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Continuous Contracts

A Continuous Contract is a mathematical creation

useful for testing futures trading systems over long periods.

The Panama Method

A way to overcome the steps in the splice method.

One way to avoid the steps in the splice chart is to use a different method.  At the Panama Canal, a system of locks enables ships to float up and down so they can pass between the Pacific and Atlantic oceans, even when these two bodies of water are at different levels.

In like manner, a Panama Continuous contract floats deliveries up or down so that they flow into each other evenly, without a step up or down at the join point.

For example, say we want to create a Panama Continuous Chart for S&P Futures.  We start with the first delivery we have in our data base, in this case the June 1982 delivery.

 Date           Open      High       Low    Close 19820421 116.350 117.600 116.050 117.450 19820422 117.000 118.400 117.000 117.900 19820423 118.350 119.750 118.250 119.650 19820426 119.300 120.600 118.650 120.550 19820427 120.200 120.350 118.400 118.850 19820428 118.550 119.300 117.700 118.150 19820429 117.500 118.150 117.250 117.600 19820430 117.550 118.400 117.400 117.500 19820503 117.100 117.500 116.800 117.150 19820504 117.250 118.050 117.250 117.800 19820505 117.850 118.300 117.050 117.550 19820506 118.050 119.200 118.050 119.100 19820507 119.150 120.100 119.000 119.650 19820510 119.200 119.400 118.450 118.500 19820511 118.450 119.950 118.350 119.700 19820512 119.850 120.350 119.050 119.550 19820513 119.550 119.750 118.150 118.350 19820514 118.550 118.750 118.100 118.300 19820517 118.150 118.150 116.500 116.600 19820518 116.600 116.700 115.750 116.000 19820519 115.950 116.350 114.450 114.650 19820520 114.850 115.200 114.150 114.950 19820521 115.250 115.600 114.750 114.900 19820524 114.800 115.150 114.150 115.000 19820525 115.200 115.650 113.450 113.750 19820526 114.000 114.100 112.000 112.500 19820527 112.450 112.600 111.200 111.850 19820528 111.700 112.500 110.750 111.000 19820601 110.750 111.200 109.900 110.050 19820602 110.300 111.750 109.850 111.550 19820603 111.650 112.050 109.700 110.500 19820604 110.400 110.450 108.000 108.100 19820607 108.100 109.850 107.450 109.050 19820608 108.800 109.950 107.900 108.500 19820609 108.500 109.100 107.600 108.600 19820610 108.500 109.850 108.250 109.150 19820611 110.200 111.700 110.100 111.450 19820614 110.000 110.450 108.800 108.900 19820615 109.050 110.000 108.300 109.900 19820616 109.900 110.200 108.750 108.950 19820617 108.000 108.250 107.400 107.600

June 1982 S&P Futures

Traders typically roll their contracts forward about a week before expiration.  In making the Panama Chart, we follow a similar convention.  In this case, we roll the June forward to September on 1982-06-11.  (September is the next delivery after June.) June 10 (red) is the last day we use June.  Starting with June 11, we use September.

Not all traders use this particular form of continuous contract.  Some like to roll earlier or later than five days before expiration.  Some like to roll when volume and/or open interest for the new contract exceeds that of the old contract.  Some like to base the adjustment factor on a combination of prices, not just on the close.  Some make a translational adjustment (plus or minus the factor) while others make a proportional adjustment (multiplication).

My hunch is that the method of making a continuous contract is not very important, although I might test some different ways, as this project proceeds, to find out for sure.

 Date           Open      High       Low    Close 19820525 115.750 116.300 113.800 114.050 19820526 114.400 114.400 112.250 112.800 19820527 112.700 112.950 111.550 112.350 19820528 112.350 113.000 111.150 111.600 19820601 111.300 111.700 109.900 110.100 19820602 110.150 111.800 109.850 111.650 19820603 111.850 112.250 109.500 110.350 19820604 110.300 110.400 107.700 107.750 19820607 107.600 109.400 106.900 108.600 19820608 108.350 109.400 107.300 107.800 19820609 107.650 108.100 106.600 108.000 19820610 107.800 109.600 107.600 109.000 19820611 111.400 112.000 110.300 111.550 19820614 110.500 110.500 108.550 108.550 19820615 108.500 110.000 107.200 109.900 19820616 109.450 110.250 107.750 108.100 19820617 105.500 106.950 105.150 105.500 19820618 105.800 106.150 104.350 104.650  19820621 105.200 107.400 104.750 106.500 19820622 106.500 109.500 106.100 109.400 19820623 108.850 112.150 108.100 111.850  19820624 112.100 112.600 109.750 110.200 19820625 110.000 110.800 108.800 110.350 19820628 110.050 112.350 109.650 112.200 19820629 111.850 112.450 111.100 112.250  19820630 113.300 113.450 111.050 111.500 19820701 111.500 111.750 109.750 109.850 19820702 109.550 109.550 107.850 108.300 19820706 108.400 109.500 106.400 109.400 19820707 108.800 110.000 107.750 109.300 19820708 109.500 111.000 106.800 110.850 19820709 111.500 113.000 110.200 112.700 19820712 112.900 113.300 111.750 112.250 19820713 110.700 112.900 110.700 111.800 19820714 111.500 113.600 110.550 113.550 19820715 113.700 114.300 112.850 113.500 19820716 113.500 115.150 113.100 114.100 ... ... ...

September 1982 S&P Futures

Now on June 10 (red), at the close, we compute the adjustment factor between the outgoing June and the incoming September deliveries.  In this case September closes at 109.00 while June closes at 109.15.  So September is under June by 15 points.  To make the Panama adjustment, we must adjust every September price up by 15 points.

 Date           Open      High       Low    Close 19820520 114.850 115.200 114.150 114.950 19820521 115.250 115.600 114.750 114.900 19820524 114.800 115.150 114.150 115.000 19820525 115.200 115.650 113.450 113.750 19820526 114.000 114.100 112.000 112.500 19820527 112.450 112.600 111.200 111.850 19820528 111.700 112.500 110.750 111.000 19820601 110.750 111.200 109.900 110.050 19820602 110.300 111.750 109.850 111.550 19820603 111.650 112.050 109.700 110.500 19820604 110.400 110.450 108.000 108.100 19820607 108.100 109.850 107.450 109.050 19820608 108.800 109.950 107.900 108.500 19820609 108.500 109.100 107.600 108.600 19820610 108.500 109.850 108.250 109.150 19820611 111.550 112.150 110.450 111.700 19820614 110.650 110.650 108.700 108.700 19820615 108.650 110.150 107.350 110.050 19820616 109.600 110.400 107.900 108.250 19820617 105.650 107.100 105.300 105.650 19820618 105.950 106.300 104.500 104.800 19820621 105.350 107.550 104.900 106.650 19820622 106.650 109.650 106.250 109.550 19820623 109.000 112.300 108.250 112.000 19820624 112.250 112.750 109.900 110.350 19820625 110.150 110.950 108.950 110.500 19820628 110.200 112.500 109.800 112.350 19820629 112.000 112.600 111.250 112.400 19820630 113.450 113.600 111.200 111.650 19820701 111.650 111.900 109.900 110.000 19820702 109.700 109.700 108.000 108.450 19820706 108.550 109.650 106.550 109.550 19820707 108.950 110.150 107.900 109.450 19820708 109.650 111.150 106.950 111.000 19820709 111.650 113.150 110.350 112.850 19820712 113.050 113.450 111.900 112.400 19820713 110.850 113.050 110.850 111.950 19820714 111.650 113.750 110.700 113.700 19820715 113.850 114.450 113.000 113.650 ... ... ...

Continuous Contract by Panama Method

Note that June 10 (red) contains the last of the June prices.  Thereafter (blue) the prices are September prices plus the adjustment factor of 15 points.

 First True and Last True Traders find ways to cope with the drift effect. Some traders do not like the fact that the current prices of the Panama Chart are down to about 2/3 of the prices of the associating futures contracts.   To remedy this, they compute the Panama chart from the other end.  That is, instead of starting with the first delivery and working forward, they start with the last delivery and work backward.  Starting with the first delivery is the First True Method and starting with the last delivery is the Last True Method.   The main purpose of the continuous contract is to provide a way to measure long-term trends in a way that reflects trading experience.  As long as the trading algorithm does not depend on the actual price of the deliveries, both forms of the continuous contract provide a pretty good synthetic instrument for back-testing.   In cases where the trading algorithm does depend on the actual price of the instrument, the continuous contract can still provide useful trend information. The testing software must, however, also refer to the original contract data for accurate price level information.