The benefits of using forward contracts
A forward contract is an agreement between two parties to buy or sell an asset at a specified price at a future date. Forward contracts are used in a variety of situations, including hedging against currency fluctuations and commodity price movements. In this article, we'll explore the benefits of using forward contracts and how they can be used to mitigate risk.
What is a forward contract?
A forward contract is a type of derivative instrument that allows two counter-parties to agree to buy or sell an asset at a specified price and date in the future. Forward contracts are used in a variety of settings, including commodities, foreign exchange, and real estate. In foreign exchange we would look to secure an exchange rate and a timeframe, ie: AUD/USD @ 0.7255 for 6 months. This means that you have secured this rate for this timeframe for the amount that you choose.
There are many benefits to using forward contracts. For one, they provide more certainty than spot contracts (which are contracts for immediate delivery). This is because with a forward contract, the price is locked in at the time of the contract, so there is no risk of price fluctuations. This can be beneficial for businesses that need to budget for their costs and protect their risk in the ever changing world of FX.
Another benefit of using forward contracts is that they can be used to hedge against price movements. For example, if a company expects the price of raw materials to increase in the future, they can enter into a forward contract to lock in current prices. This protects them from having to pay more for inputs in the future, and thus helps to manage cost risk.
Overall, forward contracts can be useful tools for businesses to manage their costs and protect themselves from price movements.
How do forward contracts work?
A forward contract is an agreement between two parties to buy or sell an asset at a specified price at a later date. The price is fixed at the time of the contract, so the buyer knows how much they will pay and the seller knows how much they will receive.
There are many benefits to using forward contracts. They can be used to hedge against risk, as the price is fixed and known in advance. This can help to protect against losses if the market price moves against you.
To secure an exchange rate we would generally require a 10% deposit to hold the rate for up to 2 years. We also have the option of 0% deposits for qualified clients, so speak to us about this option.
The benefits of using forward contracts
There are many benefits to using forward contracts. Perhaps the most obvious benefit is that they provide certainty in an uncertain world. When you enter into a forward contract, you know exactly what price you will pay (or receive) for the asset, no matter what happens in the market. This can be very helpful in managing risk.
Another benefit of forward contracts is that they can be used to lock in prices. This can be helpful if you expect prices to rise in the future and you want to protect yourself from paying too much. It can also be helpful if you expect prices to fall and you want to lock in today's prices.
Forward contract vs. other hedging strategies
When it comes to hedging strategies, there is no one-size-fits-all solution. The best hedging strategy for a particular company will depend on that company's specific needs and circumstances. However, forward contracts are often a good choice for companies looking to hedge against currency risk.
Forward contracts are not without their risks, however. If the market moves in the company's favour, they may be stuck with an unfavourable exchange rate. And because forward contracts are binding agreements, companies may be forced to make good on the contract even if market conditions have changed and it is no longer advantageous to do so.
Despite these risks, forward contracts can be a useful tool for managing currency risk. Companies should carefully consider their needs and objectives before entering into any hedging strategy, but forward contracts may be a good option for those looking to protect against potential losses from fluctuations in exchange rates.
How to use a forward contract
When it comes to managing risk, one tool that can be extremely useful is a forward contract.
If you're interested in using a forward contract, please contact me and I would happy to look over your current processes and costs and see how we can improve them for you to manage risk.
Conclusion
The benefits of using forward contracts are numerous. For one, they can help you lock in a price for stock that you are buying or selling, which can protect you from market fluctuations.
You can also use forward contracts into some more unique currencies such as the CNY, this then allows you to negotiate better pricing with suppliers and save yourself money and avoid the fluctuations between AUD/USD and USD/CNY...it could be a huge saving!