futures market(redirected from Forward exchange market)
Also found in: Dictionary, Thesaurus, Encyclopedia, Wikipedia.
futures marketsee FORWARD MARKET.
forward exchange marketa market that provides for the buying and selling of COMMODITIES (rubber, tin, etc.) and FOREIGN CURRENCIES for delivery at some future point in time, as opposed to a SPOT MARKET, which provides for immediate delivery. Forward positions are taken by traders in a particular financial asset or commodity, the price of which can fluctuate greatly over time, in order to minimize the risk and uncertainty surrounding their business dealings in the immediate future (i.e. ‘hedge’ against adverse price movements), and by dealers and speculators (see SPECULATION) hoping to earn windfall profits from correctly anticipating price movements.
Traders seek to minimize uncertainty about future prices by buying or selling futures, particularly OPTIONS, i.e. contracts that promise to buy or sell a commodity or financial asset at a price agreed upon now for delivery at some later point in time, usually within a three-month period. For example, a producer of chocolate could contract to buy a given amount of cocoa at today's price plus a percentage risk premium for delivery in two months’ time. Even if the price of cocoa were to go up markedly, the manufacturer knows that he is still able to buy at the (lower) contract price and is thus able to plan his raw material outlays accordingly. Similarly, the growers of cocoa can contract to sell the commodity at an agreed price now for delivery in the near future in order to cover themselves against adverse price changes. Unlike the spot market, where commodities are traded in the physical sense, in the futures market it is only these contracts that are bought and sold.
Between the original buyers and producers, using futures as a hedge to minimize risk, stand the various dealers and speculators who buy or sell the paper contracts to such items according to their view of probable price movements in the hope of securing windfall profits.
Forward prices reflect anticipated future demand and supply conditions for a commodity, financial security or foreign currency being traded.
Specifically, the forward prices will be based partially on current spot prices but will also take into account interest rate and inflation rate trends. The difference between the current spot price of a commodity and the forward price constitutes the ‘forward margin’. The forward margin can be at either a discount or a premium to the spot price. Forward margins for a particular commodity, such as cocoa, in different commodity markets in London, Chicago, etc., tend to be similar as a result of the buying and selling of futures contracts between these markets (ARBITRAGE).
The LONDON INTERNATIONAL FINANCIAL FUTURES MARKET (LIFFE) constitutes the largest European Union centre for forward dealings in securities and commodities. The forward markets in the UK are regulated by the Securities Association in accordance with various standards of good practice laid down under the FINANCIAL SERVICES ACT 1986. See DERIVATIVE, COMMODITY MARKET, FOREIGN EXCHANGE MARKET, STOCK EXCHANGE, COVERED INTEREST ARBITRAGE, EXCHANGE RATE EXPOSURE.