Market StructureFX ForwardOutright Forward
Forward Contract
An agreement to exchange currencies at a fixed rate on a future date beyond the standard spot settlement window.
What Forward Contract means
An FX forward locks in an exchange rate today for settlement on a specified future date later than spot. It is an over-the-counter, bilateral contract, so size and date are negotiated rather than standardised. The forward rate is not a forecast: it equals the spot rate adjusted by forward points that reflect the interest rate differential between the two currencies, an arbitrage relationship known as covered interest parity.
Corporates use forwards to hedge known future currency flows, such as an invoice due in three months, removing exchange rate uncertainty at the cost of giving up favourable moves. Retail traders rarely deal outright forwards, but they meet the same mechanics daily, because the overnight swap on a leveraged spot position is priced from the same tom-next forward points. A currency with a higher interest rate trades at a forward discount against a lower-yielding one.
Worked example
With spot EUR/USD at 1.0850, US rates at 4.50 percent and euro rates at 3.00 percent, a three-month forward prices at roughly 1.0890, about 40 points above spot.
Related terms
- Spot MarketThe market for immediate delivery of currency, with spot FX trades conventionally settling two business days after the trade date.
- Currency FuturesStandardised, exchange-traded contracts to exchange currency at a set price on a fixed future settlement date.
- Interest Rate ParityThe no-arbitrage relationship linking spot and forward exchange rates to the interest rate differential between two currencies.
- SwapThe interest credited or debited for holding a forex position overnight, based on the two currencies' rate differential.
- Carry TradeA strategy of holding a higher-yielding currency against a lower-yielding one to earn the interest differential.
Frequently asked questions
What does Forward Contract mean in forex trading?
An agreement to exchange currencies at a fixed rate on a future date beyond the standard spot settlement window.
How does Forward Contract work in practice?
Corporates use forwards to hedge known future currency flows, such as an invoice due in three months, removing exchange rate uncertainty at the cost of giving up favourable moves. Retail traders rarely deal outright forwards, but they meet the same mechanics daily, because the overnight swap on a leveraged spot position is priced from the same tom-next forward points. A currency with a higher interest rate trades at a forward discount against a lower-yielding one.
What is an example of Forward Contract?
With spot EUR/USD at 1.0850, US rates at 4.50 percent and euro rates at 3.00 percent, a three-month forward prices at roughly 1.0890, about 40 points above spot.
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