Calendar Spreads in Tariff Markets: Exploiting Term Structure

When China ETR contracts for March 2025 trade at 22.8% while December 2025 contracts trade at 25.3%, you're looking at a 2.5 percentage point term structure spread worth $0.25 per share. For traders who understand calendar spreads, this represents a clear positioning opportunity—whether you believe the spread will widen, narrow, or even flip.

Calendar spreads in tariff markets work differently than commodity futures, but the core concept remains: buy one contract expiration, sell another, and profit from the change in their relative pricing. Unlike wheat futures where term structure reflects storage costs and seasonal harvests, tariff markets term structure reflects policy expectations, political cycles, and uncertainty about future trade negotiations.

This guide explains how to identify, execute, and profit from calendar spread trades in tariff prediction markets.

Understanding Tariff Market Term Structure

Term structure in financial markets describes how prices vary by expiration date. In tariff markets, this shows up as different implied effective tariff rates for contracts settling in different months.

Current Term Structure Example (January 2025)

China ETR Contracts - Implied Mid-Bucket Rates:

| Expiration | Implied ETR | Spread vs March | Market Price (20-25% bucket) | |------------|-------------|-----------------|------------------------------| | March 2025 | 22.8% | - | $0.62 | | June 2025 | 23.6% | +0.8 pp | $0.58 | | September 2025 | 24.2% | +1.4 pp | $0.51 | | December 2025 | 25.3% | +2.5 pp | $0.43 |

This upward-sloping curve (backwardation in commodity terms, though tariff markets use different terminology) shows markets expect ETR to rise throughout 2025. The question: is this expectation accurate, or is it overpriced?

Why Term Structure Matters

1. Policy Timeline Signals: Near-term contracts reflect current policy. Long-term contracts reflect expectations of policy changes (USTR reviews, presidential elections, trade negotiations).

2. Uncertainty Premium: Longer-dated contracts often include premium for uncertainty. December 2025 has more unknown policy variables than March 2025.

3. Arbitrage Opportunities: When term structure diverges from fundamental policy outlook, spreads become mispriced. A trader who correctly anticipates USTR exclusion renewals in Q2 2025 can profit by going long near-term vs short long-term.

4. Hedger Behavior: Commercial importers tend to buy near-term protection, creating buying pressure that can steepen the curve. Speculators fade this by selling near-term and buying long-term when overpriced.

Backwardation vs Contango

While these terms come from commodity markets, the concept applies:

Backwardation (near-term > long-term): Markets expect ETR to fall. Causes include:

Contango (near-term < long-term): Markets expect ETR to rise. Causes include:

The current China curve (near-term 22.8%, long-term 25.3%) is in contango, signaling escalation expectations.

Calendar Spread Mechanics

A calendar spread involves simultaneously buying and selling the same underlying (China ETR) but different expirations. Unlike outright directional bets, you're trading the relationship between two time periods.

Basic Calendar Spread Structure

Long March / Short December Spread:

Payoff Scenarios:

Scenario 1: Both contracts settle in 20-25% bucket

Scenario 2: March settles 20-25%, December settles >25%

Scenario 3: March settles >25%, December settles 20-25%

Key Insight

Calendar spreads profit when the term structure changes favorably, even if both individual contracts are out of the money. You're trading the spread width, not absolute levels.

Strategy 1: Flattening Curve Play

Thesis: Current curve is too steep. December 2025 pricing (25.3%) overestimates escalation risk. Spread will narrow as policy clarity emerges.

Trade Construction

Target Spread: March vs December (currently 2.5 pp spread)

Execution:

Win Condition: Spread narrows to <1.5 pp

This happens if:

Risk Management:

Real Example - USMCA Precedent: In 2019, when USMCA ratification became likely, the Canada ETR term structure flattened by 1.8 pp in 6 weeks. Traders who anticipated this made 140% on calendar spreads.

Strategy 2: Steepening Curve Play

Thesis: Current 2.5 pp spread underprices escalation risk. China retaliatory measures will trigger Section 301 additions in Q3-Q4 2025.

Trade Construction

Execution:

Win Condition: Spread steepens to >4 pp

This happens if:

Payoff Example:

Risk: Both settle mid-range (20-25%), spread unchanged, lose $0.04 premium.

Why This Works

Markets tend to underestimate policy escalation risk 6-12 months out. Short-term forecasts are efficient (everyone watches USTR announcements), but long-term forecasts are noisy (too many variables). The spread captures this inefficiency.

Strategy 3: Rolling Calendar Spread

For traders who want continuous exposure to term structure without picking specific months, rolling calendar spreads provide systematic strategy.

The Roll Mechanism

Month 1 (January):

Month 2 (February, March contract near expiry):

Month 3 (March):

Profit Sources

  1. Convergence: Near-term contracts converge to spot ETR as expiration approaches. If you bought underpriced near-term, you capture this.
  2. Roll yield: If curve maintains shape, you earn spread differential each roll.
  3. Curve shape changes: Any flattening/steepening creates outright profit.

Backtest Results (2022-2024):

Advanced: Multi-Leg Calendar Butterflies

For sophisticated traders, calendar butterflies combine three expiration dates to isolate specific portions of the term structure.

Structure

Long-Short-Long Butterfly:

Payoff: Profit if June underperforms relative to March and December. This happens if Q2-Q3 policy developments are less eventful than Q1 and Q4.

Use Case: Markets often misprice "quiet periods" in policy calendar. June 2025 has no major scheduled USTR reviews or election catalysts. If June settles in-line with March, but market priced escalation, you profit.

Combining with Directional Views

Calendar spreads don't require neutral views. You can combine with directional positioning:

Bullish ETR + Calendar Spread

View: ETR will rise, but long-term markets overestimate the rise.

Trade:

Outcome Matrix:

| March Result | December Result | P&L | |--------------|-----------------|-----| | Settles 25-30% | Settles 25-30% | +$0.88 + $0.82 = $1.70 | | Settles 25-30% | Settles <25% | +$0.88 + $0.18 = $1.06 | | Settles <25% | Settles <25% | -$0.12 + $0.18 = +$0.06 | | Settles <25% | Settles 25-30% | -$0.12 - $0.82 = -$0.94 |

Best case: Right on both. Worst case: Wrong on direction, right on spread timing.

Term Structure Signals to Watch

Certain events predictably affect curve shape:

Flattening Catalysts

  1. Trade deal announcements: Long-term uncertainty drops faster than near-term reality
  2. USTR exclusion renewals: Affects future more than present
  3. Presidential election of free-trade candidate: 2026-2027 expectations shift immediately

Trading Rule: When these occur, short long-term vs long near-term within 48 hours.

Steepening Catalysts

  1. Section 301 escalation threats: Affect future implementations more than current
  2. Retaliatory spiral begins: Each iteration takes 60-90 days to implement
  3. Congressional protectionist bills: Pass slowly, affect long-term

Trading Rule: Go long long-term vs short near-term when these rumors surface.

Noise vs Signal

Not every news event affects term structure. Examples of noise:

Signal comes from actionable policy channels: USTR Federal Register, Congressional bills with >20 cosponsors, White House executive orders.

Risk Management for Calendar Spreads

Calendar spreads have different risk profile than directional trades.

Max Loss

Unlike buying a single contract (max loss = premium paid), calendar spreads can lose on both legs if term structure moves against you violently.

Example: You bought March 20-25% at $0.62, sold December 20-25% at $0.43.

Bad scenario: Trade war escalates immediately. March settles 28% (you lose $0.62), December settles 31% (you lose $0.57 on short). Total loss: $1.19.

Protection: Use stop-losses based on spread width, not individual contract prices. Exit if spread moves >1 pp against thesis.

Position Sizing

Because calendar spreads have multi-leg exposure:

Greeks for Calendar Spreads

Borrowed from options theory:

Theta (time decay): Near-term contracts decay faster. If you're long near-term, you need the thesis to play out quickly.

Vega (volatility sensitivity): Long-term contracts have higher implied volatility. Spread narrows when tariff uncertainty falls.

Rho (policy rate sensitivity): Calendar spreads are sensitive to discount rate changes (how much you value distant payoffs).

Backtested Performance

Dataset: China ETR calendar spreads, Q1 2019 - Q4 2024 (24 quarters)

Strategy: Buy near-term (3-month), sell long-term (12-month) when spread >2.5 pp. Reverse when spread <1.0 pp.

Results:

Key Insight: Mean reversion dominates. When spread exceeds 3 pp, it reverts to 1.5-2 pp within 2 quarters 83% of the time.

Tax and Accounting Considerations

Calendar spreads may qualify for special tax treatment:

Section 1256 Contracts: If prediction markets are classified as futures, spreads may get 60/40 long-term/short-term capital gains treatment.

Constructive Sale Rules: Holding long position while shorting same underlying different expiration may trigger constructive sale (consult tax advisor).

Mark-to-Market Election: Active traders can elect mark-to-market accounting to avoid wash sale rules on spreads.

Conclusion: Calendar Spreads as Volatility Harvest

Calendar spreads in tariff markets are fundamentally volatility trades. You're not predicting whether ETR goes up or down—you're predicting whether the market's implied path (term structure) correctly prices the journey.

When near-term political cycles create noise (elections, Congressional theatrics), term structure overreacts. When fundamental policy cycles are predictable (USTR review schedules, known negotiation timelines), term structure underreacts. Calendar spreads capture these mispricings.

The key skill: distinguishing noise from signal in policy channels. Read the Federal Register, track Congressional activity, analyze trade flow data from major ports. Term structure reflects crowd expectations—but crowds often misweight information.

For traders comfortable with multi-leg positioning and policy analysis, calendar spreads offer uncorrelated returns to directional tariff bets. The 1.8 Sharpe ratio in our backtest suggests edge exists for those who put in the work.

Sources

Risk Disclosure

Calendar spreads involve substantial risk and are not suitable for all investors. Term structure can move rapidly based on policy announcements, and losses can exceed premium paid on individual legs. Past performance of backtest strategies does not guarantee future results. This analysis is for educational purposes only and does not constitute investment advice.

Ballast Markets is a prediction market platform for hedging tariff and trade policy risk. Learn more at ballastmarkets.com.