In plain English
What Forward contract means
Forwards can cover currencies, commodities, securities, or other underlying interests. Their terms—such as quantity, settlement date, price, delivery method, and collateral arrangements—are negotiated between the counterparties rather than standardized by an exchange. At maturity, the contract may be settled through delivery of the underlying asset or, where agreed, by a cash payment reflecting the price difference.
Why it matters
A forward contract can lock in a future purchase or sale price, which is why businesses and financial institutions use them to manage price or exchange-rate exposure. Its customized nature introduces counterparty considerations: the other party must perform as required. The market value can change before settlement, and ending or replacing the agreement may require an offsetting transaction or mutual consent.
Example
A coffee importer agrees today to buy €1,000,000 in 90 days at $1.10 per euro. The agreed dollar payment at settlement is $1,100,000. If the spot rate in 90 days is $1.15, the importer still buys at the contract rate, subject to the agreement’s settlement and credit terms. This is a simplified deliverable forward example.
Quick answers
Common questions
Is a forward contract always physically delivered?+
No. Some forwards result in delivery of the underlying asset, while others are cash settled. The settlement method is set by the agreement and may also be shaped by market convention or regulation.
How does a forward differ from a futures contract?+
A forward is usually a customized bilateral OTC agreement. A futures contract is usually standardized, traded on an organized exchange, and subject to the exchange’s clearing and margining framework.
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