From the September 2013 issue of Futures Magazine • Subscribe!

Leveraging futures vs. ETN differentials

After slowly gaining with respect to silver over the first three months of 2013, UGLD plunged by $13.03 from April 9 to April 16, while USLV fell $8.64. Gold has led the recovery from that short-term trough, rising by $4.78 vs. $1.23 for the silver ETN through April 30. Based on past experience, silver eventually should narrow its price spread with gold; however, at the end of April 2013 this had not occurred.

The copper ETN DJ-USB is not leveraged but is based on an index of copper futures contracts. On April 30, 2013, the index consists of one futures contract on copper, currently the high-grade copper futures contract traded on the Comex. The ETN is balanced with copper futures by dollar weighting. This creates the possibility of a shadow price in the same way that the COW agricultural ETN was shadowed by a combination of agricultural futures contracts (see “Trading cattle, hogs and ETNs,” November 2012).

A chart of cumulative percentage price changes for May copper futures and the copper ETN would illustrate how closely their prices move together, with apparently little chance for a profitable spread trade between the two. However, we will look at the daily differences in percentage price changes between the futures contract and ETN to investigate trading potential.

As shown on “Differences in percentage price changes” (below), there are many one-day shifts between plus and minus differences from Jan. 3 through April 30. Because the bar chart shows changes in the futures price less changes in the ETN, a positive difference means that neither a negative nor positive change in the futures price could overcome a larger negative shift in the ETN. Counting on the possibility of a one-day reversal, this suggests buying the ETN and selling the futures contract to hedge and to help provide funds for the ETN purchase.

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