The Secret of Currency Trading

21 October 2011

If you want to profit from the price movement of currencies, you can trade in currency futures or spot Forex. Currency futures contracts are formal agreements to exchange a specific sum of a currency for the same sum in another currency at the exchange rate today. There is a delivery date stated in the futures contract, and it means the day when the seller got to deliver the stated amount of currency at the exchange rate stated in the contract. When the exchange rate has became higher, the buyer will profit. When the exchange rate has became lower, the seller will profit. In the spot Forex market, the currency exchange is made immediately.

One main difference between spot Forex and currency futures is that futures are traded on formal futures exchanges. This means the Chicago Mercantile Exchange (CME) and its partners. Spot Forex trades are decentralized and can take place between two traders, but more often involving a Forex trader and a Forex broker. There is no central spot Forex exchange where trades take place. While two private parties may come to a deal, the more usual practice is for the brokerage firm to take the other side of its clients’ trades.

Based on the decentralization of Forex trades, spot Forex is different from currency futures in a subtle way. There can be more than one price for such trades depending on the location of the trader and the particular broker used. Currency futures transactions clear through a centralized exchange, usually the CME. This means that everyone worldwide sees the same price.

Another subtle difference that new currency traders might not be aware of is that the brokerage where they have their account may be serving as a market maker on their spot Forex trades. In order to make money when the currencies are resold, the broker must maintain a spread: their asking price when the currencies are sold to their clients is higher than their bidding price when they buy back the currency. This is in addition to any commission fees on the trade, so that the brokerage has an incentive to charge buying customers as much as the market will bear and pay sellers as little as possible. Since currency futures trades take place on a centralized exchange, this conflict of interest does not arise.

Due to its global nature, the spot Forex market is impossible to regulate. It is also not a physical being and does not have a physical location. Since it is not located in any one country, there is some doubt as to anyone’s right to regulate it. There are exceptions however. Some Forex brokers located in the United States have been fined for deceptive practices.

Currency futures are traded on a physical exchange in a building on Wacker Drive in Chicago. This means that the US government, the state of Illinois and the Chicago Mercantile Exchange itself have some say in regulating the futures market, unlike the Wild West environment found in spot Forex trading.

Trading in currency futures is a great way to hedge investments in other parts of the world or to speculate on exchange rates. Spot Forex trades, while they may be a valuable tool to those who can understand and exploit, have a definite downside for the average trader. While many foreign currency brokers are highly ethical, the potential for abuse does exist, and this makes futures a safer place to put their money in for the average investor.

If you would like to get started in futures trading, check out the Tips For New Futures Trader. You can also get a quick overview of the futures markets using the weekly updated commitment of traders futures heatmap.


About the Author

Edmund Peh is an expert in trading and runs the very successful and popular website about futures for beginners [ ]. He has helped thousands of people to get st

Tags: , , , , , , , , , , , , , , , , , , ,

Comments are closed.