Topic 15 Forwards and Futures

Question 1

Spot Market

Answer 1

Market for immediate trade and delivery of an asset

Question 2

Forward Market

Answer 2

-Forward contract is an agreement today between buyer and seller to trade a pre determined amount of an asset at a set future date at an agreed price

Question 3

Futures Contract

Answer 3

-Standardized forward contract, traded on an exchange, where gains and losses are accounted daily (market to market)

Question 4

Long Position

Answer 4

-Agree to buy at Fo (future determined date) for determined price in future
*gains if futures price < spot price

Question 5

Short Position

Answer 5

-Agreed to sell the asset at Fo
*gians if futures price > spot price

Question 6

Counter-Party Risk

Answer 6

=Risk that one party will not deliver good or payment at future date
-The losing party will always want to walk so need a cost to deter incentive

Question 7

Exchange Clearinghouse

Answer 7

=Counter-party to ensure transaction on future date
-Protects itself with a “margin” deposit
-Trader can still potentially default if prices move faster than margin calls -> daily price change limits on contracts
VS forward contract
-allows traders to close positions or reverse trade

Question 8

Process to account for P/L at Ex Clearinghouse

Answer 8

-Daily gains posted to trader acct and losses withdrawn (margin acct)
*Major difference between futures and forwards
->forwards and not traded on exchange thus wait for gains and losses thus can’t really reverse positions