Exchange forward. Features of the forward agreement. How does a futures contract differ from a forward contract?

Forward operations (forward operation or abbreviated as fwd) are currency exchange transactions at a pre-agreed rate, which are concluded today, but the value date has been postponed for a certain period in the future. In this case, the currency, amount, exchange rate and payment date are fixed at the time of the transaction. The duration of forward transactions ranges from 3 days to 5 years, however, the most common dates are 1, 3, 6 and 12 months from the date of the transaction.

The forward contract is bank contract,therefore it is not standardized and can be tailored for a specific operation. The market for forward transactions with maturities of up to 6 months in major currencies is quite stable, for a period of more than 6 months it is unstable, while individual transactions can cause strong fluctuations in exchange rates.

The forward rate is made up of the spot rate at the time of the transaction and the premium or discount, i.e. surcharges or discounts depending on the interest rates of the interbank market for a given period.

The forward rate is usually different from the spot rate and is determined by the interest rate differential between the two currencies. The forward rate is not a prediction of the future spot rate. If the forward contract is executed before 1 month, then it is considered concluded for short dates.

Forward transactions are used in the following cases:

Hedging (insurance) of currency risks;

Speculative operations.

Hedgerstry to reduce the risk of changes in the future price or interest rate by entering into forward contracts that guarantee the future exchange rate. Hedging does not increase or decrease the expected returns of a market participant, but only changes the risk profile. The principle of hedging is that the movement of the foreign exchange market rates is compensated by the equal and opposite movement of the price of the hedging instrument.

The bank can insure the risks of its clients. For example, foreign trade organizations that have payments and receipts in different currencies using forward contracts are also able to insure the risk of changes in exchange rates. If the company knows the schedule of sales and purchases well, it can hedge the risk of a possible change in the rate to an unfavorable side, while knowing the exchange rate in advance, the company is able to calculate its future costs and outline the correct investment and pricing policy. The market for forward contracts is much more popular abroad than in Russia.

Suppose that an American importer of German cars has to pay for the delivery in EURO, and he will sell cars in dollars. In this case, the importer needs to negotiate with the German manufacturer the delivery cost in EURO and calculate the selling price in US dollars. The importer's risk is that in the time interval between the moment the contract is concluded in EURO and the actual sale of the goods in US dollars, the dollar exchange rate may fall. As a result of the depreciation, the importer will need a higher USD amount to recover the contract costs incurred in EURO. However, when concluding a forward contract, the importer will know the exact amount in US dollars required to convert to EURO under the contract, as well as the selling price of the imported goods, taking into account the receipt of a guaranteed profit.

If, for speculative purposes, the dealer buys EURO for US dollars for a month at the rate of EUR / USD 0.9926, and in a month the spot rate equals EUR / USD 0.9960, then this operation will bring profit to the bank. For example, a foreign exchange dealer buys EUR 10 million at a forward rate of EUR / USD 0.9926 for a period of 1 month for the purpose of speculating on the exchange rate. In a month, on the value date, the bank will receive EUR 10 million and pay USD 9.926.000.

If on the value date the spot rate on the market is EUR / USD 0.9960, then the dealer will sell EURO 10 million for dollars and receive USD 9.960.000. As seen in this example, the transaction resulted in a bank profit of USD 34,000 as a result of the dealer judging that the quoted EUR / USD forward rate is presumably better than the future spot rate at the value date of the forward contract. However, if the spot rate is EUR / USD 0.9908, then the sale of EURO will result in a loss. Opening foreign exchange positions in the forward market is also associated with risk, as in the case of other speculative transactions.

Forward outright rate \u003d spot rate ± forward points

Forward points are also called swap points, forward difference or swap difference.

If the forward rate is higher than the spot rate (FR\u003e SR), then the currency is quoted at a premium, if FR< SR , то валюта котируется с дисконтом.

There are a huge number of financial instruments in the economy. Let's talk about one of them. A forward contract is, in fact, an agreement concluded between two parties, which describes in detail the purchase or sale of a specific amount of an underlying asset at a clearly established cost, with the timing of the agreement in the future inclusive. The signing of this type of contract means that one of the parties to the transaction, the seller, undertakes to deliver a specific amount of underlying assets to the number specified in the contract, but which is distant in relation to the date of signing the contract. The other party, the buyer, undertakes to take delivery within the agreed time frame.

Main characteristics of contracts

The date on which the forward contract is signed is referred to as the agreement date. The number that is determined by the parties as the time of implementation of the agreement is called the date of payment or settlement. The time period from the moment of signing the contract until the moment of settlement is called forward. Agreements can be concluded for any time frame and amount of funds, it all depends solely on the needs of each of the parties. The most effective are considered to be forward transactions, the cost of which starts at $ 5 million. In the framework of the international derivatives market, the contract amounts vary from 1 to 100 million. Each of the parameters - the date of signing the contract and the date of settlement, the transaction amount and the volume of the underlying asset - are determined purely on an individual basis. There are no restrictions on this issue.

Risk hedging

Due to the preliminary determination of the contract value, it is possible to hedge the risks. By setting the price of a financial instrument, both the seller and the buyer are completely freed for the forward period from the risk of changes in market value. The transaction does not provide an opportunity to acquire certain benefits. The seller does not receive a material advantage in the event of an increase in the value of an asset in the market, and the seller - as a result of a fall in the same asset. If this situation takes place, then one of the parties may refuse its obligations, as it gets the opportunity to make a deal on more favorable terms. Contracts are defined as firm forward deals. It is the obligation to fulfill its part of the agreement that underlies them; without this feature, the instrument would cease to exist as a direction for hedging risks.

History

Forward transactions first appeared about 400 years ago. They had the format of agreements on the sale of the future harvest. Over the past few decades, contracts have become especially popular, the main subject of which was precisely financial instruments. The financial forward market is essentially over-the-counter. Exchange trading is unacceptable due to the individuality of the conditions for concluding agreements. Any business entities can formally participate in contract trading. In practice, the choice of a partner is carried out very carefully and carefully, as it reduces the risk of delivery disruption.

Forward market participants

For the most part, large banks and pension funds, insurance companies, which have a positive reputation, are parties to the agreements. Certain categories of transactions are subject to certain restrictions. An example is a forward credit transaction in which one party must have an open line of credit with the company that is the other party to the arrangement. Private entrepreneurs can also act as bidders, but they must have a strong material base and be active participants in the global financial life.

Who determines the mood in the forward market?

Banks are the most active players in the forward market. They actively use a forward contract to buy foreign currency to hedge their own risks associated with changes in the value of financial instruments. Financial institutions offer this type of arrangement with a similar purpose to their clients. Due to the wide financial opportunities in the aspect of distribution and attraction of material resources, banks, unlike other trading participants, avoid real losses even if market prices do not play into their hands. By entering into two opposite contracts, the bank manages to easily cover the loss on one deal with the profit on the other. Banks can also act as intermediaries who help to find market participants with opposite desires.

Specificity of contract trading

Trading in forward contracts is not well organized. Low competition in this segment of activity gives banks certain advantages in the form of the ability to impose their terms of partnership on the participants in agreements. The profit that foreign exchange forward contracts can generate depends in large part on the ability to predict the future value of the asset, which is the basis of the agreement.

Banks benefit here, as they have access to a huge amount of information, they employ professional analysts. This leads to the formation of a huge and active supply market, the OTC stock market. Forward contracts can be signed not only for the real amount of funds, but also for the conditional one. In the latter situation, after the implementation of the agreement, in the event of a difference in the contractual and market value of the underlying asset, one of the parties pays the other only the price difference. There is no actual exchange of currencies, shares, securities and other financial instruments.

Pros of contracts

A forward contract is a universal financial instrument that has certain advantages over others like it. The main advantage of the transaction lies in its individual character, which allows for a very professional hedging of risks. Forward agreements do not provide for the withdrawal of additional funds, commissions. As for the privileges for banks, we can note the ability to set the value of the underlying asset and dictate the terms of the agreement, since the transactions are over-the-counter.

Cons of contracts

The main disadvantage of the contract is the lack of room for maneuvering. The obligation of the parties to fulfill their part of the agreement does not allow terminating the contract or modifying its terms ahead of time. The absence of a secondary forward market makes it simply impossible to resell the contract. This leads to a sufficiently low liquidity of the instrument with too high a risk that one of the parties will default on its obligations. The rigid trading framework forced market participants to look for loopholes. For example, today the practice of concluding contracts is very common, which provides for the possibility of terminating contracts by agreement of two parties or on the initiative of one, but with subsequent payment of compensation.

What limits the number of participants in the forward market?

The number of participants in the forward market is strictly limited by a whole set of norms and standards. In order to buy or sell a forward contract, traders must have a line of credit, a high rating, and stable financial contacts with a banking institution. The lack of forward transactions for participants is due to limited opportunities when choosing a partner bank; they have to accept the conditions that are dictated by financial institutions in fact. Certain difficulties are associated with the search for partners, because finding a side that is ready to take the opposite position is not so easy. This leads to insufficient popularity and activity of the forward contracts market.

What is the difference between futures and forward contracts

Future value contracts are forward and futures contracts. The difference between them is significant. The forward is signed between the buyer and the seller, with the main purpose of the partnership being the actual delivery of the asset. Forward agreements are carried out within the OTC market, which leads to a low liquidity of the instrument in comparison with futures. For example, it is very difficult to find a buyer for hundreds of tons of metal if it is no longer relevant for a particular plant.

Compared to a forward, futures act as a standardized contract, the main purpose of which is speculation. There is no question of any real delivery here. Forwards and futures, despite the apparent similarity, are used for opposite purposes. The term "standardized" means a clear limitation of the quantity of goods by the terms of the exchange. Only whole lots are allowed to trade. For example, a lot of copper is 2,500 pounds and a lot of wheat is 136 tons. Options, forwards and futures are financial instruments, but the purpose of their existence is different, which determines the specifics of their application.

Forward foreign exchange contracts

The general characteristics of a forward contract of a currency type provides for a preliminary clarification of the terms of partnership in the following parameters:

1. Contract currency.
2. The amount of the transaction.
3. Exchange rate.
4. Payment date.

The duration of forward transactions can vary from 3 days to 5 years. The most common terms for contracts are 1, 3, 6 and 12 months from the date of the contract. A forward foreign exchange contract is inherently classified as banking. It is not standardized and can be adapted to suit any situation. The market for forward transactions, the duration of which does not exceed 6 months in the dominant currency pairs, is very stable. The segment of the market in which transactions are concluded for 6 months or more is unstable. Any realized long-term transaction can cause significant fluctuations in the exchange rates in the foreign exchange market.

Types of forward transactions

A forward contract can be presented in two formats:

1. Simple Forward Deal, or Outright Agreement. This is a single conversion transaction that has a distinct value date that differs from the spot date. The situation does not provide for a simultaneous reverse transaction. An agreement is concluded between the parties on the provision of a certain amount for a clearly established term and at a fixed rate. This format of transactions is widely used for insurance against exchange rate volatility.
2. Swap trades. This is a tandem of opposite conversion deals that have different value dates. Currency transactions between banks act as a kind of combination between buying and selling one currency, but at completely different time intervals. A certain amount in the equivalent of one currency is both sold and bought on the market for a fixed period and vice versa.

Considering the question of what a forward contract is, it is worth clarifying the fact that these types of agreements use a specialized forward rate, which is fundamentally different from the spot rate. The reason lies in the differences between the interest rates on deposits that countries offer. A specialized formula is used to calculate the forward rate.

2. Use of forward transactions by importers

3. Forward transactions with credit and financial instruments

1. Forward transaction refers to forward transactions in foreign currency. Urgent foreign exchange transactions - these are foreign exchange transactions in which the parties agree on the supply of a specified amount of foreign currency within a certain period after the conclusion of the transaction at the rate fixed at the time of its conclusion.

Forward foreign exchange transaction - sale or purchase of a certain amount of currency with a time interval between the conclusion and execution of the transaction at the rate of the day of the transaction. Forward foreign exchange transactions are carried out off the exchange. Partiesforward transactions are usually made by banks and corporations.

Example. The exporter sells his foreign exchange earnings to the bank on February 10 at the rate of 1 USD \u003d 1.5346 DM per month. The Bank sets a premium for itself at a rate of 2%, taking into account which the forward transaction rate will be determined as: USD, or 200,000 x 1.5346 \u003d 306,290 marks;

100 15346000 - 306290 \u003d 15039710 marks;

Forward transaction rate
DM

When making settlements on an export-import transaction on March 10, the dollar exchange rate was 1 USD \u003d 1.3966 DM. The exporter's bank with which he entered into the forward transaction pays the difference between the forward transaction rate and the market rate: (1.5039 - 1.3966) x 10,000,000 \u003d 1,073,000 marks.

The exporter's losses from the fall in the exchange rate of the contract price were:

(1.5346 - 1.3966) x 10,000,000 \u003d 1,380,000 marks.

Taking into account the difference paid by the bank, the amount of losses decreased to 307,000 marks. The bank's losses amounted to 1,073,000 - 306,290 \u003d 766,710 marks. Thus, from the considered example, it is clear that the bank, assuming the obligation to buy currency from the exporter at the forward rate, incurred significant losses.

2. Forward foreign exchange transactions also use importers. If an increase in the rate of the currency in which the importer makes payments under the contract is expected, then it is profitable for him to buy this currency today at the forward rate, even if it is higher than the real market rate, but at the same time to protect himself from an even greater growth in the rate of this currency on the day of payment under the contract ...

3. In addition to foreign exchange forward transactions, forward transactions with credit and financial instruments are practiced - the so-called "future rate agreements " (forward rate agreements), which are interbank forward agreements on mutual compensation for losses from changes in interest rates on deposits up to one year (usually in amounts from 1 to 50 million dollars). Forward currency, credit and financial transactions are an alternative to exchange-traded futures and options transactions.

Question 34. Currency futures

1 The concept of currency futures. Differences between currency futures and forward operations

2. Hedging scheme using futures (example)

1. Currency futures were first used in 1972 on the Chicago Currency Exchange. Currency futures - an urgent transaction on the stock exchange, which is the purchase and sale of a certain currency at a rate fixed at the time of the transaction, with execution after a certain period.

Differences in currency futures from forward operationsare that:

Futures is trading in standard contracts;

A prerequisite for a futures contract is a security deposit;

Settlements between counterparties are carried out through the clearing house at the currency exchange, which acts as an intermediary between the parties and at the same time the guarantor of the transaction.

The advantage futuresbefore the forward contract is its high liquidity and constant quotation on the currency exchange. Exporters have the ability to hedge their transactions with futures.

2. A futures hedging scheme let us consider a foreign exchange transaction using the example of a Russian importer making a payment under a contract in dollars (the price currency is Deutsche Mark) to an exporter from the EEC. With the appreciation of the mark, the Russian importer incurs losses, since he needs more dollars to pay for the contract than he expected to pay at the conclusion of the deal. To insure his currency risk, the importer instructs the broker to conclude two futures contracts on the exchange:

One - for the sale of stamps for the amount of the contract price;

The other is for the purchase of dollars for an amount equal to the price of the contract, converted at the mark-to-dollar exchange rate at the time of its conclusion. In this case, if the ruble exchange quotations of the dollar and the mark in Russia change in accordance with the trends in the world currency market, the risk will be insured. The contract for the sale of stamps will bring in ruble profits in the amount of the increment in the rate of the mark against the dollar in terms of rubles, and the contract for the purchase of dollars will insure the entire transaction against a jump in the ruble exchange rate. The importer can receive additional profit if favorable conditions are created for playing on the difference in the mutual quotation of the mark and the dollar and their cross-rate through the ruble under futures contracts.

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Mazur A.I., Moscow Drama Theater named after A.S. Pushkin

The volatility of foreign exchange rates can significantly affect the company's profit, and, in the event of strong fluctuations, can lead to serious losses.

We offer foreign trade participants to take advantage of effective mechanisms of protection against fluctuations in exchange rates.

You can:

• Fix the exchange rate for any date in the future
• Effectively plan your expenses for foreign exchange contracts
• Insure against losses associated with the rise or fall of rates

Currency risk protection tools

Foreign exchange forward - a forward conversion OTC transaction to buy / sell foreign currency at the exchange rate fixed on the date of the transaction, with settlements on an agreed future date:

• The transaction is executed at the forward rate
• On the date of the transaction, you do not need to divert funds from the turnover: all calculations will be carried out on the date you choose

There are two types of foreign exchange forwards:

• delivery (you fix the buying / selling rate of currency)
• settlement (you fix the currency rate for calculations)

How it works?

Examples of using tools to protect against currency risks

Example: your company is buying equipment worth US $ 1 million. According to the terms of the contract, you make 20% of the advance payment at the conclusion of the contract, the remaining 80% you pay after the delivery of the equipment in 3 months. The US dollar exchange rate at the time of the contract is 60 rubles / dollar

Problem

Decision: you close the deal delivery forward and fix for yourself the purchase rate of dollars in 3 months - 61.8 rubles / dollar

Result: you are protected from exchange rate fluctuations, your equipment costs are known in advance and included in the project budget. after 3 months you buy dollars at the rate of 61.8 rubles / dollar.

Example: Your company is buying equipment worth US $ 1 million. Calculations will be made in rubles at the exchange rate of the Central Bank of the Russian Federation on the date of payment. According to the terms of the contract, you make 20% of the prepayment at the conclusion of the contract, the remaining 80% you pay after the delivery of the equipment in 3 months. The US dollar exchange rate at the time of the contract is 60 rubles / dollar

Problem: you are afraid that the dollar rate will rise by the time you pay for the equipment, and your expenses will increase

Decision: you close the deal settlement forwardand fix the rate for settlements in 3 months - 61.8 rubles / dollar

Result: you are protected from exchange rate fluctuations, your equipment costs are known in advance and included in the project budget. If after 3 months the exchange rate on the exchange is higher than 61.8 rubles / dollar, then you will receive compensation from the Bank in rubles in the amount of the exchange rate difference. You can use the funds received for settlements under the contract for the purchase of equipment.

Currency option is a transaction in which you buy from the Bank right (but not an obligation), to buy / sell a fixed amount of one currency for another at a certain rate at a certain point in the future.

• The transaction is carried out at a fixed rate
• No collateral required
• You have the right to refuse to execute the transaction if the fixed rate is not beneficial to you
• For the acquired right, you pay a commission on the day of the transaction

Example: your company is engaged in the sale of petroleum products, and you can plan a schedule for the receipt of foreign exchange earnings. In 1 month, a large receipt is planned - $ 5 million. The rate at the time of the conclusion of the contract is 60 rubles / dollar

Problem: exchange rates are very volatile and volatile. You are afraid that the dollar rate will decrease by the time the currency arrives, but, on the other hand, you do not want to miss out on additional income from selling the currency in case the rate grows.

Decision: you enter into a currency option transaction with the right to sell the currency in 1 month at the current rate of 60 rubles / dollar. The cost of such an option is 1.23 rubles per dollar

Result: after one month, you have the right to either sell dollars at a fixed rate of 60 rubles / dollar, or not exercise the option and sell dollars at the current rate of the Bank.

To use one of the tools of protection against currency risks or get advice, please contact the specialists of Bank Saint Petersburg