Making Prices in Bundles
For any bundle, the price will be quoted in terms of net change during the current trading session from the previous trading day's settlement level. Specifically, the bundle's price quotation will reflect the simple average of the net price changes of each of the bundle's constituent contracts.

Example 1: A trade is executed in the 2-year bundle at a price quotation of 1. This reflects an agreement between the buyer and seller that among the nearest eight Eurodollar (ED) contracts (for example the June 96 ED to the March 98 ED) the average net change in the contracts' prices (versus their price levels at yesterday's settlement) is one tick.

Example 2: Assume that all of the nearest 21 contracts (e.g., the June 01 ED to the June 06 ED) have enjoyed a three-tick increase in the price since yesterday's settlement; at the same time the prices of each of the next seven contracts (e.g., the September 05 ED to the March 07 ED) have posted net gains of four ticks. Under these conditions, the implied fair-value price quotation for the 7-year bundle would be:

[(21*3) + (7*4)] / 28 = 3.25 ticks

Example 2 raises a critical point. Unlike Eurodollar futures prices, which are quoted in increments of one basis point, bundle prices are quoted in increments of one-quarter (1/4) of a basis point.

For Eurodollar futures, the present discounted value of a one-basis-point move in three-month London Interbank Offered Rate (LIBOR) (DV-01) and the present discounted value of a one-tick move (DV-Tick) are both equal to $25. In contrast, for Eurodollar bundles the DV-01 will always be four times greater than the DV-Tick. These differences are summarized in the previous table.

Un-bundling After the Trade
After a buyer and a seller have agreed upon the price and quantity of a bundle, they must assign mutually agreeable prices to each of the bundle's constituents. In principle, the transactors may set these component prices arbitrarily, subject to one restriction: the price of at least one constituent Eurodollar contract must lie within that contract's trading range for the day (assuming that at least one of the Eurodollar contracts in the bundle has established a trading range). CME regulations are designed this way to ensure that bundle prices will remain tethered to the price action of the underlying individual Eurodollar contracts.

In the vast majority of cases, traders make use of a computerized system, located on the trading floor, that automatically assigns individual prices to the contracts in a bundle. This system was designed to simplify the administrative aspects of the bundle trade.

The pricing algorithm used is based upon the following principle: To the extent that adjustments are necessary to bring the average price of the bundle's components into conformity with the bundle's own price, these price adjustments should begin with the most deferred Eurodollar contract in the bundle and should work forward to the nearest Eurodollar contract. The following example illustrates the application of these principles.

Suppose that a buyer and a seller who are transacting in the 3-year bundle have agreed upon a net price change of -2.5 basis points (bps) versus the previous day's settlement level. Suppose, moreover, that the day's actual net price changes for the bundle's constituent Eurodollar contracts are as follows: –2 bps for the nearest eight contracts and -3 bps for the next four contracts. The implied average price change is [(8*-2) + (4*-3)] / 12 = -2.33 bps, which exceeds the bundle's price change by one sixth of a basis point.

The algorithm would resolve this disagreement in two steps, dealing first with the integer portion of the -2.5-tick trade price (the 2), and then with the fractional portion (the 0.5). Specifically, the algorithm would begin by assigning to each of the twelve contracts in the bundle a net price change of -2 ticks from the previous day's close. Then it would adjust these price changes downward, proceeding one contract at a time, beginning with the bundle's terminal contract and working forward -- until the average price net price change for the bundle is the agreed upon -2.5 ticks. Following this procedure would result in net price changes of -2 ticks for the bundle's six nearest contracts and -3 ticks for its six most deferred contracts. The result is an average price change of (6* - 2 + 6* -3) / 12 = -2.5 bps, as desired.

Simple to Structure, Simple to Execute
By construction, bundles are well-suited to traders and investors who deal in LIBOR-based floating-rate products. Obvious examples include investment banks that routinely carry syndication inventories of floating-rate notes, corporate treasuries that issue floating-rate debt, or commercial bankers who wish to hedge the risk exposure entailed in periodic loan-rollover agreements.

However, bundles' most avid followers are likely to be those market participants who deal in long-dated Treasury-Eurodollar (TED) spreads. Such trades entail the purchase (or sale) of a Treasury security and the simultaneous sale (or purchase) of a strip of Eurodollar futures contracts with a comparable notional term to maturity. A frequently encountered version comprises a long position in the two-year Treasury note and a short position in some combination of the nearest seven or eight Eurodollar contracts.
Despite their popularity, until now such transactions have suffered for lack of any generic standard. Bond dealerships that promote long-dated TED spreads to their clients tend to recommend trades that involve odd numbers of Eurodollar contracts, differing from one point in the Eurodollar strip to the next. The dealers customarily justify their formulations by appealing to proprietary yield-curve models. These models purport to link the future spot interest rates that are represented by the Eurodollar futures strip to the implied zero-coupon yield curve that is embedded in the prices of U.S. Treasury securities.
Most such yield-curve models produce speciously precise results: too often, mathematical interpolation of painstaking exactitude sits cheek-by-jowl with broad, crude assumptions about the actual shape of the term structure of the Treasury-to-Eurodollar yield spread. Unfortunately, this is precisely the actuarial risk – a default by an off-U.S.-shore commercial bank on its liabilities (versus the default-free character of the U.S. Treasury's debt) – that is at the very heart of the TED-spread trade and that imparts any value to it.

In this context, the introduction of evenly-weighted bundles of Eurodollar contracts will serve two useful ends. First, it establishes a readily available, widely acceptable, and easily interpretable benchmark by which the performance of any other TED trade can be judged.

Second, and more importantly, it facilitates cleaner, more rapid execution of the Eurodollar side of the trade. Instead of being forced to construct lengthy and idiosyncratic Eurodollar strip positions contract by contract, always a risky proposition especially in a fast-moving market, the futures broker now has the capability of executing one trade on behalf of the client that establishes price, quantity, and the allocation of the bundle's component prices.