Forward Contract vs. Futures Contract

Forward contracts and futures contracts have many differences between them that investors should take note. One of the most notable differences between the two is the amount of risks that are associated with them. Forward contracts have a significantly higher amount of risks than futures contracts do. Investors will be driven to either forward or futures contracts depending on what they are looking for. Another main difference between these two types of investments is the regulations. While futures contracts are regulated by the government, forward contracts are not. No regulation promotes higher amounts of risks, which is why forward contracts are riskier than futures contracts.

A forward contract works by two parties making an agreement to either buy or sell a particular asset. The two parties make this agreement at a specific time in the future as well. Futures contracts work differently, however. Futures contracts deal with the investor buying or selling futures contracts at a designated date in the future. The only security or guarantee that forward contracts have is the assurance between the two different parties. Futures contracts are guaranteed by the clearing house. Both the contract size and the expiration date of futures contracts are standardized. Forward contracts, however, have different expiration dates and contract sizes depending on the transaction and the requirements associated with them.

When investors invest in forward contracts, there is a transaction that takes place both with the buyer and seller. These transactions can be negotiated to a price that is agreed by the seller and the buyer. Futures contracts don’t provide negotiation. The price is quoted and traded on the exchange without two parties haggling over price. Forward contracts provide no guarantee outside the institutional guarantee. The only time there is a guarantee is when the contract reaches maturity, depending on the spot price and whether or not the asset is paid. With futures contracts, a certain amount of guarantee is issued through the transaction process.

Forward contracts are also more flexible than futures contracts are. They allow investors to customize their investments to meet their needs, while futures contracts are standardized. Although forward contracts present high risks than futures contracts do, they also present more options and opportunities. Investors who are looking for more secure investments with fewer risks are advised to stick with futures contracts. Investors who are looking to take advantage of more possible opportunities should invest in forward contracts.

Both investments appeal to investors in many different ways. Before investors decide which road to take, they must first analyze what their main goals are. They will then devise a strategy around those goals and decipher which type of investment will meet those goals. An example of a secure investment that futures contracts provide is through commodities. Futures contracts can be purchased through commodities such as silver, gold and other precious metals. These types of investments act as a hedge against the falling dollar. They are secure and dependable types of investments that investors will use to diversify their portfolios.

Investors who invest in forward contracts will look for opportunities within the markets where shareholders will have to sell their shares. The transaction between the seller and buyer will dictate who comes out on top in the future. Forward contracts take a considerable amount of time planning before making decisions. Not all transactions are completed as some buyers and sellers might fail to reach an agreement. In this case, the investor will move along to find other opportunities with other buyers or sellers. Overall, both types of investments provide alternative ways for investors to earn a significant amount of return.

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