Forward Contract
What is a forward contract?
It's a type of derivative. You agree to buy or sell something at a point in the future, but you agree now what the price will be. That way you can benefit if market prices turn out to be higher or lower than the value you agreed.
Where have you heard about forward contracts?
In contrast to futures contracts, forward contracts do end with the delivery of the actual commodity or asset that you've agreed to buy or sell. So, they might be used by large bakeries, for example, to agree the price of wheat from a farmer at a future date.
What you need to know about forward contracts...
They're used to speculate on what will happen to future prices, on everything from interest rates, to agricultural products. If a bakery agrees to buy wheat at a future date at a lower price than they would pay now, they could have got themselves a bargain. However, if prices have actually fallen even lower by the time that day arrives - they'll have paid more than they should have. They are used as a 'hedge' because the price is secure – it may be higher than the market price, but you know exactly what it will be, so you've limited your risk. Because each forward contract is different, they're not traded on exchanges but over-the-counter (OTC), so it's harder for retail investors to access them.