Forward commitments vs contingent claims

What separates a forward commitment from a contingent claim?

The test is who decides at settlement. In a forward commitment (forward, futures or swap) both sides must perform. In a contingent claim , usually an option, the buyer chooses whether the trade happens, and the seller must go along.

That difference shapes everything else. Forward commitments are linear derivatives : the payoff moves one-for-one with the underlying, in both directions, and nothing is paid upfront. Contingent claims are non-linear derivatives : the payoff bends at the exercise price, and the buyer pays a premium for the right to choose.

Derivativesby who decides at settlement

• Forward commitments Memorize both sides must perform; linear; no premium
  • Forwards, futures, swaps Memorize
• Contingent claims Memorize buyer chooses; non-linear; premium paid
  • Options (calls and puts) Memorize
  • Credit default swaps Use it payment depends on a credit event

	Forward commitment	Contingent claim
Obligation	both sides must settle	buyer chooses; seller must perform
Upfront payment	none (value zero at inception)	premium paid by the buyer
Payoff shape	linear, symmetric	non-linear, asymmetric
Examples	forwards, futures, swaps	calls, puts, credit default swaps, CDS (contingent payment)

How does a long call compare with a long forward?

Both gain when the underlying rises, so people use them to create a similar exposure. Set the call’s exercise price equal to the forward price, X = F₀(T). The forward’s profit is S_T − F₀(T), because no cash is exchanged at the start. The call’s profit is the same gain, cut off at zero, less the premium.

$$\Pi_{call} = \max[0,\, S_T - F_0(T)] - c_0$$

Setting the two profits equal shows where they cross.

$$S_T^{*} = F_0(T) - c_0$$

• Above the crossover the forward profit is higher. The forward has no premium to repay.
• At the crossover the profits are equal.
• Below it the call profit is higher. The call loses only the premium; the forward keeps losing.

That makes a long call like a long position in the underlying with downside protection , bought for the premium.

How does a short put compare with a long forward?

A short put also gains when the underlying rises. The put seller keeps the premium if the price ends above X, but gives up all gains above that. So its profit is capped at the premium, while the forward’s is not.

The comparison works the same way. With X = F₀(T), the forward earns more than the short put when S_T − F₀(T) is greater than p₀, and the short put earns more below that.

$$S_T^{**} = F_0(T) + p_0$$

Exam tip A short put and a long call both gain when the price rises, but they are not the same: the long call has unlimited gain and pays a premium; the short put gains at most the premium and receives one.

Which positions gain when the underlying falls?

Sort the six positions by direction. Do this whenever a question asks which position benefits from a fall (or from opposite moves).

Direction of exposuresame list, six positions

• Gain when the underlying rises Memorize
  • Long forward Memorize
  • Long call Memorize
  • Short put Memorize gain capped at the premium
• Gain when the underlying falls Memorize
  • Short forward Memorize
  • Long put Memorize
  • Short call Memorize gain capped at the premium

Go deeper A long call plus a short put behaves like a forward

Buy a call and sell a put with the same exercise price and expiration. The call gains when the price is above X; the put seller loses when it is below X. Together the payoff is a straight line, S_T − X, minus the net premium. That is a long forward in disguise. The put-call parity module builds on this.

Go deeper Why linear derivatives are easier to price

A forward’s payoff is a straight line, so it can be replicated by buying the underlying and borrowing. An option’s bent payoff needs the underlying’s volatility as well, which is why option pricing is a separate and harder topic. The forward pricing module comes first.