anyone know of a formula for convexity adjustment of IR futures ? Basically, I want to get the implied forward rate from an interest rate futures price thanks in advance

http://www.netcomuk.co.uk/~vaillant/proba/convex.pdf

QuoteOriginally posted by: quadratureanyone know of a formula for convexity adjustment of IR futures ? Basically, I want to get the implied forward rate from an interest rate futures price thanks in advanceFrom memory, so probably wrong, but (-1/2).Sigma^2.T^2 is a decent approximation

I vaguely remember that one of the types of FI futures contracts is somehow "uncontaminated" by convexity and is a pure expectation of a future rate. Does anyone know which future this might be?

That would be the Eurodollar futures strip. But there is still a term premium in there which you have to strip out if you want "real world" expectations. There are various approaches to this, none of them definitive.

QuoteOriginally posted by: doctorwesThat would be the Eurodollar futures strip. But there is still a term premium in there which you have to strip out if you want "real world" expectations. There are various approaches to this, none of them definitive.I thought there where two convexity adjustments to get forward rates from eurodollar futures: the first because eurodollars are 25$ a tick (linear) and an FRA is convex, the second because like with any future contract, there is a margin. Make sense?

Because the IR futures are MTM, therefore the long of the contract will face re-investment risk at lower rates (the profit in his account will have to be reinvested at a lower rate) and all has to finance his losses at higher rate. this means that the volatility of the forward rates and their correlation to the spot rates have to be accounted for when determining the implied forward rate.

practically, it isn't as simple to do as one would expect. the adjustment is fairly sensitive to the correlation between the fwd and the discount factor and a slightly different assumption in the correlation calc method would yield in a very different price (given the bid / offer spread in the swap markets). Hence, its best to do carry out a 'rough' check keeping in mind the note prices at that time and the swap spread mids. Even after that, you might find IMM swaps trading in the market at levels that are off 0.5 bp and that isn't arbitragable (ATM vega hedges cost a lot more especially if you factor in the rebalancing costs).

Most of the papers on Eurodollar convexity available to date are quite dated, and do not take into account important features of the market ie correlation structures of rates and smiles. Here is something newer-Vpaper