Flashcards in FINC 327 Chapter 5: Currency Derivatives Deck (10)
A forward contract
A forward contract is an agreement between a corporation and a financial institution (such as a
commercial bank) to exchange a specified amount of a currency at a specified exchange
rate (called the forward rate) on a specified date in the future.
How could Multinational corporations use forward contracts to hedge their imports. (Making payments)
They can lock in at a LOWER rate at which they obtain a currency needed to purchase those imports.
Goal is to pay less for imports by using a depreciated currency
Short Spot in currency
How could Multinational corporations use forward contracts to hedge their exports. (receiving payments)
Hoping that the rate will be higher!!
to avoid currencies depreciating
Long in currency spot
use futures to reduce risk on an existing position
use futures to take on risk in the hope of making profit
use the difference between spot and futures prices to generate risk free profit
FORWARD speculation profits long and short sides
long side: upward sloping
short side: downward sloping
premium and discount of forward rates
(Ft - So ) / S * 360/#of days
negative is discount
positive is premium
spot transaction with a corresponding forward contract that will reverse the spot transaction
so i give you pounds and you give me dollars.
then we agree on forward contract to reverse this transaction so we both get exact money we started with. no profit gains or losses