Question:
Which of the following is a key risk associated with forward contracts?
Which of the following is a key risk associated with forward contracts?
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Because forward contracts are private OTC agreements, they carry significant counterparty risk. If one party defaults, the other has no clearing house to protect them.
Updated On: Jun 22, 2026
- Market risk
- Regulatory risk
- Counterparty risk
- Currency risk
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The Correct Option is C
Solution and Explanation
Step 1: Defining Forward Contracts:
A forward contract is a bilateral, customized agreement between two parties to buy or sell an asset at a set price on a future date. These contracts are traded over-the-counter (OTC).
Step 2: Comparing Forwards with Futures:
Unlike exchange-traded futures contracts, forward contracts are negotiated directly between parties and do not use a clearing house to guarantee performance.
Step 3: Identifying the Primary Risk:
Because forward contracts lack a clearing house guarantee, they carry significant Counterparty risk (C)—the risk that one party may default on their obligation at the settlement date.
A forward contract is a bilateral, customized agreement between two parties to buy or sell an asset at a set price on a future date. These contracts are traded over-the-counter (OTC).
Step 2: Comparing Forwards with Futures:
Unlike exchange-traded futures contracts, forward contracts are negotiated directly between parties and do not use a clearing house to guarantee performance.
Step 3: Identifying the Primary Risk:
Because forward contracts lack a clearing house guarantee, they carry significant Counterparty risk (C)—the risk that one party may default on their obligation at the settlement date.
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