Definition
The term differential refers to the allowed flexibility to change the quality of the underlying asset in a futures contract. Differential allows the seller in a futures contract to deliver the underlying asset which adheres to a predetermined range of quality specifications.
Explanation
To ensure uniformity and instill confidence in the value of the underlying asset in a futures contract, the agreement will outline the delivery obligations of the seller. This includes the delivery location as well as the quality of the underlying asset. While not permitted in every futures contract, differentials allow the seller some latitude with respect to delivery. The most common differentials include the quality, or grade, of the underlying asset and delivery location.
Since a futures contract will specify the quality and quantity of a commodity, the price will represent a range of qualities if differentials are specified. The premium or discount in the value of the commodity based on its delivered quality and delivery location is represented by the commodity's differential.
Related Terms
The term devaluation refers to the reduction in the value of a currency relative to the currency of another country. Devaluation typically occurs through an official announcement and the process is a tool governments can use to control monetary policy.
Moneyzine EditorNovember 6th, 2024
The term deliverable grade refers to the minimum quality of a commodity delivered under a futures contract. The specifications for deliverable grades are critical to the pricing of a contract.Moneyzine EditorNovember 6th, 2024
The term default refers to the failure to meet an obligation on a loan or futures contract. Default occurs when a debtor fails to repay the interest and / or principal owed a lender.Moneyzine EditorNovember 6th, 2024
The term daily trading limit refers to the maximum range a derivative contract is permitted to trade in any one daily session. Daily trading limits are established by the exchange to protect against market manipulation.Moneyzine EditorNovember 6th, 2024
The term currency risk refers to the relative change in the valuation of two currencies and the impact it has on return on investment. Both investors as well as businesses that own assets in countries with different currencies are exposed to currency risk.Moneyzine EditorNovember 6th, 2024
The term credit derivative refers to an agreement that moves credit risk from one party to the other. Credit derivatives were originally used by participants in the banking industry to diversify the credit risk of customers in their lending portfolio.Moneyzine EditorNovember 6th, 2024
The term closing range refers to the high and low price at which trades occurred at the close of the exchange. The closing range would include both bid and offer prices.Moneyzine EditorNovember 6th, 2024
