Group for Research in Decision Analysis

G-2016-23

Time is money: An empirical investigation of delivery behavior in the U.S. T-bond futures market

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One of the most complex early-exercise decisions faced by traders in the financial derivatives markets is with T-Bond futures, due to the combination of multiple timing options embedded in the contract in combination with a quality option. The aim of this paper is to provide a broad empirical investigation of short traders' delivery behavior observed in the CBOT T-Bond futures market over the period spanning 1985 to 2015. More precisely, we analyze the main factors driving the selection of the delivery time, the choice of the security delivered, as well as the number of futures contracts fulfilled by delivery. Our findings show that short traders generally preferred to defer delivery to the last possible moment. However, the last three decades were also regularly punctuated by early-delivery episodes, largely motivated by substantial profits for immediate exercise, but also by bond market liquidity and volatility. Finally, we assess a posteriori the optimality of the observed delivery strategies and conclude that, not only was the rule of thumb for early delivery generally not used by traders, it would not have performed better than a naive strategy of systematically choosing to deliver at the end of the delivery month.

, 27 pages