Question

For short-answer questions, provide your answers and explanations. For numerical questions, it is important to show your work.

After studying Chapter 26, we understand that futures and forwards can be used to reduce risk. What are the differences between futures and forwards?

A Canadian firm will have to pay US $1 million six months from now for the goods purchased from a US company. In light of the COVID-19 pandemic, the company is concerned about potential increases in the value of the US dollar in the future. How could this firm hedge against this risk with forwards?

Forward contract quotations (CAD/USD)

period	price
1 month	1.37374
3 month	1.37510
6 month	1.37765
9 month	1.38052

Answer 1

1)	Difference between between futures and forwards
a)	The forward is a over the counter derrivative wheareas futures aretraded in stock exchanges.
b)	The party to the contract in the forward contract know each other wheareas the in case of future contract the parties may not know each other since stock exchange plays an intermediary.
c)	Forwardmarket is less regulated as compared to futures market.
d)	The risk of default is higher in forward market as compared to futures market.
2)	Since the canadian firm has to pay USD 1 million ,it has the risk CAD exchange rate decreasing against USD (i.e. USD increasing against CAD).There fore it will buy forward contract with 6 months maturity(It has to make payment after 6 months. A forward contract benefits when the actual spot rate in future is higher than the rate at which forward contract is purchased.
	It shall buy 6 months forward at exchange rate CAD/USD =1.37765
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