explain how forward contracts differ from futures contracts? As it relates to future contracts, explain your...

explain how forward contracts differ from futures contracts? As it relates to future contracts, explain your understanding of marking to market.

Expert Solution

While both future and forward contracts involve the agreement to buy/sell the specified asset on a future date at a price agreed upon by the two parties, the major difference lie in the place of exchange. The futures takes place at an exchange while the forward is over the counter. A futures contract is settled on a daily basis as it is traded on the exchange while the forward is settled at end of the agreement date. The forward contract is primarily used by hedging interest group who mainly want to cut down the volatility of the underlying asset's price while the futures is mainly used by speculators who is interested more on betting the price moves.

Marking to market essentially means to set the daily gains or losses due to the change in market value of security. For futures,if the value of security appreciates, the buyer of the asset(long) collects money from the seller of the security(short) . Conversely, if the price of the security depreciates, the seller collects money from the buyer that is equal to change in value of the security.

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