Question

Which of the following is closest to the truth:

Group of answer choices

A) Futures contracts have no margin requirements while forward contracts have margin requirements.

B) Futures contracts almost always involve actual delivery of the underlying asset while forward contracts almost never involve actual delivery of the underlying asset.

C) Futures contracts are mostly used for hedging while forward contracts are mostly used for speculation.

D) Futures contracts have no default risk while forward contracts have default risk.

Which of the following is not true:

Group of answer choices

A) A short futures contract is profitable when the price of the underlying asset falls.

B) A futures contract is closed out with a reversing trade.

C) A futures contract goes through a clearing house.

D) A futures contract is marked to market (cash settled) only at expiry of the contract.

Answer 1

1. Option D is closest to truth.

Futures contracts have no default risk while forward contracts have default risk.

Futures contracts are traded on the exchange and the clearinghouse acts as the counterparty and therefore there is no default risk.

Forward contracts are traded on Over the Counter (OTC) and they carry significant amount of cournterparty risk.

Option A is incorrect because both futures and forward contracts require margin

Option B is incorrect because both futures and forward contracts almost always involve delivery

Option C is incorrect because both futures and forward contracts can be used either for hedging or speculating

2. Option D is correct as it is not true

A futures contract is marked to market (cash settled) daily, not at expiry of the contract.

Options A, B, and C are incorrect because they are true statemetns:

• A short futures contract is profitable when the price of the underlying asset falls.
• A futures contract is closed out with a reversing trade.
• A futures contract goes through a clearing house.