If the futures rate is above the forward rate, actions by rational investors would put upward pressure on the forward rate and downward pressure on the futures rate.

Question

Quizplus · Accepted Answer

In order to eliminate the arbitrage opportunity, investors would buy the cheaper futures contracts and sell the more expensive forward contracts. This would increase demand for the forward contracts, driving up their price, and decrease demand for the futures contracts, driving down their price. This would ultimately result in the futures rate being lower and the forward rate being higher, until the two rates converge to eliminate the arbitrage opportunity.

If the Futures Rate Is Above the Forward Rate, Actions