What is a forward contract?

A forward contract is a customizable derivative contract between two parties to buy or sell an asset at a specified price on a future date. Forward contracts can be tailored to a specific commodity, amount, and delivery date. Forward contracts do not trade on a centralized exchange and are considered over-the-counter (OTC) instruments.

How do you calculate the value of a forward contract?

The value of the forward contract is derived from the value of the underlying asset. The price at which the contract is agreed to be executed. This price is usually calculated by adding the risk-free rate of return to the market price of the asset. There are two parties to a forward contract – the buyer and the seller.

What happens if a forward contract expires?

On the expiration date, the contract must be settled. One party will deliver the underlying asset, while the other party will pay the agreed-upon price and take possession of the asset. Forwards can also be cash-settled at the date of expiration rather than delivering the physical underlying asset. What are Forward Contracts Used For?

What is a futures contract?

Futures contracts are also a type of derivative, but they aren’t identical to forward contracts. They also allow two parties to agree to buy or sell an asset at a specified price in the future. There are three key features that distinguish them from forward contracts. Futures contracts are traded on an exchange.