What are the Differences between a Futures and a Forward Contract?

Although a Futures Contract is similar to a Forward Contract in that both are agreements to trade on a set future date, there are some significant differences.

• Fututres contracts are highly standardized, while each Forward contract is personalized and unique.
• Futures are settled at the end on the last trading date of the contract with the settlement price; whereas, the Forwards are settled at the start with a forward price.
• The profit or loss on a Futures position is exchanged in cash every day. With the Forwards contract, the profit or loss is realized only at the time of settlement so the credit exposure can keep increasing.
• The Futures contract does not specify to whom the delivery of a physical asset must be made; in a Forwards contract it is clearly specified who recieves the delivery.
• Futures are traded on an exchange, while Forwards are traded over-the-counter.

What are the Benefits of a Futures Contract?

A Futures Contract is a unique investment among alternative investments. It has several characterisitics that make it attractive to the investors.

• Simple and uncomplicated - Futures contract are very easy to follow - based on whether you believe prices are going to rise or fall, you sell and buy. Your broker will help you to do the neccessary transaction when it is advantageous to you.
• Easy to short sell - With stock index Futures contract it is as easy to sell short as it is to buy long. There is no paper work involved or any high financial requirements to be met. When Futures Contract prices go up you sell, and when they go down, you buy. It is a very logical strategy to follow.
• Easy entry and exit - In such a liquid market, it is very easy to enter and exit a transaction, especially now that it can be done online. If you so wish, it need involve only a low brokerage
• Direct investment opportunities - A Futures Contract helps you to invest directly in the market. In other forms of investment you have to consider a lot of other factors like management issues, market shares, and other company-related matters that would pose risks to your investments. But since the Futures move one-for-one with the underlying prices, you have a direct investment opportunity.
• Capital Effeciency - A Futures contract is the most capital efficient investment choice you have since you can make a larger investment with actually a much smaller amount. The Futures ties up only 20% of the full contract value, freeing the remaining 80% for other investments. So, your capital can be put to very effective use through this marginal payment.
• Volatile - Since speculators like markets that move, they make a good investment choice since the Futurs Contract prices are highly mobile.

So, with some research and guidance from your broker, you can make a dynamic investment with a Futures contract.