The foreign exchange or forex market is quite vast and comes with its own advantages, disadvantages, and unique features. Investors interested in engaging in forex futures can trade currency futures as well as trade in spot forex.
The difference between the two options is quite subtle, but it’s important to know the difference none the less.
Currency futures contracts are basically legally binding contracts that enable two parties that are involved in trading a certain amount of a currency pair at a predetermined cost at later date. This is assuming that the currency seller doesn’t close out the position, prematurely.
So if the position is still valid, an investor can own a particular currency at the time the futures dictates or bet that the currency will sell for a lower price in the spot market before the predetermined settlement date.
Spot futures or spot FX are underlying currencies that are physically exchanged after the settlement date. More often than not, spot markets all involve the actual exchange of the underlying asset. This type of action is most common in the commodities markets.
Think about it, if you went to the bank to exchange currencies before you went on holiday, you were essentially participating in the forex spot market.
The key difference between the two can be explained as the difference when the trading price is determined and when the physical exchange takes place.
When it comes to currency futures, the price of a particular currency is determined when the futures contract is signed and when the currency pair is exchanged at a predetermined delivery date sometime in the future.
Similarly, although the price is also determined at the point of trade in spot FX, the physical exchange of the currency takes place right then and there.
At this juncture, it’s important to note that most of the investors in futures markets are speculators. As a result, they would have closed their position long before the date of settlement. What this means is that if you look at the forex futures market as a whole, most of the contracts won’t last until the delivery date.Deciding whether to invest in spot FX or currency futures will essentially come down to your personal investment goals and the variety of variables that go with it. Regardless of which method you choose to go with, forex trading can be highly beneficial.