Valuation and Optimal Exercise of the Wild Card Option in the Treasury Bond Futures Market

28 Pages Posted: 5 Jul 2004 Last revised: 11 Oct 2008

See all articles by Alex Kane

Alex Kane

University of California, San Diego (UCSD) - Graduate School of International Relations and Pacific Studies (IRPS)

Alan J. Marcus

Boston College - Department of Finance

Date Written: May 1985

Abstract

The Chicago Board of Trade Treasury Bond Futures Contract allows the short position several delivery options as to when and with which bond the contract will be settled. The timing option allows the short position to choose any business day in the delivery month to make delivery. In addition, the contract settlement price is locked in at 2:00 p.m. when the futures market closes, despite the facts that the short position need not declare an intent to settle the contract until 8:00 p.m. and that trading in Treasury bonds car, occur all day in dealer markets. If bond prices change significantly between 2:00 and 8:00 p.m., the short has the option of settling the contract at a favorable 2:00 p.m. price. This phenomenon, which recurs on every trading day of the delivery month, creates a sequence of 6-hour put options for the short position which has been dubbed the "wild card option." This paper presents avaluation model for the wild card option and computes estimates of the value of that option, as well as rules for its optimal exercise.

Suggested Citation

Kane, Alex and Marcus, Alan J., Valuation and Optimal Exercise of the Wild Card Option in the Treasury Bond Futures Market (May 1985). NBER Working Paper No. w1614. Available at SSRN: https://ssrn.com/abstract=336343

Alex Kane (Contact Author)

University of California, San Diego (UCSD) - Graduate School of International Relations and Pacific Studies (IRPS) ( email )

9500 Gilman Drive
La Jolla, CA 92093-0519
United States

Alan J. Marcus

Boston College - Department of Finance ( email )

Fulton Hall
Chestnut Hill, MA 02467
United States
617-552-2767 (Phone)
617-552-0431 (Fax)

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