A hybrid combination of various types of derivatives (e.g., a forward contract with an option). Examples include: a knock-out forward, a conditional forward, a knock-in cancellation forward, a range forward, a participating forward, etc.
In a knock-out currency forward, if the spot exchange rate once touches the option’s knock-out rate during the observation period, the forward contract is automatically terminated and no settlement would take place at maturity date. On the other hand, if the spot exchange rate never trades through the option’s knock-out rate during the observation period, the holder can execute the exchange rate conversion transaction with a more favorable strike rate (that is a better rate than the rate in a vanilla forward).
