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Chapter 22 Forward And Futures Contract

Chapter 22 Forward And Futures Contract. Forward Contract. Terminology Short position (Seller) Long position (Buyer) Current exchange rate Spot rate Forward rate. Who Is Taking The Risk?. Bank Operates as a Mediator Another Customer Takes the opposite position

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Chapter 22 Forward And Futures Contract

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  1. Chapter 22Forward And Futures Contract

  2. Forward Contract • Terminology • Short position (Seller) • Long position (Buyer) • Current exchange rate • Spot rate • Forward rate

  3. Who Is Taking The Risk? • Bank Operates as a Mediator • Another Customer • Takes the opposite position • Risk Reduction if Parties do not Default

  4. Characteristics Of Futures Contract • Traded on Organized Exchange • Seller can Change Delivery Date • Mark to Market Cash Settlement • On a daily basis • Reduces the risk of default

  5. Forward Traded between partners Precise delivery date Cash or delivery on delivery date Futures Traded on Organized exchange Seller can chose Mark to market Difference Between Forward And Futures Contract

  6. Reading Financial Data On Futures • Major Types Of Future Contracts • Settle Price • Open Interest • Cash Settlement

  7. Major Types Of Future Contracts • Grains and oilseeds • Livestock and Meat • Food and Fiber • Metals and Petroleum • Currencies • Interest Rates • Stock Indexes

  8. Trading A Futures Contracts • Initial Orders • Buyers and sellers contact their brokers • Futures commission merchants (FCMs) • FCMs contact their floor brokers • Trade executed • After Trade is Executed • Traders contact floor brokers regarding trading results • Floor brokers contact clearinghouse • Floor brokers contact FCMs • FCMs contact buyers and sellers

  9. Clearinghouse • Vital Roles • Banker • Provide for the exchange of profits and losses • Inspector • Insures good product Delivery • Insurer • Guarantees that each trader will honor the contract

  10. How Do Margin Requirements Work? • Initial Margin • Maintenance of Margin • Performance Bond • Insurance that both parties will fulfill their obligations

  11. Margin Cash Flow Over Time Margin Cash Flow Margin Call Initial Margin Maintenance Margin Days

  12. Investment Strategies • Hedging • Speculating • Arbitrage • Portfolio Diversification

  13. Arbitrage • Objective is to Design a Portfolio with • No investment • Positive cash flow • No future liabilities • Plays an important role in making the market efficient • By trading on price discrepancies

  14. Pricing Futures Contracts • Basis • Stock Indexes • Currency Futures • Commodity Futures

  15. Futures Price Depends On • Current Spot Price • Risk-Free Interest Rate • Time to Expiration • Cost of Carrying the Underlying Asset • Dividends

  16. Tools For Hedging Foreign Exchange Risk • Futures • Options • Forward Contracts • Swaps • Futures Options

  17. Owners Receive Stock Index Portfolio Currency Commodity Dividend Yield Receive Foreign Interest Rate Pay Cost of Storage

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