to the table, the prices dropped from 1152.0 on 1 July 2008 to 1110.0 on 4 July 2008. This has proved that our prediction about the market is correct. However, the futures prices closed 9 point higher from 1110.0 on 7 July 2008. Thus we decided to take the opportunity by purchasing the July futures contracts on 8 July 2008 in order to avoid further advances of the price in the market.

FKLI Futures Prices (2 Jan 2008- 30 June 2008)

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By referring to the graph, it can be seen that a peak (head) was formed during 9 January 2008 to 16 January 2008. After the “head”, a sharp dip occurred in 22 January 2008. The market rebounded in the subsequent weeks and formed the shoulder to the head (peak) stated earlier.

Sharp downturn can be observed from the graph after the position of the “shoulder” and the downturn started from 27 February 2008 until the graph forms a trough on 17 March 2008. That was a very good opportunity to short the FKLI and then close out the position by taking the long position at the bottom of the market. However, the opportunity has been missed. Whatever it is, the same market pattern may repeat again later in the market.

FKLI futures recovered from the bottom of the market and fluctuated from 19 March 2008 through 16 April 2008. It formed “Double Top” and tended to go side line during the same period. On 21 May 2008, another downturn started to crystallize and it seemed like it would reach another market bottom soon. This is the opportunity that should not be missed by any skillful speculator.

Market Analysis

Below are the historical prices of FKLI Contract from 2 January 2008 to 30 June 2008:

Historical Price for FKLI Contract 2008

Date	Open Int.	Open	High	Low	Closed
02-Jan 03-Jan 04-Jan 07-Jan 08-Jan 09-Jan 11-Jan 14-Jan 15-Jan 16-Jan 17-Jan 18-Jan 21-Jan 22-Jan 24-Jan 25-Jan 28-Jan 29-Jan 30-Jan 31-Jan	27,907 28,178 29,202 29,663 29,966 28,843 31,900 32,047 32,183 34,730 35,675 37,257 35,030 31,583 32,500 31,926 27,844 26,810 10,857 0	1,435.5 1,427.0 1,431.0 1,460.0 1,466.5 1,490.0 1,512.0 1,521.5 1,530.0 1,488.0 1,457.0 1,431.0 1,431.0 1,345.0 1,392.0 1,390.0 1,398.5 1,405.0 1,387.5 1,373.0	1,450.0 1,436.5 1,470.0 1,470.5 1,499.5 1,509.0 1,531.0 1,535.0 1,536.0 1,490.0 1,472.0 1,463.0 1,439.0 1,352.0 1,397.0 1,421.0 1,398.5 1,409.0 1,402.0 1,395.0	1,432.5 1,426.5 1,431.0 1,455.0 1,466.0 1,482.5 1,510.5 1,510.5 1,502.5 1,436.0 1,429.0 1,425.0 1,479.0 1,296.0 1,360.0 1,389.5 1,358.0 1,378.5 1,372.0 1,373.0	1,440.0 1,433.5 1,469.0 1,466.0 1,490.5 1,503.0 1,524.0 1,522.0 1,504.0 1,443.5 1,472.0 1,444.0 1,387.5 1,335.0 1,360.0 1,413.0 1,383.5 1,385.0 1,377.0 1,387.5
04-Feb 05-Feb 06-Feb 11-Feb 12-Feb 13-Feb 14-Feb 15-Feb 18-Feb 19-Feb 20-Feb 21-Feb 22-Feb 25-Feb 26-Feb 27-Feb 28-Feb 29-Feb	30,267 29,110 29,505 28,965 29,548 31,908 31,945 31,616 31,453 31,271 30,640 31,114 32,262 30,585 34,541 21,263 18,717 0	1,419.0 1,426.0 1,407.0 1,396.0 1,408.0 1,432.0 1,436.0 1,429.0 1,433.0 1,422.0 1,410.5 1,417.0 1,373.0 1,371.0 1,374.5 1,382.0 1,366.0 1,355.0	1,434.5 1,440.5 1,411.0 1,413.0 1,423.0 1,446.5 1,445.0 1,434.0 1,434.0 1,426.5 1,415.5 1,417.5 1,374.5 1,374.0 1,377.5 1,384.0 1,372.0 1,363.0	1,416.0 1,422.0 1,396.0 1,391.5 1,407.5 1,411.0 1,423.0 1,422.5 1,408.5 1,410.0 1,397.0 1,381.5 1,344.5 1,353.5 1,362.0 1,373.0 1,362.0 1,348.0	1,430.0 1,435.0 1,404.0 1,402.0 1,417.5 1,416.0 1,441.0 1,425.0 1,412.0 1,412.0 1,400.0 1,385.0 1,361.0 1,367.0 1,375.0 1,373.0 1,365.0 1,360.0
03-Mar 04-Mar 05-Mar 06-Mar 07-Mar 10-Mar 11-Mar 12-Mar 13-Mar 14-Mar 17-Mar 18-Mar 19-Mar 21-Mar 24-Mar 25-Mar 26-Mar 27-Mar 28-Mar 31-Mar	37,261 38,146 38,114 37,775 37,002 38,996 40,735 41,833 40,545 41,134 40,900 38,435 38,895 37,142 36,628 37,541 39,933 19,993 13,834 0	1,298.0 1,304.0 1,293.0 1,279.0 1,278.5 1,163.0 1,165.5 1,220.0 1,213.5 1,192.0 1,158.5 1,159.5 1,210.0 1,181.0 1,172.5 1,205.0 1,230.0 1,222.0 1,246.0 1,252.0	1,314.0 1,314.5 1,294.0 1,305.0 1,291.0 1,209.5 1,198.0 1,231.5 1,219.0 1,193.0 1,160.0 1,183.0 1,225.0 1,181.0 1,193.0 1,231.0 1,243.5 1,255.0 1,266.0 1,258.0	1,290.0 1,281.5 1,266.5 1,277.0 1,269.5 1,152.0 1,159.0 1,214.0 1,165.0 1,161.0 1,142.0 1,147.0 1,153.0 1,158.0 1,172.5 1,201.5 1,216.5 1,218.0 1,243.5 1,247.0	1,294.5 1,287.0 1,275.0 1,299.0 1,269.5 1,177.0 1,192.5 1,227.0 1,168.0 1,184.0 1,147.5 1,183.0 1,163.0 1,168.0 1,190.5 1,223.0 1,230.0 1,255.0 1,260.0 1,249.5
01-Apr 02-Apr 03-Apr 04-Apr 07-Apr 08-Apr 09-Apr 10-Apr 11-Apr 14-Apr 15-Apr 16-Apr 17-Apr 18-Apr 21-Apr 22-Apr 23-Apr 24-Apr 25-Apr 28-Apr 29-Apr 30-Apr	35,878 37,272 37,675 37,878 38,460 37,887 38,123 36,834 36,719 36,584 36,086 36,232 35,728 36,287 36,456 35,377 35,357 36,957 38,130 34,015 15,559 0	1,237.0 1,270.0 1,224.0 1,220.0 1,218.0 1,207.0 1,213.0 1,218.0 1,258.0 1,230.0 1,230.0 1,257.0 1,270.5 1,253.0 1,280.0 1,280.0 1,284.5 1,295.0 1,302.0 1,301.0 1,296.0 1,280.5	1,250.0 1,273.0 1,234.0 1,226.5 1,219.5 1,214.0 1,228.0 1,251.5 1,260.0 1,237.5 1,250.0 1,263.5 1,272.5 1,270.0 1,287.0 1,290.0 1,302.0 1,309.5 1,306.0 1,303.0 1,303.5 1,285.0	1,218.5 1,222.0 1,208.0 1,212.5 1,206.5 1,201.0 1,213.0 1,218.0 1,243.5 1,225.0 1,230.0 1,250.0 1,251.0 1,251.0 1,275.5 1,276.5 1,282.5 1,286.0 1,289.0 1,295.5 1,283.0 1,276.0	1,241.0 1,222.0 1,215.0 1,220.0 1,219.0 1,208.0 1,223.5 1,243.5 1,255.0 1,234.0 1,246.0 1,260.5 1,251.0 1,269.0 1,282.5 1,284.5 1,299.5 1,289.5 1,303.0 1,301.0 1,283.0 1,283.5
02-May 05-May 06-May 07-May 08-May 09-May 12-May 13-May 14-May 15-May 16-May 20-May 21-May 22-May 23-May 26-May 27-May 28-May 29-May 30-May	31,028 31,003 31,255 31,031 32,552 30,184 30,384 30,719 30,840 31,278 31,873 32,622 30,254 29,099 29,683 31,679 30,661 25,667 16,089 0	1,295.0 1,277.0 1,271.0 1,288.0 1,273.0 1,272.0 1,283.0 1,300.0 1,289.0 1,293.0 1,301.5 1,293.5 1,286.0 1,276.0 1,275.0 1,264.0 1,264.5 1,270.5 1,265.5 1,267.0	1,295.0 1,280.0 1,285.0 1,288.5 1,279.0 1,286.5 1,297.5 1,301.5 1,298.5 1,300.5 1,306.5 1,297.5 1,290.5 1,279.5 1,292.0 1,267.0 1,271.0 1,271.0 1,269.0 1,274.0	1,278.0 1,270.0 1,270.0 1,275.0 1,263.0 1,272.0 1,282.0 1,284.5 1,286.5 1,292.5 1,294.0 1,284.0 1,282.5 1,271.5 1,270.0 1,256.0 1,263.0 1,257.0 1,263.0 1,265.5	1,280.5 1,274.0 1,283.0 1,278.0 1,275.0 1,284.0 1,296.5 1,286.5 1,295.0 1,298.0 1,297.5 1,293.5 1,287.0 1,277.0 1,270.0 1,261.0 1,267.0 1,259.0 1,265.5 1,269.5
02-Jun 03-Jun 04-Jun 05-Jun 06-Jun 09-Jun 10-Jun 11-Jun 12-Jun 13-Jun 16-Jun 17-Jun 18-Jun 19-Jun 20-Jun 23-Jun 24-Jun 25-Jun 26-Jun 27-Jun 30-Jun	32,438 33,862 36,039 39,366 38,706 37,866 37,668 36,868 37,067 36,222 37,154 36,491 36,694 35,121 36,485 37,340 36,765 33,398 23,118 15,022 0	1,266.0 1,261.0 1,249.0 1,218.0 1,223.0 1,204.0 1,219.5 1,213.0 1,209.0 1,219.0 1,223.0 1,237.5 1,218.5 1,182.0 1,184.5 1,176.0 1,186.5 1,194.0 1,201.0 1,182.0 1,183.0	1,276.0 1,262.5 1,249.5 1,221.0 1,237.0 1,218.5 1,219.5 1,223.0 1,223.0 1,219.5 1,237.5 1,237.5 1,219.0 1,186.0 1,199.0 1,190.0 1,196.0 1,202.0 1,205.5 1,188.5 1,187.0	1,266.0 1,245.0 1,226.0 1,204.0 1,222.0 1,203.0 1,201.0 1,208.5 1,201.5 1,211.0 1,220.0 1,221.0 1,189.0 1,169.0 1,174.0 1,172.0 1,186.5 1,189.0 1,195.0 1,180.0 1,182.5	1,267.0 1,253.0 1,232.5 1,217.0 1,230.0 1,214.5 1,204.0 1,221.5 1,217.0 1,214.5 1,237.0 1,222.0 1,199.0 1,181.0 1,192.5 1,186.5 1,191.0 1,202.0 1,198.0 1,187.0 1,186.5

Contract Specifications for The KLCI Futures

Contract Code	FKLI
Underlying Instrument	Kuala Lumpur Composite Index (KLCI)
Contract Size	KLCI multiplied by RM50
Minimum Price Fluctuation	0.5 index point valued at RM25
Daily Price Limits	20% per trading session for the respective contract months except the spot month contract. There shall be no price limits for the spot month contract. There will be no price limit for the second month contract for the final five Business Days before expiration.
Contract Months	Spot month, the next month and the next two calendar quarterly months. The calendar quarterly months are March, June, September and December.
Trading Hours	First trading session: Malaysian 8:45 a.m. to 12:45 p.m. Second trading session: Malaysian 2:30 p.m. to 5:15 p.m.
Final Trading Day	The last Business Day of the contract month.
Final Settlement	Cash Settlement based on the Final Settlement Value.
Final Settlement Value	The Final Settlement Value shall be the average value, rounded to the nearest 0.5 of an index point (values of 0.25 or 0.75 and above being rounded upwards) of the KLCI for the last half hour of trading on the Exchange on the Final Trading Day excepting the highest and lowest value.
Speculative Position Limit	10,000 contracts, net gross open position.

Introduction to Financial Futures

Financial futures are futures contracts base on short term interest rate (STIR). Contracts vary, but are often defined on an interest rate index. Futures contracts are standardized legal agreements to buy sell a commodity or financial instrument at some time in the future. The quantity and quality of the good are specified in the contract, and the price and delivery period are set at the time the contract is opened.

Malaysia also has futures market – Bursa Malaysia Derivatives Berhad (BMDB). All the futures contracts are mainly transacted here. There are a few types of futures contracts traded in the markets. Namely:

1.) Agricultural futures:

These are humanity’s oldest and most basic commodities. The forces of nature as well as people’s habits affect the supply and demand of food products. Contracts include wheat, oats, corn, barley, sugar and etc. Example: Crude palm oil futures contracts (FCPO)

2.) Metal:

Since early human existence, metals have been a prized possession. Precious metals include gold. Silver, palladium, and platinum. Industrial metals include copper, zinc, lead, aluminum and tin.

3.) Foreign currency futures:

As exchanges rate fluctuate in the world economy, international and local investors, companies and institutions, use these futures for protection and profits.

4.) Energy:

Futures contracts include crude oil, gasoline, unleaded gasoline, heating oil and bunker fuel.

5.) Stock index futures:

Introduced in the early 1980s, these contracts have grown in popularity. Each futures contract represents the equivalent of stock portfolio in a major world stock market. Example: KLSE Composite index futures contract (FLKI)

6.) Interest rate futures:

These are one of the most successful contracts introduced worldwide. A change in interest rate can affect the economy. These contracts can limit the risk from such changes and be the means to profits from it. Examples: 3 month KLIBOR Futures Contracts.

In Malaysia, stock index futures were introduced in December 1995 with the launch of KLSE composite index futures contracts on MDEX (known as KLOFFE at the time of the launch). The MDEX stock index futures contract is based on the Kuala Lumpur Stock Exchange (KLSE) Composite Index (CI), a widely-used representation of the Malaysian share market as a whole. A stock index seeks to serve as a measure of share market performance. Hence, the KLSE Composite Index measures the performance of the Malaysian share market.

Kuala Lumpur Stock Exchange Composite Index (KLSE CI) is calculated by using the market prices of companies listed on the KLSE. The KLSE CI is a capitalization-weighted index, which means that the index is weighted according to the market capitalization of the constituents stocks. Thus, companies with a higher market capitalization have a larger weightage in the index.

A futures contract that is based on the KLSE CI is simply an agreement between seller and buyer to respectively deliver and take delivery of the basket of shares that make up the index, at an agreed price, at a specified future date. However, like almost all stock index futures, the KLSE CI futures contract is cash settled.

Sun Stream

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Value Investing Approach For Equity Futures

Arbitrage is the action of profiting from price anomalies across various markets. In the stock index futures market, such opportunities become available when the futures and the underlying shares move significantly out of line from the theoretical value (fair value) of the futures contract. When such a situation arises, there may be an opportunity to profit from this temporary mispricing in the knowledge that the two markets will return to parity (equality) at the time of futures expiry.

Calculating Fair Value

Theoretically, the price of stock index futures over a given period should approximate the opportunity cost of holding shares (the risk free interest rate) less the amount of dividends (expressed as a percentage) over the period to contract expiry.

The cost of carry can be determined by looking at whether to buy futures or the underlying shares:

• An investor in the share market would have to pay for the shares now but in return would be entitled to receive dividends.
• The futures investor would not need to pay for the shares now. Therefore he can invest the funds and receive interest. However, he foregoes any dividends.

The futures price needs to reflect the interest that can be earned and the dividends that are foregone. In a nutshell, the fair value formula is something like this:

Value Investing In Action (Arbitraging Equity Futures)

*This article uses historical data in order to create a positive basis arbitrage opportunity because short selling of shares is restricted in Bursa Malaysia.

Assume it is now 17 January 2002 and the KLCI is at 1146.0. The risk-free interest rate is 5% per annum. The weighted average dividend yield of the KLCI is 2.3% per annum. What would be the fair value of the June 2002 KLCI futures contract (165 days to maturity)?

From the calculation above, the fair value (what the June futures contract should theoretically trading at) on 17 January 2002 is 1160.0. The actual quoted price of June futures however is 1192.5. The June contract is trading at a level higher than the fair value. The basis is positive where the futures contract is trading at a premium. If the futures was trading at a level below the fair value, then the basis is negative and the futures are trading at a discount. In either case, an arbitrage opportunity will become available.

So from this example, the following information is available:

Spot price:	1146.0
Actual futures price:	1192.5
Theoretical futures price:	1160.0

Thus, the June futures contract is mispriced. It is trading at 32.5 points above its fair value and 46.5 points above its spot price.

To take advantage of this situation, a trader would purchase the underlying stock and sell futures contracts in the transactions. Let's assume that the trader has RM 10,000,000.00 and this fund can be obtained at 5% risk-free rate. By using this fund, the trader purchases RM10,000,000.00 of stocks and sells futures at 1192.5 simultaneously.

The number of contracts to be sold can be calculated as follow:

Hence, the trader will sell 167 contracts. It is assumed that the position is hold until contract expiry and the futures and cash prices converge to 1165.0 at expiry.

Cash Market	Futures Market
17 January Buy RM 10,000,000.00 of stocks at 1146.0.	17 January Sell 167 futures contracts at 1192.5. Value of futures = 167 x 50 x 1192.5 = 9,957,375
30 June  Sell RM 10,000,000.00 of stocks at 1165.0.	30 June Buy 167 futures contracts at 1165.0. Value of futures = 167 x 50 x 1165.0 = 9,727,750

From the table above, the result of the transactions can be illustrated as follow:

Sea Stone

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Life Inspirer 11

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Life Inspirer 10

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Life Inspirer 9

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Life Inspirer 8

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Life Inspirer 7

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Life Inspirer 6

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Life Inspirer 5

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Life Inspirer 4

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Life Inspirer 3

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Life Inspirer 2

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Life Inspirer 1

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