EECS 3101 Lecture Notes - Lecture 23: Forward Market, Commercial Bank, Financial Institution
28 Jun 2018
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EECS 3101 Lecture 23 Notes
Introduction
Currency Derivatives
A currency derivative is a contract whose price is partially derived from the value of the
underlying currency that it represents.
Some individuals and financial firms take positions in currency derivatives to speculate
on future exchange rate movements.
Multinational corporations often take positions in currency derivatives to hedge their
exposure to exchange rate risk.
Their managers must understand how these derivatives can be used to achieve
corporate goals.
Forward market
The forward market facilitates the trading of forward contracts on currencies.
A forward contract is an agreement between a corporation and a financial institution
(such as a commercial bank) to exchange a specified amount of a currency at a specified
exchange rate (called the forward rate) on a specified date in the future.
When MNCs anticipate a future need for or the future receipt of some foreign currency,
they can set up forward contracts to lock in the rate at which they can purchase or sell
that currency.
Nearly all large MNCs use forward contracts to some extent.
Some MNCs have forward contracts outstanding worth more than $100 million to hedge
various positions.
Because forward contracts accommodate large corporations, the forward transaction
will often be valued at $1 million or more.
Forward contracts normally are not used by consumers or small firms.
Document Summary
A currency derivative is a contract whose price is partially derived from the value of the underlying currency that it represents. The forward market facilitates the trading of forward contracts on currencies. When mncs anticipate a future need for or the future receipt of some foreign currency, they can set up forward contracts to lock in the rate at which they can purchase or sell that currency. In cases where a bank does not know a corporation well (or does not fully trust it), the bank may request that the corporation make an initial deposit as assurance of intending to fulfill its obligation. Derivative is a contract whose price is partially derived from the value of the underlying currency that it represents. Some individuals and financial firms take positions in currency derivatives to speculate on future exchange rate movements. Multinational corporations often take positions in currency derivatives to hedge their exposure to exchange rate risk.
