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Which of the following is false ________

Which of the following is false ________

Looking for the answer to the question below related to Ratio Analysis ?

Which of the following is false ________

 Options:

A. Futures contracts trade on a financial exchange
B. Futures contracts are more liquid than forward contracts
C. Futures contracts are marked to market
D. Futures contracts allow fewer delivery options than forward contracts

The Correct Answer Is:

  • B. Futures contracts are more liquid than forward contracts

The correct answer is B. Futures contracts are more liquid than forward contracts. Here’s a detailed explanation of why this statement is false and why the other options are correct:

B. Futures contracts are more liquid than forward contracts:

This statement is false because futures contracts and forward contracts exhibit different characteristics regarding liquidity. In fact, futures contracts are generally more liquid than forward contracts. Liquidity refers to the ease with which an asset or contract can be bought or sold in the market. Here’s why this statement is incorrect:

1. Standardization:

Futures contracts are standardized with respect to contract size, expiration dates, and other terms. This standardization makes it easier for market participants to buy and sell futures contracts because they know they are trading a well-defined instrument.

In contrast, forward contracts are customized agreements between two parties, and their terms can vary widely. The lack of standardization in forward contracts can make them less liquid as they may not readily find a counterparty willing to accept the exact terms.

2. Exchange Trading:

Futures contracts are typically traded on organized financial exchanges, such as the Chicago Mercantile Exchange (CME) or the Intercontinental Exchange (ICE). Exchange-traded contracts benefit from the centralization of trading, which provides transparency, immediate execution, and access to a wide pool of participants.

Forward contracts, on the other hand, are not exchange-traded and are typically executed directly between two parties. This decentralized nature can limit their liquidity because participants may have a harder time finding a willing counterparty.

3. Secondary Market:

Futures contracts have well-established secondary markets, where participants can buy and sell existing contracts before their expiration. This allows traders to exit positions or adjust their exposure easily. Forward contracts generally lack secondary markets, making them less liquid as they are intended to be held until their maturity.

Now, let’s discuss why the other options are correct:

A. Futures contracts trade on a financial exchange:

This statement is correct. Futures contracts trade on organized financial exchanges. These exchanges facilitate standardized contracts, central clearing, and a transparent trading environment. Participants can access these markets to trade futures contracts with relative ease and efficiency.

C. Futures contracts are marked to market:

This statement is correct. Marking to market is a critical feature of futures contracts. It involves the daily valuation and adjustment of the contract’s value based on the current market price. This process helps manage risk, ensures that gains and losses are settled daily, and reduces the risk of default. Marking to market is a fundamental aspect of futures trading.

D. Futures contracts allow fewer delivery options than forward contracts:

This statement is correct. Futures contracts typically offer fewer delivery options than forward contracts. In a futures contract, the delivery process is standardized, and there are specific delivery dates and locations defined by the exchange.

In contrast, forward contracts allow for more flexibility in choosing delivery terms, making them more customizable to the specific needs of the parties involved. This flexibility in forward contracts can lead to a wider range of delivery options.

In summary, the statement that futures contracts are more liquid than forward contracts is false. Futures contracts are generally more liquid due to their standardized nature, exchange trading, and the existence of secondary markets. The other statements are accurate: futures contracts trade on financial exchanges, are marked to market, and allow fewer delivery options than forward contracts.

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