Basics of futures and forward contracts discussed from a risk management perspective

Publisher's version available at http://jupapadoc.startlogic.com/compresearch/papers/JCR11-8.pdf,Risk is a characteristic feature of all commodity and capital markets. The last few decades have witnessed a many-fold increase in the volume of international trade and business due to the ever growing wave of globalization and liberalization sweeping across the world like a conflagration. Inter-alia , these strong waves of globalisation and technological advancement have given rise to some phenomenal growth in both the number of products traded and the sizes of financial markets in which those products are bought and sold. Amongst the new financial products introduced in more modern financial markets are derivatives in general and futures and forward contracts in particular. Among other uses, financial derivatives are used for managing various forms of risks, especially financial risks. Increased financial risk causes losses to an otherwise profitable organization. This underlines the importance of risk management to hedge against uncertainty. Derivatives provide an effective solution to the problem of risk caused by uncertainty and volatility in underlying assets. This article analyses two types of derivatives which are futures and forward contracts and how they mitigate against various risks. The advantages and disadvantages of both types of derivatives are also mentioned together with the differences between them