Basic Differences Between Forward And Futures Contracts

Front 1

Trading

Back 1

Forward contracts are traded by telephone or telex.
Futures contracts are traded in a competitive arena.

Front 2

Regulation

Back 2

The forward market is self-regulating.
The IMM is regulated by the Commodity Futures Trading Commission.

Front 3

Frequency of Delivery

Back 3

More than 90% of all forward contracts are settled by actual delivery.
By contrast, less than 1% of the IMM futures contracts are settled by delivery.

Front 4

Size of Contract

Back 4

Forward contracts are individually tailored and tend to be much larger than the standardized contracts on the futures market.
Futures contracts are standardized in terms of currency amount.

Front 5

Delivery Date

Back 5

Banks offer forward contracts for delivery on any date.
IMM futures contracts are available for delivery on only a few specified dates a year.

Front 6

Settlement

Back 6

Forward contract settlement occurs on the date agreed on between the bank and the customer.
Futures contract settlements are made daily via the Exchange's Clearing House; gains on position values may be withdrawn and losses are collected daily. This practice is known as marking to market.

Front 7

Quotes

Back 7

Forward prices generally are quoted in European terms (units of local currency per U.S. dollar).
Futures contracts are quoted in American terms (dollars per one foreign currency unit).

Front 8

Transaction Costs

Back 8

Costs of forward contracts are based on bid-ask spread.
Futures contracts entail brokerage fees for buy and sell orders.

Front 9

Margins

Back 9

Margins are not required in the forward market.
Margins are required of all participants in the futures market.

Front 10

Credit Risk

Back 10

The credit risk is borne by each party to a forward contract. Credit limits must therefore be set for each customer.
The Exchange's Clearing House becomes the opposite side to each futures contract, thereby reducing credit risk substantially.