Futures processing 59
Figure 4.5 Eurex German Bund Future Source: Eurex.
Daily Settlement Price
The closing price determined within the closing auction; if no price can be determined in
the closing auction or if the price so determined does not reasonably reflect the prevail-
ing market conditions, the daily settlement price will be the volume-weighted average
price of the last five trades of the day, provided that these are not older than 15 minutes;
or, if more than five trades have occurred during the final minute of trading, the volume-
weighted average price of all trades that occurred during that period. If such a price
cannot be determined, or if the price so determined does not reasonably reflect the
prevailing market conditions, Eurex will establish the official settlement price.
Final Settlement Price
The volume-weighted average price of the last ten trades, provided they are not older than 30
minutes – or, if more than ten trades have occurred during the final minute of trading, then the
volume-weighted average price of all trades that occurred during that period – is used to deter-
mine the final settlement price. The final settlement price is determined at 12:30 CET on the
last trading day.
The delivery process
For financial futures, the clearing members with short positions tender
for delivery of the underlying to the account of the clearing house. In
turn the clearing house assigns the delivery to the holder of a long
position. Delivery of shares or bonds will take place via the relevant
Central Securities Depository (CSDs).
The procedures of the delivery process are determined by the clear-
ing house and must be adhered to by the clearing members.
Most exchange-traded derivative products are designed to go to deliv-
ery, i.e. the underlying on which the derivative is based will physically
move from seller to buyer. However, the delivery for some products may
be a cash amount rather than the asset itself.
For example, an index futures contract is designed to provide an
instrument that tracks the market or sector on which it is based. The
S&P Indices, the Nikkei, the DAX, the FTSE 100, etc. are all based on
a basket of stocks. To effect physical delivery for the futures contracts
based on these indices by the weighted amount of all the shares in the
index which would need to be delivered would be an onerous, costly
and, therefore, unattractive prospect particularly as the main purpose
of the contract is to enable hedging rather than necessarily taking
delivery of shares for each company. Instead, on delivery, the futures
and options contracts are settled by a cash payment or receipt,
the final VM amount created by settlement against an exchange-
established final price on expiry day.
The delivery process is different for each futures contract and varies
from exchange to exchange. The UK and US government bond futures
contracts have a delivery period during which delivery can be initiated
on any day. Commodity contracts also have a delivery or tender period
during which delivery can be initiated. The length of the tender period
is variable depending on the commodity involved. Other futures con-
tracts have a single delivery day on which delivery can be initiated.
Where physical delivery of the asset is contained in the contract
specification the process can vary from product to product, typi-
cally in reflection of different cash market delivery practices. For
futures contracts, it is always the holder of the short position who
has the rights and can decide at what point during the delivery
period that delivery will be entered into. In certain cases, like gov-
ernment bond futures contracts, the sellers have the right to
decide what will be delivered from the list of deliverable bonds pub-
lished by the exchange.
The reason for this is the nature of physical delivery. The holder of
the short position is the party that has the obligation to deliver the
physical asset, while the holder of the long position will be paying cash
to buy the asset. It is a more involved process to move assets into the
approved point. Therefore, the seller of these assets needs to have more
flexibility than the party who has to pay funds into the relevant place.
Where a notional contract, such as a government bond, is being
delivered, the seller has the choice because they can deliver any of
the bonds which meet the acceptable criteria laid down by the
exchange and are published on the Deliverable List. The seller may
only have one of the bonds on the Deliverable List so they will need
to deliver that particular bond. If the seller has a range of bonds on
the Deliverable List, then they can choose which of the bonds is most
preferable for them to deliver. There would be one bond, which is
known as Cheapest to Deliver.
The delivery obligations are all laid down by the Exchange in the
contract specifications, so each participant should understand the
procedures involved in the delivery process. The buyers should under-
stand that they are subject to the actions of the holders of the short
positions.
It is important to remember that not all positions are taken through
to delivery. In general only a small percentage of contracts go to physi-
cal delivery. The underlying value of those transactions can, however,
be very high. Where a contract does not need to be held until delivery,
an opposing trade can be transacted in the market, and the position
can be closed out so that no further obligations are outstanding.
At delivery or expiry of each contract, the Exchange will issue the
price, at a time determined in the contract specification, which will
60 Clearing and settlement of derivatives
Futures processing 61
be used to calculate the settlement figure for each contract. This
price is referred to as the Exchange Delivery Settlement Price (EDSP)
or something similar. For government bond contracts the EDSP is
used to calculate the invoicing amount; for interest rate contracts
and index contracts, which are cash settled, it is used to calculate
the settlement amount.
There are variations to the rules, procedures and timings govern-
ing delivery, and it is important to recognise this and check on the
specific situation that applies for the market and product on a case-
by-case basis. Failure to do this can result in breaches of rules
caused by late or incorrect delivery with the possibility of financial
penalties levied by the exchange/clearing organisation and also
possible financial loss due to the erroneous delivery. Since clearing
members are directly responsible to the clearing organisation, there
is a risk of reputational damage where delivery procedures are not
adhered to.
For delivery of a contract like the Euronext.liffe Long Gilt futures
there are three very critical days in the delivery process:
First notice day
This is the first day that the holders of short positions can give notifi-
cation to the exchange/clearing organisation that they wish to tender
a position for delivery. A holder of a long position must have closed
their position the previous trading day if they did not want the possi-
bility of taking delivery against their position.
Last notice day
This is the final day that notification of delivery will be possible. On
most exchanges all outstanding short futures contracts will be auto-
matically delivered to open long positions.
Last trading day
This is often the day preceding the last notice day and is the final
opportunity for holders of long positions to trade out of their posi-
tions and avoid delivery.
Ultimately, it is always the clearing member’s responsibility to
ensure that delivery of contracts is made strictly in accordance with
the relevant exchange or clearing house procedures. More impor-
tantly, it is also the clearing member’s responsibility to ensure that
delivery does not happen unless the clearing member or its client is
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