Fixed-Income Futures

Everything above described commodities, where the cost of carry is storage and insurance. Treasury futures — /ZT (2-year), /ZF (5-year), /ZN (10-year), /ZB (“Treasury Bond,” delivering issues with 15 to 25 years remaining), and /UB (Ultra Bond, 25 to 30 years) — work on a different mechanism, and they matter more to a wealthy household’s balance sheet than crude oil ever will. Note that /ZB is not a 30-year contract despite being widely called one; if you are hedging long-duration exposure, /UB is the closer match. Two uses justify learning them: hedging duration, and borrowing cheaply.

Cheapest to deliver. A Treasury future does not track one bond. The short may deliver any Treasury from a defined basket, and each eligible issue carries a conversion factor that normalizes it to the contract’s notional 6% coupon. The short naturally delivers whichever issue is cheapest after adjustment — the cheapest to deliver bond — and the futures price tracks that bond, which can switch as yields move. This is why a Treasury futures position is not a clean substitute for owning a specific bond, and why the contract’s effective duration shifts underneath you.

The curve is priced off financing, not storage. The spread between the front contract and the next is set by the implied repo rate: the return earned by buying the deliverable bond, financing it in the repo market, and delivering it into the contract. In equilibrium that arbitrage is closed, which means the calendar spread is a financing market, and the quarterly roll (March, June, September, December) prices the cost of carrying the bond for another quarter. When you buy a Treasury or equity index future, you are implicitly borrowing at close to the short-term financing rate.

Use one: hedging duration. If you hold a long-bond sleeve — the 40% in section “The “All Weather” and “All Seasons” Portfolios”, or a municipal ladder you do not want to sell for tax reasons — you can neutralize rate risk without liquidating anything. Size the hedge on DV01, the dollar change in value per one basis point of yield: divide your portfolio’s DV01 by the contract’s DV01, which the exchange publishes for the cheapest-to-deliver issue. Selling that many contracts removes duration while your bonds stay put, preserving basis, holding periods, and any embedded tax-exempt income. Compare that with the alternative of selling appreciated bonds and realizing gain.

Use two: financing. This is the one worth real attention. Because a futures position embeds a borrowing rate near the short-term financing rate, buying /ES exposure rather than the underlying equities is functionally a margin loan — at institutional pricing rather than the retail margin schedule, which routinely runs several points above it. That advantage compounds with the tax treatment: § 1256 gains are 60/40 under IRC §1256(a)(3) regardless of holding period, whereas margin interest is deductible only against net investment income under IRC §163(d), “Interest” and only if you itemize.

Three cautions before you conclude this is free money:

The financing spread is not zero and not fixed

The implied rate embedded in the roll varies with dealer balance-sheet capacity and can widen sharply at quarter-end, exactly when you must roll. You are a price taker on a rate you did not negotiate.

The mark-to-market is daily and unforgiving

A margin loan against shares tolerates a drawdown until the maintenance threshold. A futures position debits cash every single evening (section “Mark-to-market of Positions”), so leverage that a securities account would carry comfortably can force liquidation in futures.

Annual taxation cuts both ways

§ 1256 marking means you cannot defer a gain past year end — but it also means losses are recognized without a sale, and IRC §1212(c) lets you carry a net § 1256 loss back three years against prior § 1256 gains, which no equity position allows.

Contract specifications, conversion factors, and delivery baskets are published by the exchange; CME interest-rate products is the authoritative source and the only one that will be current.