Need Explaination for the following statement under forward price evolution - scheweser los 42c
When spot rates turn out to be lower (higher) than implied forward curve, the forward price will increase (decrease)"
what forward price is being referred to here?
the forward rate curve is going to be predefined and used for valuation of fixed income instruments… if the spot rate in the future is lower than the forward rate given CURRENTLY, your security will be discounted at a higher (current forward) rate than it should have which means your security will be undervalued when you buy it in a forward contract.
with that being said if you have superior knowledge on the term structure you will enter into a forward contract (to buy your undervalued security in the future at a lower price), come expiration you will receive that security (at a lower price) when it is trading at a higher price (because the spot rate at expiration is lower than the financial market anticpated)… this will give a cash profit form the difference = spot price you can sell for at expiration - forward price you will pay which was locked in previously