Forward premiums, play a critical role in foreign exchange markets. They are the difference between the spot rate and the forward exchange rate. They represent either a premium or a discount at which a foreign currency is valued in the forward markets, when compared to its current value. Premiums, consequently, provide insights into the market’s outlook, investor sentiments and the likely direction of exchange rate movements.
Forward premiums are, in addition, influenced by market expectations and risk perceptions. When interest rate differentials between the United States and India narrow, it tends to reduce the attractiveness of holding rupee forward contracts, leading to a decrease in the forward premium. This podcast explains.