Chartered Alternative Investment Analyst Association (CAIA) Practice Exam

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What do investors in forward contracts benefit from compared to those in futures contracts?

Clearinghouse as a counterparty to all transactions.
Customization of terms to meet the needs of both counterparties.
Daily liquidity offered due to exchange trading.
Mark-to-market process.

The correct answer is: Customization of terms to meet the needs of both counterparties.

Investors in forward contracts benefit from the customization of terms to meet the needs of both counterparties. This flexibility allows parties involved in a forward contract to tailor the agreement according to their specific requirements, including the quantity, delivery date, and price. This is particularly advantageous for clients who have particular needs that cannot be easily addressed by standardized contracts. In contrast, futures contracts are standardized agreements traded on exchanges, where the terms of the contract are pre-defined and fixed. While this standardization provides advantages in terms of liquidity and daily marking to market, it does not offer the versatility that forward contracts provide in customizing terms. As a result, forward contracts are better suited for investors looking for tailored solutions to their hedging or speculative needs.