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Forward transactions are financial arrangements that involve the purchase a product at a fixed price, with the terms of the sale identifying a specific date in the future that the product will be delivered to the buyer. This type of arrangement may be used in the process of trading investments such as stocks, or as part of a currency trading strategy. In most cases, the forward transaction date will be at least two full calendar days before the actual delivery date.
As part of a forward transaction agreement, a contract is drafted and used to define the specifics of the arrangement between the buyer and the seller. While the provisions of the contract will vary somewhat, depending on any laws or regulations that apply to the jurisdiction in which the transaction is taking place, most will include a detailed description of the product that is being sold, the fixed price involved in the sale, the terms for delivering payment, and the sale date. In addition, the terms of the agreement will also identify the specific date that the product is to be delivered to the buyer. Additional details such as the mode of delivery may also be addressed in the contract, along with specifications of who is responsible for any delivery costs and other fees related to the forward transaction.
When used as an investment strategy, the forward transaction can be helpful in securing assets that are anticipated to increase in value within a specified period of time. The investor purchases the asset or security, locking in a price based on current market value and agrees to the delivery of that security at some point in the future. Assuming that the security does in fact appreciate in value in the interim, the investor ultimately receives an asset that worth more than the purchase price. As a result, a return on the investment is generated and the investor has the option of holding the security as it continues to appreciate, or selling it to realize the profit soon after delivery.
As with any type of investment approach, there is some degree of risk associated with a forward transaction. If the value of the security does not increase as projected by the investor, it is still delivered on the date specified in the contract. This means that if the value of the security remains more or less stagnant from the purchase date to the delivery date, the investor has little to nothing to show for the effort. Should the security actually decrease in value in the interim, the investor must decide to either hold the asset in anticipation of a recovery, or sell it immediately and cut his or her losses.
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