My question may sound dumb cause Im relatively new to economics and have it as a side quest subject, and I’m really struggling to understand what’s the benefit and logic for the buyer to establish a cash settlement? All the articles Ive been digging through say “no fuss”, “cost and time effective”, “trustworthy trading experience” but why would i pay for something and then not even have it in the first place? For my primordial mind it makes more sense not settling for a deal like that at all but I feel Im missing something and I cant see other benefits for the acquirer so any further enlightenments are very appreciated
I think I need a little more context as to exactly what you are talking about.
I have two contexts
Cash offers in housing
In housing this may mean the preference a seller has for a buy who does not need a loan. If the buyer has the cash available the completion of the contract is much more likely than if there is a bank involved. This reduces the sellers potential holding costs and thus they may take an offer from cash buyer even if it is lower than the competitive bid that requires a loan.
Cash settlement of commodities contract
The advantage here is the liquidity. More people will participate in the contract market if they don't actually have to handle the commodity. The buyer is not made any worse off by accepting cash instead of delivery, because the cash can then immediately be used to buy the product at the market price anyways, that's what the price means.
Here's what happens when we force actual delivery
https://rbnenergy.com/daily-posts/blog/baffling-impact-oil-futures-physical-contract-prices-cma-roll-adjust-and-p-plus
If these two aren't what you mean, please leave this question up but also resubmit a new question with more detail about what specifically you are referencing.
thank you, now it makes sense to me! The second example is analogical to my context and the article helped me to sort it out!!!
You don't specify what you are talking about here, but I think you are talking about options and futures right?
It sounds like you need to find resources to study what options and futures are before you start getting into the weeds with types of settlements.
"why would i pay for something and then not even have it in the first place?"
with options and futures what you are paying for is the RIGHT to purchase (or sell) an assets at a specified price at a specified time or time range. So say you are a baker and you are planning your next year in the fall, you will need a bunch of flour to make wedding cakes in the summer, but its fall right now. Say you already have your summer booked up, orders are placed and you have already fixed your prices that you are charging. Now, you look at sugar and flour prices today and you can predict roughly how much you will make, but the thing is you don't know what flour and sugar prices will be in the summer, they could double (or drop by half). So you could buy all the flour and sugar you need right now and lock in the price, however then you have to store the flour and sugar, you run the risk of spoilage or contamination, and you probably don't want to tie all that money up for months at a time.
What you can do instead is purchase the right to buy flour and sugar in the summer for a price you can fix today. You pay a fee to fix this price, but once you fix it in, then the value is not in the actual sugar or flour is in how valueable the right to purchase that flour at $x is. So say you buy options to buy all the flour you need when flour is $1 a pound and you buy the right to 1000 lbs, and you pay a .10 premium per pound. So for 1,000 pounds of flour your cost is $1,100. Now, lets assume that flour goes up to $2 by the summer. When your option comes due, you can either take delivery of your $2,000 worth of flour that you paid $1,100 for, or you can take a cash settlement of $2,000 that you paid $1,100 for and go out and buy your own flour. In this case you probably don't actually need a semitruck load delivery of raw flour, you just needed to make sure your expenses didn't grow so much they ate away at your profit between planning and execution.
omg thank you so much for such a detailed response! Im studying from the course slides and settlement cash popped up earlier than forward and futures contracts, that’s why I had difficulty even to form a proper question here and on top of that im not an economics student. The example you gave was really really helpful, thank you again!!!
To be honest, this is more a finance question but you do need to understand options and futures for economics.
after digging through all the econ channels i started to follow religiously recently and finding little to no explanation about futures and options i realised i gotta expand my horizons even more…
You don't really need to understand economics to do understand accounting, finance, and statistics, but you have to have a good understanding of all three to learn economics past the very basics. Sorry to say but about 99.99% of "econ channels" on youtube are hot garbage, and as novice you don't have any baseline to distinguish between a good one and a bad one. So much of economics is counterintuitive and complex, often for new people they are drawn to simple black and white answers that are often wrong or incomplete.
oh god, do you have any yt suggestions or maybe podcasts regarding finances and economics? As for the counterintuitive, so damn true cause I’m usually thinking from a stance as an individual and not as a firm or a bank or any other party, and in our course the explanations are so shallow and brief which makes it harder for me to grasp ideas and the last thing i wanna do is to memorise it all
Its a little bit like asking if there on any good youtube videos that can teach you how to be a master mechanic for every car ever made. The subject is vast and complex, and really there aren't any short cuts to learning it IMHO. Learning about a specific event, narrow topic, or specific skill I will use a youtube video, to learn an actual academic subject, I read. On that note, this is generally regarded as the best intro textbook. If you are just learning on your own you don't even need the latest version, you can get one for about $10. https://en.wikipedia.org/wiki/Principles_of_Economics_(Mankiw_book))
thank you! I did have a chance to realise that the subject is not coverable in one yt channel and that reading or taking a course will be way more efficient, unfortunately the latter is not very high quality let alone enlightening in my case so Im seeking other sources, anyway thanks a lot!!
you can buy and read a textbook without taking a course, I have done it many times. I read "Security Analysis" by Ben Graham when I was 17 years old and that was a graduate level textbook at Columbia. Its even easier with the internet, when you get stuck on something you can come find smart people that will help you, or in your case, that is when you try to maybe find a video that can go a little more in depth on that subject. Again, there aren't shortcuts to learning complex and in depth subjects, it takes time and effort.
I just looked it up and oh god it’s quite a read I must say! I usually study by myself and I like it this way since I choose what info I’ll be digesting, however with subjects like economics that isnt quite my degree and by far not very intuitive, it takes way more time and effort to overcome the basics, the problem lies also in the fact that my uni course wasnt very long but pretty dense with multiple topics, and I cant just flick them all through like a light read, so in this case a textbook will hopefully be of a great help
I think you’re referring to cash settled options and futures contracts. Most of the answers here aren’t correct.
Cash settled contracts are most commonly used for synthetic underlying like index futures. The index is not a physical thing. You could make an ETF designed to mirror the index, but that would be a contract on the ETF not on the index. Instead the cash settled index future debits or credits your account in cash based on moves in the index.
Another major use is where delivery of the underlying is prohibitively expensive or regulatorily impossible. One of the biggest uses of these are non deliverable forwards on restricted currencies like Korean won or Taiwan dollar. Without an NDF, you wouldn’t be able to hedge your KRW or TWD exposure. Another use of these is to allow you to short sell stocks in markets where direct short selling is banned like in India. Yet another use is for commodities contracts, where storage and shipping costs can be prohibitive but you still need to hedge that exposure; this is most pronounced in low grade high weight items like steel scrap.
I don think OP is asking about ETFs…
But I did enjoy your answer
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