FORWARDS

Meaning of Forwards (or Forward Contracts)
forward contract (or simply forward) is the simplest and oldest form of derivatives XA
forward is an agreement between two parties to buy or sell an asset at a future date at a price agreed today. So, in forward contracts, the date, the price and the quantity are decided at the time of entering into contract But the contract is implemented in future on the agreed date. Suppose a shopkeeper agrees to sell you a particular model and brand of television set after one month from now at a price of, say, Rs.1,00,000. You agree to the offer. This means
that you have entered into a forward contract with the shopkeeper. You are obliged to make payment of Rs. 1,00,000 and take delivery of the television set after one month from today. Similarly the shopkeeper is obliged to deliver the particular model and brand of television set to you and receive Rs. 1,00,000. When you agree to buy an asset in future, you actually buy a forward contract. The shopkeeper sells the forward contract. Suppose after one month the price of the television set increases to Rs. 1,10,000. But you have to pay only the agreed price (ie., Rs. 1,00,000). Suppose the price falls to Rs. 95,000. Then you have to pay the agreed price of Rs. 1,00,000. The agreed price is called forward price. If the actual spot price is higher than the forward price, the buyer is in an advantageous position because he gets the asset at a cheaper price than the prevailing market price. The seller is in a disadvantageous position because he has to deliver the asset at a price which is lower than the prevailing market price. If the spot price is lower than the forward price, the buyer would be at a disadvantage and the
seller would benefit.
(Both parties to the forward (buyer and seller) have an obligation to perform the contract. That is, the seller must deliver the asset and receive payment and buyer must make payment and take delivery of the asset. In case of default by either party, the other party has a right seek a compensation? Int the forward contracts, one party takes long position (one who agrees to buy the ant ie, the buyer) The other party takes short position (one who agrees to sell the asset, Lethe seller).
A forward is a negotiated agreement between two parties. There is no third party or middleman. The transaction occurs between buyer and seller only. Thus, it is a bilateral agreement. It is not traded on organized exchanges. It does not require an initial payment when signing the contract (except for a minor administrative fee, if the other party is a financial institution).

Thus, forward contract is an agreement made today to exchange the commodity or instrument for cash at a predetermined future date at a price agreed upon today. The transler of ownership occurs on the spot. But delivery of the commodity or instrument does not occur until some future date. It means forward is a forward delivery contract and not ready delivery contract. No money changes hands at the time the deal is signed. For example, a wheat farmer may wish to contract to sell his harvest at a future date to eliminate the risk of a change in price by that date.

Example of a Forward Contact

A wheat farmer has planted a crop that is expected to yield 80 quintals. To eliminate the risk of fall in the price of wheat, before the harvest the farmer enters into a forward contract. on 1 July 2019, with a trader to sell the 80 quintals of wheat at 1,300 per quintal after five months. The current price is 1,200 per quintal. No money changes hands now. Suppose the market price of wheat is 1,100 per quintal on 1 December 2019. On this date the farmer delivers the 80 quintals of wheat to the trader in exchange for 1,04,000 (i.e., 1,300 x 80). This price, i.e., 1,300 is fixed and does not depend upon the spot price of wheat at the time of delivery and payment (i.e., 1,100).

At the time of entering into contract, the farmer did not know what exactly the price of wheat would be after five months. Here the farmer gets a gain of 200 per quintal because the market price on 1″ December 2019 is 1,100 per quintal. If he had not entered into forward contract, he would get only 88,000 (ie., 1,100 x 80). The total gain is * 16,000 (1,04,000 88,000 or 200 x 80). Thus, by entering into forward contract the farmer could eliminate the fall in the price of wheat.