Arbitrageurs in future commodity market.

[ishwar_jindal]

In Reading 42 of CFAI book in section “Market Participant” the book says
“In the case of cash and carry arbitrage, the resale price of today’s leveraged spot position is simultaneously set by selling the commodity futures. This short futures position implies an unconditional commitment to purchase the underlying at maturity. At maturity of the futures, the specified commodities are tendered against the maturing short futures. If the profit from the spot trade of the physical commodity exceeds the value of the futures plus the cost of debt financing, the arbitrageur will realize a profit from what is known as a basis trade.”
I understand cash and carry as simple long in spot market and short in future market i.e. you loan $10 now and buy an asset, sell the very same asset in future market for say $15. If cost of loan is say $2 then you still end up with profit of $3. If my understanding is correct then isn’t bold text above saying opposite or something else.
A) I mean how come short future position is unconditonal commitment to purchase when investor has already purchased in spot market. Short position in future is commitment to sell actually instead of buying. RIght or am I confusing myself?
B) Also there is no profit from spot trade alone. The profit is from combination of spot and future trade net of financing cost. Right?

 

[krokodilizm]

If you have shorted an airline fuel futures contract, next month, when the contract matures, you will have to deliver the fuel. Where will you find this fuel?

 

[S2000magician]

ishwar_jindal wrote:In Reading 42 of CFAI book in section “Market Participant” the book says
“In the case of cash and carry arbitrage, the resale price of today’s leveraged spot position is simultaneously set by selling the commodity futures. This short futures position implies an unconditional commitment to purchase the underlying at maturity. At maturity of the futures, the specified commodities are tendered against the maturing short futures. If the profit from the spot trade of the physical commodity exceeds the value of the futures plus the cost of debt financing, the arbitrageur will realize a profit from what is known as a basis trade.”
I understand cash and carry as simple long in spot market and short in future market i.e. you loan $10 now and buy an asset, sell the very same asset in future market for say $15. If cost of loan is say $2 then you still end up with profit of $3. If my understanding is correct then isn’t bold text above saying opposite or something else.

You may not understand it as well as you think. You don’t lend $10 today; you borrow $10 today to buy the asset.

ishwar_jindal wrote:A) I mean how come short future position is unconditonal commitment to purchase when investor has already purchased in spot market. Short position in future is commitment to sell actually instead of buying. RIght or am I confusing myself?

The bolded text doesn’t say that a short position is an unconditional commitment to purchase; it says that a short position implies an unconditional commitment to purchase. That commitment is made by your counterparty, not by you.

ishwar_jindal wrote:B) Also there is no profit from spot trade alone. The profit is from combination of spot and future trade net of financing cost. Right?

Bingo.