Empirical Analysis Of The Pricing Of Treasury Bond Futures When A Delivery Option Is Considered

The treasury bond futures is one of the most important interest rate derivatives in the capital market. After 18 years of suspension, China’s treasury bond futures finally returned to the market in September,2013. The newly designed contract differs from the one 18 years ago in that it allows a basket of treasury bonds for delivery rather than a single one underlying bond, as it does in most other countries. Such design offers the short an embedded option to choose the most favorable bond for delivery, which has greatly increased the difficulty of valuing the futures.This paper gives theoretical analysis on the valuation of the treasury bond futures, and gives empirical results based on the first re-designed domestic futures contract TF1312. First, we calculated the theoretical value of TF1312 regardless of the option effect by using the traditional cost-of-carry model. Second, in estimating the value of the embedded delivery option, or more specifically, the quality option, we estimate the distribution of the term structure upon delivery date by introducing a stochastic term into the classic Nelson-Siegel fitting model, so that the distribution of possible realized value of the option can be simulated. Finally, in regard of the discount rate, we discard the relatively longer-termed fixed repo rate with a more practical rolling money market rate, which requires another simulation by using CIR stochastic interest rate model.As newly designed treasury bond futures has only been issued for a few month, this paper is one of the leading research in terms of a complete theoretical and empirical analysis based on domestic contract.