# Derivatives- Forward

Suppose that the price of the forward contract for the Treasury bond was negotiated off-market and the initial value of the contract was positive as a result. Which party makes a payment and when is the payment made? A) The long pays the short at the maturity of the contract. B) The long pays the short at the initiation of the contract. C) The short pays the long at the initiation of the contract. D) The short pays the long at the maturity of the contract.

B? Isn’t the price of a forward contract what will make the value = \$0? so if it is positive the Long has positive value and if the price is negative the long has negative value?

C? I guess Long has some value at contract initiation (due to negitiation) hence short will pay (net) amount to the Long at contract initiation? EDIT: On 2nd thought I think, it should be D. Well the short won’t pay the Long upfront

the price doesn’t have to be 0 if it’s an off-market contract.

D

highparkcfa Wrote: ------------------------------------------------------- > the price doesn’t have to be 0 if it’s an > off-market contract. it doesnt have to be zero. In off-market, price depends whether it is positive or negative. I am confused with off-market thingy. I thought that for forward contract initial price is always zero. I mean no party pays anything until the expiration of the contract.

I am assuming they mean the value is positive to the long. To make the contract at zero, long pays short that amount?

Answer is B. Nice Job shooter and Nibi. The value of a forward contract is positive at initiation then the long pays the short the value of the contract at the time it is entered into. If the value of the contract is negative initially then the short pays the long the absolute value of the contract at the time the contract is entered into. Due to the no-arbitrage principle, the price of a forward contract is calculated to make the value of the contract zero at contract initiation. Neither the long nor the short typically makes any payment to enter into the forward agreement. A special case is an off-market forward where, for whatever reason, the contract price is not set equal to the no-arbitrage price, and the long or short position makes a payment to the opposite counterparty to offset the difference.

The “whatever reason” part is that I’m selling you a forward contract to offset a forward contract I have with someone else.

cfaboston28 Wrote: ------------------------------------------------------- > Answer is B. Nice Job shooter and Nibi. > > The value of a forward contract is positive at > initiation then the long pays the short the value > of the contract at the time it is entered into. If > the value of the contract is negative initially > then the short pays the long the absolute value of > the contract at the time the contract is entered > into. > > Due to the no-arbitrage principle, the price of a > forward contract is calculated to make the value > of the contract zero at contract initiation. > Neither the long nor the short typically makes any > payment to enter into the forward agreement. A > special case is an off-market forward where, for > whatever reason, the contract price is not set > equal to the no-arbitrage price, and the long or > short position makes a payment to the opposite > counterparty to offset the difference. NICE QUESTION Mate!!

cfaboston28 Wrote: ------------------------------------------------------- > Answer is B. Nice Job shooter and Nibi. > > The value of a forward contract is positive at > initiation then the long pays the short the value > of the contract at the time it is entered into. If > the value of the contract is negative initially > then the short pays the long the absolute value of > the contract at the time the contract is entered > into. > > Due to the no-arbitrage principle, the price of a > forward contract is calculated to make the value > of the contract zero at contract initiation. > Neither the long nor the short typically makes any > payment to enter into the forward agreement. A > special case is an off-market forward where, for > whatever reason, the contract price is not set > equal to the no-arbitrage price, and the long or > short position makes a payment to the opposite > counterparty to offset the difference. Now i’m confused. I thought if the value is positive, then the long has positive value. Doesn’t that mean the short makes a payment to the long, not the other way around?

right, the long has positive value so long has to pay short to make both parties even.

CFA_guy_shooter Wrote: ------------------------------------------------------- > cfaboston28 Wrote: > -------------------------------------------------- > ----- > > Answer is B. Nice Job shooter and Nibi. > > > > The value of a forward contract is positive at > > initiation then the long pays the short the > value > > of the contract at the time it is entered into. > If > > the value of the contract is negative initially > > then the short pays the long the absolute value > of > > the contract at the time the contract is > entered > > into. > > > > Due to the no-arbitrage principle, the price of > a > > forward contract is calculated to make the > value > > of the contract zero at contract initiation. > > Neither the long nor the short typically makes > any > > payment to enter into the forward agreement. A > > special case is an off-market forward where, > for > > whatever reason, the contract price is not set > > equal to the no-arbitrage price, and the long > or > > short position makes a payment to the opposite > > counterparty to offset the difference. > > > Now i’m confused. I thought if the value is > positive, then the long has positive value. > Doesn’t that mean the short makes a payment to the > long, not the other way around? This is what I thought but not in case of off market forward.