It is a contractual agreement between two parties to buy or sell an underlying asset at a certain future date for a particular price that is pre-decided on the date of contract.
Both the contracting parties are committed and are obliged to honour the transaction irrespective of price of the underlying asset at the time of delivery.
Since forwards are negotiated between two parties, the terms and conditions of contracts are customized.
These are Over-the-counter (OTC) contracts.
A forward contract is an agreement between two partiers – a buyer and a seller – to purchase or sell something at a later date at a price agreed upon today. A forward contract sounds a lot like an option, but an option carries the right, not the obligation, to go through with the transaction. If the price of the underlying good changes, the option holder may decide to forgo buying or selling at the fixed price.
On the other hand, the two parties in a forward contract incur the obligation to ultimately buy and sell the good (or cash settled)
Although forward markets have existed in this country for a long time, they are somewhat less familiar. Unlike options markets, they have no physical facilities for trading; there is no building or formal corporate body organized as the market. They trade strictly in an over-the-counter market consisting of direct communications among major financial institutions.
Forward markets for foreign exchange have existed for many years. With the rapid growth of derivative markets, we have seen an explosion of growth in forward markets for other instruments. It is now just as easy to enter into forward contracts for a stock index or oil as it was formerly to trade foreign currencies. Forward contracts are also extremely useful in that they facilitate the understanding of futures contracts.