Question

Please explain the difference between a currency forward contract and a currency futures contract. Include advantages/disadvantages of both to a multinational company.

Answer 1

Difference between the currency forward contract and the currency future contracts are as follows-

A. Currency forward contracts will be offering the lower level of transparency due to just presence of two parties where as currency future contracts will be offering higher level of transparency.

B. Currency forwards are customised contracts as they can be customised according to the needs of individual whereas currency futures are standardized contracts and they cannot be customised.

C. There is a high degree of counterparty risk related to currency forward contract where as there is a low degree of counterparty risk related to currency future contract.

D. Currency futures are generally trading upon exchanges whereas currency forwards will be trading upon over the counter exchange.

Benefits of entering into this contract will be helping this multinational company in order to hedge their various risk exposures in foreign currency and it will be providing them with reduce the risk exposure and minimise the risk.

Disadvantages related to these contracts are that they will be having a high amount of cost and they will not be resulting into any advantage, they will just be leading to cost of hedging.