medium · Market Microstructure
A risk manager needs to hedge a 100,000-share equity position using E-mini S&P 500 futures (each contract = 50 index points x multiplier, current index at 5,000, multiplier 50 USD per point, contract notional = 250,000 USD). The portfolio beta is 1.2.
How many E-mini contracts are needed to beta-adjust the hedge, and which microstructure factor makes the realized hedge cost higher than implied by the number of contracts alone?
- 240 contracts; realized cost is higher because futures tick size is 0.25 index points, creating a larger quoted spread per unit of notional than the underlying equity.
- 200 contracts; realized cost is higher because futures markets are more liquid than equities, leading to tighter spreads but larger market impact per contract.
- 240 contracts; realized cost is higher because trading 240 futures contracts simultaneously moves the futures price, creating market impact on top of the bid-ask crossing cost.
- 200 contracts; realized cost is higher because beta estimation error introduces a residual basis risk that must be re-hedged dynamically.
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