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CFA Level I · CFA Level I Exam · Pricing and Valuation of Forward Contracts and for an Underlying with Varying Maturities

Which statement about a forward contract on an asset with no cash flows or storage costs is most accurate?

The forward contract has zero value to both parties at initiation when set at the no-arbitrage price. The price comes from spot compounded at the risk-free rate, not expected spot, and it rises when interest rates rise.

  1. AIts forward price at initiation equals the expected future spot price
  2. BIts initial value to both counterparties is zero when priced at the no-arbitrage forward priceCorrect
  3. CIts forward price falls as the risk-free rate rises

Explanation

A forward priced at S0(1+r)^T has zero initial value, so neither party pays upfront. The forward price is based on arbitrage, not expectations, and it rises with the risk-free rate because financing costs increase.

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