A forward contract is a written agreement between two parties to make an exchange at a predetermined price on a specified date. When transferring money abroad, you can enter into a forward contract to carry out your transaction in the future, at the current exchange rate. At the expiry date of the contract, the transfer must be carried out. Both sides of the deal have a legal obligation to fulfil the contract.
Forward contracts are useful when you know you have a payment to make abroad at a known time in the future – particularly a large one. For example, you might be buying a property overseas, or even purchasing something smaller such as a boat. Forward contracts are also commonly used by businesses.
Ellen's Holiday Home
Having vacationed there many times, Ellen decides to purchase a holiday home in the south of France. She finds one that suits her perfectly, costing €500,000. Her usual international money transfer provider offers to complete this payment for £424,000. Concerned that the instability of the pound will cause this price to increase in the coming months, Ellen agrees on a forward contract with the supplier, to pay the quoted amount when she needs to.
Six months later, the same provider offers a €500,000 transfer for £438,000, meaning Ellen’s forward contract saved her £14,000.
What costs are involved in a forward contract?
Usually, a forward contract will cost no more than a same-day transfer. Generally you’ll pay a fraction of the transfer amount as a deposit the day you make the contract.
The pros and cons of forward contracts
Security. With a forward contract, you can eliminate all the uncertainty that comes with making a future overseas payment.
No additional fee. Usually, the price of a forward contract will be the same as a normal (spot) transfer.
Potential to save. If the value of your target currency increases, a forward contract could save you a significant amount of money.
Obligation. Once you’ve entered into a forward contract, you must fulfil it at its expiry.
Potential to lose. If your target currency becomes cheaper after you make the forward contract, you’ll have no choice but to pay the higher amount.
How to get a forward contract
Most international money transfer providers offer forward contracts. When planning your transfer, it’s important to first compare different providers and decide which best suits your needs. You can compare today’s exchange rates for some foreign exchange specialists using the table below.
Once you have decided on a company, visit their website and enquire about forward contracts there. The exact procedure from that point will depend on the provider.
Compare exchange rates
Table: sorted by a combination of service offering and the amount your recipient will receive
Use this table to compare today’s exchange rates for your transfer among different providers. With a forward contract, you can complete your transfer at the exchange rates quoted below on the date you need to.
Disclaimer: Exchange rates change often. Confirm the total cost with the provider before transferring money.
Explore other risk management options
Forward contracts are one of many forms of hedging. Other options that allow you to lock in exchange rates include:
Limit orders. Set a target exchange rate at which to carry out your transfer.
Stop-loss orders. Define a minimum exchange rate, and your transfer will happen before it falls below this.
Some providers also offer options contracts. These are very similar to forward contracts, only at their maturity you aren’t obligated to go through with the transaction. Entering into one of these will cost you an additional fee. Contact your provider to see if this hedging solution is available to you.
What is hedging?
The investment community uses “hedging” to describe protecting or lowering your risk of loss on a trade. There are a few tools you can use to hedge your risk in the foreign exchange and currency transfer market.
Frequently asked questions
A forward contract is legally binding and cannot be cancelled. Instead you must find someone willing to enter into the exact opposite forward contract, to essentially cancel the first one out.
Futures contracts have the same function as a forward contract, but are standardised and dealt on an exchange (such as the London Stock Exchange). Forward contracts, on the other hand, are customisable and privately traded.
Forward contracts are legally binding for both parties. If you enter into one, the provider will be obligated to fulfil their end.
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