DEFINITION of Forward Booking
Forward booking is a way of trading currency while minimizing the risk of volatile exchange rates. The booking company (risk agents) will write up a contract specifying what the rate of exchange will be, and in doing so will assume the exchange rate risk. The contract will also outline a timeline in which the trade must be made.
The fee associated with the forward book is usually based on a percentage of the amount being traded in the contract.
BREAKING DOWN Forward Booking
Forward booking is primarily used by companies who do not wish to speculate in currencies when making a significant purchase of an offshore asset. By agreeing on a rate the company can easily forecast its expenses and the cost of the asset in local terms to report to stakeholders.
For example, if Mr. A plans to purchase a big ticket item from Europe in January, and the euro is quite low in December, he may want to forward book in case the euro rises in the next month. The booking company, after making the contract, assuming they do not currency hedge on their end, would hope the euro would fall. However, if it doesn't, they would still have the fee paid for the transaction.
However, there are someone companies who will forward book with a view that it is a favorable time to buy or sell the currency at hand. This is more common in the financial services when a company is buying equites, bonds or commodities, denominated in a foreign currency.
Those looking to forward book an exchange rate for the purchase of an asset could also hedge by purchasing an option. Using the example above, Mr. A could buy a call option for a set amount of euros. If the euro is higher at the time of expiring then Mr. A would exercise the option, and if it was lower Mr. A would not exercise the option and take advantage of the prevailing forex rate. (For more information on options trading see out Options Tutorial)