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1.1. INTERNATIONAL FINANCIAL MARKETS 13funds in the margin account. In the US, some part of the initial margincan be put up in the form of Treasury bills, which mitigates the loss ofinterest income.Fourth, the futures exchange operates a clearinghouse whose functionis to guarantee marking to market and delivery of the currenciesupon maturity. Technically, the clearing house takes the other side ofany transaction so your legal obligations are to the exchange. But asmentioned above, the clearinghouse maintains a zero net position.Most futures contracts are reversed prior to maturity and are notheld to the last trading day. In these situations, futures contracts aresimply bets between two parties regarding the direction of future exchangerate movements. If you are long a foreign currency futurescontract and I am short, you are betting that the price of the foreigncurrency will rise while I expect the price to decline. Bets in the futuresmarket are a zero sum game because your winnings are my losses.How a Futures Contract WorksFor a futures contract with k days to maturity, denote the date T − kfutures price by F T −k , and the face value of the contract by V T . Thecontract value at T − k is F T −k V T .Table 1.1 displays the closing spot rate and the price of an actual12,500,000 yen contract that matured in June 1999 (multiplied by 100)and the evolution of the margin account. When the futures price increases,the long position gains value as reßectedbyanincrementinthe margin account. This increment comes at the expense of the shortposition.Suppose you buy the yen futures contract on June 16, 1998 at0.007346 dollars per yen. Initial margin is 2,835 dollars and the spotexchange rate is 0.006942 dollars per yen. The contract value is 91,825dollars. If you held the contract to maturity, you would take deliveryof the 12,500,000 yen on 6/23/99 at a unit price of 0.007346 dollars.Suppose that you actually want the yen on December 17, 1998. Youclose out your futures contract and buy the yen in the spot market.The appreciation of the yen means that buying 12,500,000 yen costs20675 dollars more on 12/17/98 than it did on 6/16/98, but most ofthehighercostisoffset by the gain of 21197.5-2835=18,362.5 dollars