Ch. 23 Futures and Forwards

A series of flashcards covering key concepts, definitions, and roles of futures and forwards in managing financial risks.

What is a futures contract?

An agreement between two parties to buy or sell assets at a future date at a specific predetermined price.

What distinguishes a forward contract from a futures contract?

A forward contract is a private, custom-made agreement, whereas a futures contract is standardized and traded on exchanges.

What types of risks can futures and forwards help manage?

Interest rate risk, foreign exchange (FX) risk, credit risk, and catastrophe risk.

What is the primary purpose of using derivative contracts?

To hedge against financial risks and potential losses.

How does the price of a forward contract behave?

The price of a forward contract is fixed over its life.

How is the price of a futures contract determined?

The price of a futures contract is marked to market daily, adjusting to reflect current market conditions.

What does 'immunized' mean in the context of financial institutions?

An FI is fully hedged and protected from adverse movements in interest rates, resulting in zero net interest rate exposure.

What is basis risk?

The risk that the price movement of a spot asset isn’t perfectly correlated with the price movements of the asset in a futures or forward contract.

What is micro-hedging?

Using futures (or forwards) to hedge specific assets or liabilities to protect against individual asset risks.

What is macro-hedging?

Hedging the entire duration gap of a portfolio to address portfolio effects.