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The forward curve is a
function graph In mathematics, the graph of a Function (mathematics), function f is the set of ordered pairs (x, y), where f(x) = y. In the common case where x and f(x) are real numbers, these pairs are Cartesian coordinates of points in two-dimensional space ...

function graph
in
finance Finance is a term for the management, creation, and study of money In a 1786 James Gillray caricature, the plentiful money bags handed to King George III are contrasted with the beggar whose legs and arms were amputated, in the left corn ...

finance
that defines the prices at which a contract for future delivery or payment can be concluded today. For example, a futures contract forward curve is prices being plotted as a function of the amount of time between now and the expiry date of the futures contract (with the
spot price In finance Finance is a term for the management, creation, and study of money In a 1786 James Gillray caricature, the plentiful money bags handed to King George III are contrasted with the beggar whose legs and arms were amputated, ...
being the price at time zero). The forward curve represents a term structure of prices.


Forward interest rate

A forward interest rate is a type of
interest rate An interest rate is the amount of interest In and , interest is payment from a or deposit-taking financial institution to a or depositor of an amount above repayment of the (that is, the amount borrowed), at a particular rate. It is disti ...
that is specified for a loan that will occur at a specified future date. As with current interest rates, forward interest rates include a term structure which shows the different forward rates offered to loans of different maturities. According to the unbiased expectations hypothesis, forward interest rates predict spot interest rates at the time the loan is actually made, but many analysts dispute whether this is true, as it ignores durational risk. This figure is part of the lending & credit industry and is related as well to the " expectations theory" which states that forward interest rates can be used as forecasts for future interest rates. Investors expecting higher short-term interest rates are more likely to buy
bond Bond or bonds may refer to: Common meanings * Bond (finance) In finance Finance is the study of financial institutions, financial markets and how they operate within the financial system. It is concerned with the creation and management ...
s maturing in the short term. If they were to park money into a long term debt they might not be able to make as much interest. Finance analysts can refer to a graph of forward interest rate values over different time periods, the forward curve, to evaluate the
time value of money The time value of money is the widely accepted conjecture that there is greater benefit to receiving a sum of money Money is any item or verifiable record that is generally accepted as payment for goods and services and repayment of debts, ...
.


Price forward curve

A Price forward curve (short ''PFC'') reflects specialties of the
commodity market A commodity market is a market Market may refer to: *Market (economics) *Market economy *Marketplace, a physical marketplace or public market Geography *Märket, an island shared by Finland and Sweden Art, entertainment, and media Films ...
such as: * Transporting commodities is costly and time-consuming. * It is costly to store commodities -
power Power most often refers to: * Power (physics) In physics, power is the amount of energy In , energy is the that must be to a or to perform on the body, or to it. Energy is a ; the law of states that energy can be in form, bu ...

power
storage is often prohibitively expensive. * Many commodities show a strong
seasonality In time series In mathematics Mathematics (from Greek: ) includes the study of such topics as numbers ( and ), formulas and related structures (), shapes and spaces in which they are contained (), and quantities and their changes ( and ). ...

seasonality
, e.g. there is more
natural gas Natural gas (also called fossil gas; sometimes just gas) is a naturally occurring hydrocarbon gas mixture consisting of methane and commonly including varying amounts of other higher alkanes, and sometimes a small percentage of carbon dioxid ...

natural gas
demanded (for heating) in winter than in summer. In order to fairly value and manage the profitability of energy products it is thus necessary to capture these seasonal price dynamics in a forward curve term-structure. The contract duration of a
futures contract In finance Finance is the study of financial institutions, financial markets and how they operate within the financial system. It is concerned with the creation and management of money and investments. Savers and investors have money availabl ...
is limited by definition and
investor An investor is a person that allocates capital with the expectation of a future financial return (profit) or to gain an advantage (interest). Through this allocated capital most of the time the investor purchases some species of property. Type ...
s have to change their contract during the contract term. Price forward curves help to determine when to do that, two scenarios are possible: # If the PFC is ascending, i.e. future commodity-contracts will be more expensive than at the moment, this is called
contango Contango is a situation where the futures price In finance, a futures contract (sometimes called futures) is a standardized legal agreement to buy or sell something at a predetermined price at a specified time in the future, between parties not k ...

contango
. The investor will have additional costs as they have to sell their futures to a lower price than what they have to invest for their new futures. # If the PFC is descending, it is a so-called
backwardation Normal backwardation, also sometimes called backwardation, is the market condition where the price of a commodity's forward Forward is a relative direction, the opposite of backward. Forward may also refer to: People *Forward (surname) Sport ...
and investors will make money by exchanging (''rolling'') their old
futures contract In finance Finance is the study of financial institutions, financial markets and how they operate within the financial system. It is concerned with the creation and management of money and investments. Savers and investors have money availabl ...
s to new ones.


Hourly price forward curve

An hourly price forward curve (HPFC) is the construction of a forward curve at a resolution exceeding that known to the market and is as such able to capture the seasonalities of the electricity spot prices. The construction of an HPFC can be based on the combination of two approaches. A statistical approach examines how spot prices have moved in the past. A fundamental model suggests that the price is set purely by supply and demand (respectively, fuel prices on the merit order curve, and load).


References


Further reading

*Floyd, Jhon. E. (ed.): ''Interest Rates, Exchange Rates and World Monetary Policy'', Springer; 1 edition (December 17, 2009). {{ISBN, 978-3-642-10279-0. *
Forward interest rate
' at the free dictionary *
Unbiased Expectations Hypothesis
' at the free dictionary Electricity economics Interest rates Heath–Jarrow–Morton framework