Spreads: Forward contracts, future contracts and currency options charge close to interbank spreads, but do have the following built-in or explicit commissions and other special charges:
Interest differential: All hedging methods charge an interest differential on the currencies, either built into the rate offered or as a separate amount charged.
Interest risk premium: Interest risk premium is a variable amount charged by the issuing party for potential changes in interest rates.
Commissions: Forward contract and option contract suppliers build
commissions into their products based upon how much they can charge the buyer. The commission is built into the forward rate or included in the amount paid upfront for an option (it is also called the premium).
Volatility charge: Options are one-sided contracts which cost an upfront premium to purchase. Options offer the right, but not the obligation, to engage in a future transaction. An estimate of the future volatility of the foreign currency over the life of the option is built into the option pricing. While an individual option may incur a large payout, other options will expire without being exercised.
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