Financial Accounting and Reporting-CPA Practice Exam

What is a characteristics of a futures contract?

1. Privately negotiated with no standardized amounts

2. Obligation to exchange at a specified price on a future date

3. Requires an initial investment

4. Advisable for hedging against fixed assets

The correct answer is: Obligation to exchange at a specified price on a future date

A futures contract is defined by its obligation to exchange a specified asset at a predetermined price on a future date. This characteristic is fundamental to futures contracts, distinguishing them from options, which provide the right but not the obligation to make a transaction. Futures contracts are standardized agreements traded on exchanges, which means they have specific contract sizes and settlement dates. This standardization allows for the easier transfer and trade of contracts between parties. The obligation involved in futures contracts means that both the buyer and seller are required to complete the transaction at the agreed price, irrespective of the market conditions at the time of contract expiration. The other options do not accurately capture the essential nature of futures contracts. For example, while futures contracts do involve an initial margin requirement, this is not the same as an initial investment as might be implied. The mention of hedging against fixed assets is also misleading; while futures can be used for hedging purposes, they are not specifically designed for hedging fixed assets alone. The completely negotiable nature of the contract highlighted in another option contradicts the standardization feature that is inherent in futures trading.