Forward Exchange Rates

Forward contracts commonly trade at premiums or discounts to the spot rate and the presence of a premium or discount provides an analyst with insights into the market’s expectation for one currency’s appreciation or depreciation against another currency.

$\text{Annualized Forward Premium} = \left(\frac{F_{X\text{-dom}/Y\text{-for}} - \text{Spot}_{X\text{-dom}/Y\text{-for}}}{\text{Spot}_{X\text{-dom}/Y\text{-for}}}\right) \cdot \frac{12}{\text{months to settle}} \cdot 100$

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Economics

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CFA Level 2: Economics - Introduction

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CFA Level 2 Economics – Recommendations

-dom

-for

FX-dom/Y-for−SpotX-dom/Y-for

)

⋅

months to settle12⋅

100

When this calculation is positive, the forward contract is trading at a premium and this implies that foreign currency Y is likely to strengthen against domestic currency X over the remaining period of the contract.