PDF Implied Open of Major Stock Indexes

Implied Open of Major Stock Indexes

Stanley Dash VP, Applied Technical Analysis TradeStation Labs

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Implied Open of Major Stock Indexes

Summary

The purpose of this indicator is to use the futures price to monitor the theoretical value of the cash index when the stock market is closed. Stock index futures and their underlying cash indexes have a valuation relationship. While stock indexes are calculated and reported in real time from 9:30 a.m. to 4 p.m. ET, the stock-index futures are open almost 24 hours. Tracking the futures and the valuation relationship overnight yields an implied value for the cash index, a "theoretical opening price."

Background

The relationship between a stock index and its futures is calculated using a "cost-of-carry" model based on interest expense, dividend yield and the time left to futures maturity. The two instruments, the index and its futures, should maintain this relationship; in practice, the relationship fluctuates with order flow and market expectations. Arbitrageurs seek to exploit divergences from the model.

"Basis" is the term for the real-time relationship between the futures price and the cash index. Traders of index futures often refer to this as the "premium." This is because the futures are traditionally at a premium to the cash index. Since the financial crisis, the inversion of interest rates and dividend yields has pushed this to a discount ? futures trade at a price below the cash index.

In particular, stock index traders are often interested in the "theoretical basis" or "fair value." This is the value returned by the aforementioned cost-of-carry model: applying the calculation to the stock index to derive a "theoretical" price for the futures. These values are often mentioned in the media and are available from a variety of websites.

Indicator -- TSL:Stock Indexes Implied Open

During the overnight hours, we can reverse the process. Using the real-time futures price and the costof-carry model, we can solve for the level at which the cash index would be trading if it were open "right now." This is the value reported in the financial media, particularly in the hours leading up to the 9:30 a.m. open. This indicator reports the information in real time, all night and up until that open.

Plot TheoBasis TheoOpen TheoNCOnOpen

Theo%COnOpen

PrevCash

Description This is the value from the input TheoBasis Theoretical price for the cash index were it to open now Theoretical net change for the cash index were it to open now Theoretical percent change for the cash index were it to open now Prior day's close for the cash index

Input TheoBasis

IndexSymbol

UpColor DnColor

Default 0

""

Green Red

Description The user must supply this value each evening from an outside source; see note 1 below Symbol for the underlying cash index; the symbol must be in quotes; see note 2 below Color of TheoOpen and Theo%COnOpen if positive Color of TheoOpen and Theo%COnOpen if negative

Usage notes ?

1. The input TheoBasis is the result of the valuation model. It is an end-of-day value available from a variety of websites. The user must supply this value for the input each evening. As noted above, these values are generally negative numbers in the current environment. Be sure to include the negative sign. Two sites you might use are:

2. The input IndexSymbol is preset on the sample workspace. To make changes or use the indicator elsewhere, please remember: Use the correct symbol for that future's underlying index. You must be enabled for that symbol in TradeStation. The symbol must be supplied as text; place the symbol inside quotation marks in the Value column for the input.

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