Forms of Contracts
Institution of Affiliation
A spot transaction is a trade involves transactions involves transactions which are carried at prevailing market price and duration of time. Further spot transaction involves immediate delivery of foreign exchange and payments are made on spot. On the other hand, transactions which are made for future delivery at pre- determined date are referred to as forward transaction. Contracts are usually entered at agreed current date, but transaction will take place in future date. Primary advantage to spot and forward transaction helps traders involved to effectively manage risk associated with carrying out trade. Business activities are usually associated with risks therefore; business parties must be able to mitigate them to achieve marginal profits (Durbin, 2006).
An agreement between the buyer and seller to sell commodity in future at given price is referred to as forward contracts. The price of the commodity must be fixed at that time when the contract is signed. Parties involved are obliged to exchange commodities at that particular price in future date without altering any term of agreement. The price of the commodity is referred to as delivery price. Naturally the contracts are not standardized implying that the quantity and quality of the asset can be negotiated on contract basis. Further, the party agreeing to buy the asset usually takes long position while the seller taking short period. Prices of products and commodity are usually predetermined by the forces of market.
Future foreign contracts are usually standardized in nature which allows private agreement between two parties to trade in future date. Parties involved in contract signing may consider defaulting and their values are determined by day to day changing of value of commodity until the contract comes to an end. In this regard contracts can be settled over range period of time and dates. Hedgers may consider forward contracts to eliminate violation of asset price. Mechanisms for price changes are well outlined and understood by all key players mitigating price exploitation on goods and services (Wang, 2009).
Derivatives are widely accepted by business individuals and organizations as they can be able to make complex financial transactions. Traders are further able to understand changing trends in market regarding to contract signing thus helping financial institution to make sound financial analysis in order to consider investment directions. The approach has helped investors to determine local prices of commodities in relation to international currencies therefore, making sound investment choices. Moreover, forward contracts are used to offer different perspective to consumers in the market where they are able to predict future changes of prices of crucial commodities. Organizations using forward contracts are competitive in nature thus easily edging out their competitors. The results are high profit margins and sustainable in prevailing market conditions (Tarinyeba, 2014).
Durbin, M. (2006). All about derivatives: The easy way to get started. New York: McGraw-Hill.
Tarinyeba, W. M. (2014). The design of micro credit contracts and micro enterprise access to finance in Uganda. Place of publication not identified: Publisher not identified.
Wang, P. (2009). The economics of foreign exchange and global finance. Berlin: Springer.