What is the expectancy model of futures pricing?


The expectancy model for futures pricing says that it is the relationship between the expected spot and futures prices that moves the market, especially when the asset cannot be short sold or cannot be stored. It also argues that the futures price is nothing but the expected spot price of an asset in the future. Hence, market participants enter futures contracts and price these futures based on their estimated spot prices of the underlying asset.

According to this model,

> Futures can either trade at a discount or premium to the spot price of the underlying asset
> Futures price give the market participants an indication of the expected direction of movement of the spot price in the future

For instance, 
If the futures price is higher that spot price of an underlying asset, market participants may expect the spot price to go up in the near future.
This expectedly rising market is called "Contango Market".
Conversely, if futures price are lower than spot price of an asset, market participants may expect the spot price to come down in future.
This expectedly falling market is called "Backwardation Market".

Price discovery and convergence of cash and futures prices on expiry

If Nifty 2017 Jan Index Futures is trading at 8054 today(27th Dec, 2016), we can say that the market expects the Cash Index to settle at 8054 at the closure of the market on last Thursday of Jan 2017. Point is that every participant in the market is trying to predict the cash index level at a single point in time, i.e. at the closure of the market on the last Thursday of the month.

This results in the price discovery of the cash index at a specific point in time. This is why futures and spot prices converge at the maturity of the futures contract, as at that point the expected spot price will indeed be the futures price.

This is the reason why all futures contracts on expiry settle at the underlying cash market price. This principle remains same for all underlying assets.