Forward Contract

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A forward contract is a derivative which binds two parties to a transaction in the future. For a given underlying asset the forward contract is defined by its quantity, maturity, and strike price. Forward contracts are settled once at the end of the contract’s duration.

Forward contracts are generally settled by assessing the value of the contract and the party realizing a loss will pay the party realizing a gain that amount in their chosen currency. However, it is also possible for the contract to be settled with the actual transaction specified in the agreement.

Forward contracts are negotiated between parties on a case-by-case basis. This makes the contracts very useful as hedges against portfolio risk. However, the unique nature of the contract results in very low liquidity, making it difficult for either party to exit their position before maturity.