Buying or selling forward means transacting for delivery and payment at a specific time in the future.
If you buy from us DEC13, it means that we contractually fix a price now at which we will deliver to you EUAs in December 2013 and you will pay us for those EUAs on delivery. We trade all futures contracts on ICE.
Why trade forward
Buying and selling forward allows you to fix the price of units now without having to pay for them now.
The advantage of purchasing forward against purchasing spot is that you do not have to use up so much cash. When buying spot you have to pay the entire value of the purchased units at the time of transacting, even though you might not need the units until the time of compliance. When buying forward, you will only need to put down a portion of the value of the purchased units as collateral at the time of contracting. The remaining funds are paid on delivery.
Selling forward might mean getting a slightly higher price, but would not have the cash benefits of spot sales.
The difference between futures and forwards
Both futures and forwards are contracts to buy or sell a specific type of asset at a specific time in the future at a given price. The main difference is that a futures contract is a standard contract that is traded on an exchange. A forward contract however is directly entered into between two counterparties, and might not be as standardised as the one on the exchange. Both futures and forwards might be physically settled at the end of their term, although futures positions are more often “closed” before maturity, with financial settlement.
Trading forward carries the risk that the counterparty might not deliver or pay at the contracted delivery date should markets move against them.
In order to manage the risk of non-performance, exchanges require that traders deposit funds into a margin account. Typically at the time of transacting forward, 10-25% of the transaction amount is deposited into the margin account. This is used to cover the increased exposure if the price of allowances changes. We might require further payments into the margin account, should the price of allowances change more than what is covered by the initial margin deposit.