An important consideration with all of these spreads is to know the difference in contract value of one commodity with another. Let's look at an example of the S&P500 versus the NYSE. A stock index trader believes the broader market as represented by the NYSE will outperform the S&P500 averages. He decides to buy the NYSE contract and sell the S&P500. What is the proper ratio to trade?

The value of an S&P500 and NYSE contract. is 500 times the index price.

 

S&P500 contract is trading at 365.00

NYSE contract is trading at 200.00

Value of the S&P500 = 500 x 365.00 = $182,500

Value of the NYSE = 500 x 200.00 = $100,000

 

If he buys a NYSE and sells an S&P500 future, he will be net short the stock market by approximately $82,500. He must determine a proper ratio by dividing the value of one contract by another:

 

Ration  = 182,500/100,000  = 1.83

 

This means the dollar value of one S&P500 is approximately equal to 1.82 NYSE contracts. Alternatively 1/1.82 = 0.55 which would mean the dollar value of one NYSE contract is approximately equal to 55% of one S&P500 contract. He must determine the minimum number of S&P500 contracts to trade since it is the bigger contract. Some ratios are:

 

Buy two NYSE and sell one S&P5OO = $200,000 - $182,500 = $17,500.

 

He will be net long $17,500 of stock, and make or lose more money on the long position than the much smaller change in the relationship of the two futures. He can continue looking at proportions, and one that comes closer is the following:

 

Buy nine NYSE and sell five S&P5OO = 9 x $100,000 - 5 x $182,500

                                                            = -2,500