On foreign financial television shows and Yahoo finance websites, I see quotes like Dow Futures up 17 points and Fair Value up 7 points. My question is:
What is "Fair Value," and how is it determined or calculated?
Thanks
From ..... Anon
Answer:
Hi Anon,
"Fair value" refers to the "proper" relationship between the futures and the cash. Through a complex formula using current short-term interest rates and the amount of time left until the futures contract expires, one can determine what the spread between the futures and the cash "should" be.When the spread is at fair value, where it "should" be, there is no theoretical advantage to owning the futures instead of the cash, or vice versa. To professional investors and the big institutions, when the spread is at fair value, it makes no economic difference to them whether they own the futures or the actual stocks that make up the S&P 500. Their buy and sell decisions are driven by other factors.
But, when the spread drops below fair value, or moves above it by a large enough margin, then one of the choices (stocks or futures) will become more attractive than the other, and they will sell one and buy the other.
Trade in the day; invest in your life …
Regards,
ZL
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