Interest rate futures
What is Basis Trading in fixed income and how do hedge funds exploit cash bond versus futures mispricing?
By Easy Money Scanner · Educational reference · Not investment advice
The short answer
Basis trading exploits the price difference between a cash Treasury bond and its corresponding futures contract (adjusted by conversion factor), with hedge funds using repo financing to capture small, leveraged spreads.
How it works
Traders buy the cash bond and sell futures (or vice versa) when the basis is mispriced, financing the position via repo markets and relying on the basis converging to zero at delivery.
An example
Hedge funds executed large Treasury basis trades in 2019-2020, levering repo financing heavily, which contributed to market stress when the trade unwound rapidly in March 2020.
Risk & limitations
Basis trades rely on cheap repo funding and tight bid-ask spreads; funding cost spikes or forced deleveraging can cause rapid, large losses.
Examples are hypothetical, not trade recommendations. US contract and regulatory references do not automatically apply in Canada. Rules, margin requirements and broker policies can change; confirm them with the relevant authority and your broker.