Trading Case IN1

LEARNING OBJECTIVE	Understand the relationship between spot and forward stock-index prices and examine how opening a forward market can affect spot-price discovery.
KEY CONCEPTS	Spot-forward parity \| Cost of carry \| Cash settlement \| Arbitrage \| Market making and taking

HOW THE CASE WORKS

On Day 1 of the calendar year, you trade two stock-index spot baskets and one one-year forward contract. At year end, spot positions are marked to the realized index values, the forward settles, and any closing cash surplus or deficit earns or pays 5% interest.

MARKETS

Market	Instrument	Year-end value
Index A	Spot basket replicating Index A	Realized Index A
Index B	Spot basket replicating Index B	Realized Index B
Index B forward	One-year forward on Index B	Long: S_T - K

INDEX VALUES

Each index independently realizes either 7,900 or 12,100, with equal probability. Index A and Index B have the same possible values, but their realizations are independent.

SPOT-FORWARD PRICING

With no index distributions specified, the one-year no-arbitrage relationship is F_0,T = S₀(1 + r). Here, r = 5%, so the forward on Index B should reflect the cost of carrying Index B spot for one year.

TRADING RULES

Enter bids and asks for quantities up to 10,000 units.
Buy at the prevailing ask or sell to the prevailing bid, up to the displayed quantity.
Short sales and money-market borrowing or lending are permitted.
Trading sessions contain multiple independent trials; results accumulate.

FORWARD SETTLEMENT

Opening a forward requires no Day 1 cash payment. A long position of one contract entered at K settles at S_T - K; a short settles at K - S_T. One forward contract corresponds to one unit of Index B.

NO-ARBITRAGE CHECK

Compare executable prices, not only midpoints. If the Index B forward is too high relative to carried spot, consider buying Index B spot and selling the forward. If it is too low, consider the reverse trade. Include the cash financing created by the spot leg.

AFTER TRADING CLOSES

Apply 5% interest to closing cash.
Mark Index A and Index B positions to their independent realized values.
Cash-settle the Index B forward.
Convert all positions to end-of-year cash.

YOUR TASK	Trade the spot and forward markets by integrating spot-forward parity, financing, settlement mechanics, and live market signals into your valuation, quoting, and execution decisions.

PERFORMANCE: Trading bonus per trial = 0.0001 x end-of-year market cash. Positive wealth adds bonus cash; negative wealth subtracts it. Results accumulate across independent trials.

PREPARATION	Complete these questions before the classroom session that discusses market results. Use specific prices, quotes, trades, quantities, or moments from your own experience.

SUGGESTED QUESTIONS - COMPLETE BEFORE THE CLASSROOM RESULTS DISCUSSION

1 VALUATION	What Index B spot value and one-year forward value did you estimate? Show how the 5% financing rate entered your calculation.
2 MARKET SIGNAL	Which spot or forward bid, ask, or trade caused you to revise your valuation or execution plan? What changed?
3 RELATIVE VALUE	Identify a point when the Index B spot and forward prices appeared inconsistent. What trade did you consider or execute, and why?
4 FORWARD SETTLEMENT	Choose one forward position you held or considered. Explain its payoff under both possible Index B realizations.
5 CASH FINANCING	How did borrowing, lending, or the 5% interest rate affect the attractiveness and final payoff of your strategy?
6 INDEX A COMPARISON	Did prices in independent Index A influence your view of Index B? Explain whether that comparison was informative or potentially misleading.
7 RISK	How did you manage the combined year-end exposure created by spot, forward, and cash positions?
8 NEXT TRIAL	What would you change about valuation, quoting, position size, or execution in another trial? Support your answer with one decision from this session.

Bring your responses to class. The purpose is to compare your initial reasoning with the market outcomes and the strategies discussed during the results session.

TRADING CASE IN1