Cash Settlement

Cash Settlement is a method of settling forward contracts or futures contracts by cash rather than by physical delivery of the underlying asset. The parties settle by paying/receiving the loss/gain related to the contract in cash when the contract expires.

In forward or future contracts, the buyer agrees to purchase some asset in the future at a price agreed upon today. In physically settled forward and future contracts, the full purchase price is paid by the buyer, and the actual asset is delivered by the seller. For example: Company A enters into a forward contract to buy 1 million barrels of oil at $70/barrel from company B on a future date. On that future date, Company A would have to pay $70 million to company B and in exchange receive 1 million barrels of oil.

However, if the contract was cash-settled, the buyer and the seller would simply exchange the difference in the associated cash positions. The cash position is the difference between the spot price of the asset on the settlement date and the agreed upon price as dictated by the forward/future contract. Continuing from the example above, if on the settlement date the price of oil was $50 per barrel, the buyer, instead of paying the seller $70 million, would pay him $20 million. This is the difference between the price of 1 million barrels on that day and the agreed upon price -- and the seller would not deliver any oil to the buyer. If, on the other hand, the price of oil was $80 per barrel, the seller would pay the buyer $10 million in cash and deliver no oil.

It may seem confusing as to why the cash position is the difference between the spot price at settlement and the agreed upon forward/futures price. Using the example above again, consider if the spot price of oil was $50 per barrel, and the contract were physically settled. It would pay the seller $70 million, and received 1 million barrels in return. However, the market value of the oil is only $50 per barrel, meaning it paid more than the spot (market) price for oil. In other words, if Company A were to sell the oil immediately after it received the oil, it would only receive $50 million, incurring a loss of $20 million. The same principle holds true if the spot price of oil is $80 per barrel at expiry; rather than having a loss, Company A now has a profit.
Why do parties use cash settlement?

Cash settlement is useful and often preferred because it eliminates much of the transaction costs that would otherwise be incurred when physically delivering a good. For example, a futures contract on a basket of stocks such as the S&P 500 (SPX) will always be cash settled because of the inconvenience, impracticality, and extremely high transaction costs associated with delivering shares of all 500 companies. Because the costs associated with cash settled contracts are lower, it appeals to both hedgers and speculators.

Cash settlement also helps reduce credit risk for futures contracts. When entering into a futures contract, each party must deposit money into a margin account where gains and losses are paid into or taken out of. Futures contracts are cash settled daily and gains/losses are received/paid each day, eliminating the chance that a party will be unable to pay.

Most forwards and futures on financial assets are cash settled. For instance, forward rate agreements, which are forward contracts on an interest rate, are always cash settled because the underlying is an interest rate, which is not physically deliverable. Commodities, while often physically settled, can also be cash settled as long as an observable, undisputed measure of the spot price is agreed upon beforehand. Cash settling commodities lets companies reduce the cost of hedging.
How does cash settlement work?

A quick example would help illustrate the point. Assume Company Z, an airline company, purchases its fuel from local, familiar dealers, but wishes to hedge against rising fuel costs. It buys (take the long position) a futures contract at the price of $50 per barrel to lock in its purchase price. However, it has a long established relationship with local suppliers, and it would prefer to continue purchasing from its established suppliers rather than receive the fuel from the seller of the futures contract.

If the futures contract was physically settled, at expiry Company Z would pay the previously agreed upon futures price, and receive the actual fuel from the seller regardless of the spot price (current market price). If the spot price was $75 a barrel, Company Z has a profit of $25 per barrel, since it pays only $50 per barrel rather than $75. If the spot price was $25 a barrel, Company Z has a loss of $25 a barrel because it must pay $50 a barrel when it could have only paid $25 had it not entered into the contract. By entering into the futures contract, Company Z locks in its purchase price of fuel, effectively removing any uncertainty about the cost of the fuel.

However, if the contract was cash settled, Company Z would receive the difference in cash between the spot price and the futures price. If the spot price at expiry is $75, Company Z has again earned a profit of $25 per barrel. This is because it only needs to pay $50 per barrel, but can immediately sell it for $75, turning a $25 immediate profit. This is where the convenience of cash settlement makes it desirable. Rather than paying $50 per barrel and receiving the actual fuel, in a cash settled contract the seller of the contract would simply pay Company Z $25, or the difference between the spot and futures price. This allows Company Z to then purchase fuel from its established supplier at the spot (market) price of $75. Since it received the $25 per barrel from the seller of the futures contract, the final net cost to Company Z remains $50 per barrel.

If the spot price were to decrease to $25 per barrel, then Company Z has a loss (since it could buy fuel in the open market for $25, but has locked in the purchase price at $50) and must pay the seller $25. However, despite the loss, it can now buy fuel at the spot price of $25 per barrel, and thus again the total cost is $50 per barrel.
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Category: Definitions








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Mesothelioma Lawyers

Mesothelioma Lawyers - Important Information for Patients

Selecting the best mesothelioma lawyer for your situation is not easy because lawyers have different levels of experience in different areas, are licensed to practice in different jurisdictions, and charge different levels of contingency fees. One way to identify reputable lawyers is to see how they are rated by the various independent attorney rating systems. For example, are they listed in "Best Lawyers in America," "Super Lawyers" or have a high Martindale-Hubbell rating? On contingency fees, are they charging a customary fee or an exorbitant one? And what is their reputation among defense lawyers and defendants? Are they known to settle cases quickly and for modest values or do they have the reputation for holding defendants' "feet to the fire" to maximize settlement values for their clients?

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Auto Qoute news

$1 billion deal struck by allstate as it will buy esurance to add online sales
By Richard Burton
Published: Friday, May 20th, 2011

shutterstock_20055367The largest auto insurer in the US, Allstate has struck a $1 billion deal and agreed to buy Esurance and Answer Financial from White Mountains Insurance Group Ltd and plans to expand the sales through the internet. Thomas Wilson, CEO is now seeking to add on more customers through other channels such as the internet since the younger generation simply shuns agents. Since most of the online shoppers are opting for insurance coverage from the smaller companies, Allstate has lost a lot of customers since the last three years.

Paul Newsome, analyst, Sandler O’Neill & Partners LP, states that these direct channels are going to be the growth engine for the entire industry in future and they wanted to do this as their core business had been affected.

The funding by Allstate would be done with the available cash as per the presentations made on their website. In a statement today, Allstate has stated that the entire transaction is most likely to be completed towards the year end. The deal will not decrease the insurer’s earning after a whole year of ownership, stated the company.

Esurance as well as Answer Financial will continue to maintain their brands, stated Wilson on a conference call with the analysts. Both Esurance as well as Answer Financial allowed their clients to make a comparison of quotes while purchasing auto insurance through their websites. He also stated that the Allstate brand would be appealing to the customers who would want an agent.

In the New York Stock Exchange composite trading, Allstate fell 17 cents to $32.25 in the morning at around 9:47 a.m., whereas White Mountains went up to $40.25.

The overall standard auto policy count at Allstate had dropped 0.7% in one year ending on March 31st, stated the insurer on the 27th of April, when the first-quarter results were announced.

The total personal auto insurance policies at Progressive had climbed to 11.9 million on the 31st of March which was a 5.8% increase compared to last year. These gains were predominantly due to the rise in the number of clients that had signed up using direct channels like the telephone and the internet.

The ability to serve their customers especially those that are self-directed will be possible with Esurance, stated Wilson in a statement made today. Goldman Sachs had advised Allstate as per the e-mail from Maryellen Thielen, spokeswoman for Allstate.

Debt Consolidation

Debt consolidation: cure or continued credit problems? By Jenny McCune • Bankrate.com

Interest rates haven't been this low for decades, tempting some consumers to take on additional debt to ease existing credit woes. The goal is to consolidate various higher-interest balances into one, easier-to-handle and less-costly package. But be careful of what looks to be a quick fix. "You're getting symptomatic relief, not a credit cure," says Chris Viale, general manager of Cambridge Credit Corp., a nonprofit credit counseling agency based in Agawam, Mass. This fighting-fire-with-fire approach can take several forms. There are debt-consolidation loans, balance transfers to a zero-percent credit card and home equity loans or lines of credit. But, says Viale, 70 percent of Americans who take out a home equity loan or other type of loan to pay off credit cards end up with the same (if not higher) debt load within two years. Viale's statistics underscore a major problem with debt consolidation: It feeds upon the tendencies that got you in trouble in the first place. By taking on yet another creditor, you're adding the proverbial fuel to the fire. In this case, it's your money that's burning. Plus, if you've taken on so much debt that you're looking for more as a solution, chances are you won't qualify for the very low interest rates you see advertised. Those generally go to people with stellar credit ratings. However, if you're at the end of your credit rope or swear that this time you'll be more disciplined, debt consolidation may be something to consider despite its risks. Here are some popular forms of debt consolidation, how they work and a look at their pros and cons. Home equity loan or line of credit Home equity lines or loans often are touted as a quick and easy way to get out of debt. By leveraging your residence's value, the pitch goes, you can get money to pay off other bills and a tax break, too. But borrowing against your house can backfire. The biggest risk: You could lose your home if you default on the loan. "Some hardship occurs and now they have double the debt and if it's secured by their home, they could lose it," says Diane Giarratano, director of education at Garden State Consumer Credit Counseling in Freehold, N.J. And while equity loan interest generally is tax deductible, it could be limited in some situations. Even when it does provide a tax break, Cambridge's Viale says "that doesn't mean it makes fiscal sense." Giarratano agrees. "Banks will tell you how much you can borrow," she says. "That doesn't mean you should borrow the total amount, but that's what people do." Still, a home equity line of credit or loan to pay off creditors can work for some debt-burdened homeowners. Just be sure to do your homework to guarantee that the home equity dollars and cents make sense. This Bankrate calculator can help your determine whether borrowing against your home's equity is a wise move. Zero-percent credit card What about people who don't own a house? In these cases, many turn to zero-percent credit cards to reduce debt. Again, prudence and discipline are required. Companies offer these rates as teasers -- enticements for you to switch credit card vendors. Much of the time, card companies target consumers with better credit, so that may leave someone struggling with debt without this option. Even if you do qualify for a zero-percent or similar single-digit rate, it won't last forever. Make sure you know when it will end and what the rate is expected to jump to when it does. The low rate also lasts only if you pay on time. One late payment and the credit card company will jack up the rate. Also look for hidden fees and charges that can increase the actual cost of credit. "It's a short-term fix," says Viale. "The only way it works is if you are really meticulous about paying it and stay on top of it and then move onto another credit card before the low interest rate expires." Opening new credit card accounts every six months, however, could negatively affect your credit rating, he cautions. And to successfully lower your debt load, you'll need to pay far more than the smallest amount the card company will accept, especially after that zero rate disappears. "Paying the minimum for a $20,000 debt won't cut it," notes Viale. Bankrate's minimum payment calculator illustrates Viale's assessment. Say, for example, you transferred $20,000 of other debt to a zero-percent card and paid $1,000 on it by the time the rate jumped to 14 percent. If you make only the minimum monthly payments, it will take you 1,134 months -- or 94.5 years -- to erase your remaining $19,000 balance. If you live that long, you'll pay $64,805 in interest. And that's presuming you don't charge another thing during that time. Debt consolidation loan Did the credit card computations scare you into looking for another option? There's always a debt-consolidation loan. Offers for these financial products are an e-mail box staple. Chances are you get a dozen or more everyday suggesting this as the solution to your growing debt problem. A major appeal of consolidation loans is convenience. Instead of paying 20 different creditors who are charging different rates at different times of the month, you take out one big loan and pay off all those accounts. Then you make a single payment on that loan once a month. But ease doesn't automatically translate to savings. Before you sign on the dotted line, be sure that the costs of the new, bundled loan will truly be less than what you're already paying various creditors. For many consolidation-loan candidates, their current credit woes mean they won't get the lowest-available interest rate. Plus, when there is nothing to secure the loan (such as your home), expect the lender to bump up the rate. Calculate interest and fees on all your existing accounts to determine the total of the payments you now make. Then compare those amounts with the consolidation loan numbers to make sure it truly is a better choice. And, as with any product, shop around. The bank down the street may offer an attractive loan rate, but a check of your local credit union could turn up better terms, says Deborah McNaughton, author of "The Get Out of Debt Kit." "Credit unions also tend to be more lenient than the banks," adds McNaughton. Managing, not adding, debt Viale is a much bigger fan of debt management, which isn't a surprise since he heads up a debt management firm. But McNaughton and other experts also point to credit counseling instead of shifting debt as the way to go. They favor debt management because it costs less and is quicker than a debt-consolidation loan. Viale says someone owing $20,000 would end up paying $6,000 to $8,000 in interest and fees and be debt free in four to six years by using a credit counselor. If that person took out a 15-year home equity loan at 10 percent (because his credit wasn't good enough to get him a lower rate), Bankrate's loan calculator shows he'd end up paying $18,686 in interest on top of the twenty grand he borrowed. But if you just can't get a handle on your bills by yourself, you should explore credit counseling. Getting professional help in managing your debt can help you change your credit behavior. People that have taken on too much debt tend to go into denial; they'd rather not know how much debt they owe. A professional debt manager will make you face up to your obligations. Credit counseling agencies also force you to stop racking up debt. In exchange for consolidating your debt and working with your creditors to reduce your payments, credit counselors require you to give up your credit cards. Credit counseling, however, is not without its costs. One downside is that your reduced payment plan will probably show up as a mark against you on your credit report. Even though your creditor agreed to the reduced payment, you technically did not pay your account as called for in your original credit agreement. An even more costly potential pitfall is the disreputable debt counselor. As this Bankrate story points out, some credit counseling and debt-consolidation companies are only interested in making a quick buck on debt-ridden consumers. Some firms offer shoddy service at sky-high fees. Others are out-and-out scams. To find a reputable firm, verify certifications or third-party registrations. Check with the Association of Independent Consumer Credit Counseling Agencies or the National Foundation of Credit Counseling to see if the service you're considering is a member of either group. Also ask the service for references and then confirm them. Make sure that the debt management or credit counseling firm answers all your questions and that you have a firm understanding of how the process will work and what it will cost. If the company won't give you straight answers or you don't understand what's going on, don't sign up with that company. Jenny C. McCune is a contributing editor based in Montana.