But, futures and forward contracts have different characteristics.

4 Currency futures and forward contracts both represent an obligation to buy or sell a certain amount of a specified currency some time in the future at an exchange rate determined now.Definition of Futures and Forwards

5. Futures versus Forwards 5 6. Futures Contract - ExampleSpecification of the Australian Dollar futures contract(International Money Market at CME)Size AUD 100,000Quotation USD / AUDDelivery Month March, June, September, DecemberMin. Price Move $0.0001 ($10.00)Settlement Date Third Wednesday of delivery monthStop of Trading Two business days prior to settlement date 6

The Clearing House keeps track of all transactions that take place and calculates the net position of all members. 7 Clearing House sells to B A sells to the Clearing House When A sells a futures contract to B, the Clearing House takes over and the result is: 7. Futures - The Clearing House

[f1,T - f0,T] x Contract Face Value = Cash Flow 8 The change in your futures account will be: At the end of the day, the new price is f1,T Buy a futures contract this morning at the price of f0,T Mechanics: Generates cash flows to (or from) holders of foreign currency futures from (or to) the clearing house. Futures contracts are marked to market daily.8. Futures Marking to Market

This type of swap forms the largest single financial derivative market in the world. 30 What is often termed the plain vanilla swap is an agreement between two parties to exchange fixedrate for floating-rate financial obligations. The swap itself is not a source of capital, but rather an alteration of the cash flows associated with payment.What are Swaps?

There are two main reasons for using swaps: 1. A corporate borrower has an existing debt service obligation. Based on their interest rate predictions they want to swap to another exposure (e.g. change from paying fixed to paying floating). 2. Two borrowers can work together to get a lower combined borrowing cost by utilizing their comparative borrowing advantages in two different markets. 3131. What are Swaps?

In this case, the firm would enter into a pay floating/receive fixed interest rate swap. 32 For example, a firm with fixed-rate debt that expects interest rates to fall can change fixed-rate debt to floating-rate debt.32. What are Swaps?

Today most swap banks serve as dealers or market makers. As a market maker, the swap bank stands willing to accept either side of a currency swap. 33 A broker matches counterparties but does not assume any of the risk of the swap. The swap broker receives a commission for this service. The swap bank serves as either a broker or a dealer. A swap bank is a generic term used to describe a financial institution that facilitates swaps between counterparties.33. Swap Bank

It would make more sense for the bank to issue floating-rate notes at LIBOR to finance the floating-rate Eurodollar loans. 3 Bank A is considering issuing 5-year fixed-rate Eurodollar bonds at 10 percent. Bank A is a AAA-rated international bank located in the U.K. that wishes to raise $10,000,000 to finance floating-rate Eurodollar loans. 34. Example of an Interest Rate Swap