- CFA Exams
- CFA Level I Exam
- Topic 5. Equity Investments
- Learning Module 1. Market Organization and Structure
- Subject 2. Assets and Contracts
CFA Practice Question
Which is the only type of commodity where trading in forward contracts is larger than trading in future contracts?
B. Foreign currency
C. Interest rates
A. Agriculture
B. Foreign currency
C. Interest rates
Correct Answer: B
Trading in foreign currency forwards is far larger than trading in futures. For example, with international trade, businesses can hedge against adverse currency fluctuations. But each business arrangement is unique, and most require the flexibility of a forward (whose terms are not standardized) that meets their special needs.
User Contributed Comments 3
| User | Comment |
|---|---|
| gill15 | No idea what this means... |
| robbiecow | Forward contracts aren't standardized so this means that companies can customize the transaction i.e., flexibility to create terms as needed. Think of any 2 US companies with subsidiaries or locations abroad. These two companies will have different cash flows in their international operations. Now imagine they need to convert these cash flows which are denominated in local currency into USD. Because exchange rates fluctuate these companies might want to hedge against this risk by entering into a contract that locks in a certain exchange rate, but because their cash flows differ from each other and can also differ from period to period having a futures contract (i.e., a standardized contract) is inefficient and can be uneconomical; therefore, they would enter into a froward contract (i.e., customizable contract). |
| cy166099 | thank you robbiecow |