Week 5 - Futures and Forwards

Question 1

what are derivatives ?

Answer 1

securities whose prices are determined by other securities

Question 2

why do people tend to use derivatives

Answer 2

to hedge risk
or speculate gains
when there is a lot of uncertainty in the market, like COVID, derivative contracts increased everywhere because you can lock in a price and escape the uncertainty

Question 3

key derivatives

Answer 3

forwards
futures
options
swaps

Question 4

futures and forwards

Answer 4

contracts that specify purchase or sale of some underlying security at some future date
they carry and obligation to fulfil (unlike options)
both price and date are locked in

Question 5

forward contract

Answer 5

private contract
one specified date
settled on maturity
some credit risk

Question 6

futures contract

Answer 6

can be exchanged on the market
range of delivery dates
daily settlements
no credit risk

Question 7

long position (buy)

Answer 7

trader commits to buying something on the maturity date
long position benefits from price increases
limited upside potential

Question 8

short position (sell)

Answer 8

trader commits to sell the commodity upon maturity
short position benefits from price decrease
unlimited downside potential (there is no limit to how high the price can increase)

Question 9

why is there a difference in price of future and forward contracts

Answer 9

because of the timing of the cash flows and fluctuation in interest rates