Trading Forex Futures Versus Spot Forex
Trading through an online forex broker may allow you to trade spot forex. Nevertheless, only the top forex brokers have the facilities to accommodate currency futures traders as well as spot traders.
Unlike spot forex, which trades on an electronic and telephone network, futures trading is generally conducted on centralized futures exchanges where trading in the futures contracts is traded by open outcry on an exchange floor.
Currency futures trading also take place on ECNs or Electronic Communications Networks such as the CME Group’s Globex system. If you compare forex brokers, you will probably find one that offers currency futures trading.
Currency Futures versus Spot Forex
The main difference between a futures transaction and a spot transaction consists of the delivery date of the currencies. In the spot market, delivery is within two business days, and all transactions with value dates beyond spot’s two day settlement are known as forward contracts.
A currency futures contract, on the other hand, consists of a standardized agreement between two parties to take delivery of a certain amount one currency and deliver another currency at a pre-determined future date and at a rate determined in the marketplace.
In other words, a currency futures contract is a forex forward contract with a set delivery date and standardized contract size that trades on a centralized exchange or its electronic network.
Because of its delivery taking place at a certain date in the future, the futures price would also have to reflect differences in interest rates and carry charges on both currencies involved in the transaction.
Differences in Trading Spot Currencies and Futures
Trading spot currencies differs from trading futures contracts because of the fact that spot currencies trade over a distributed telephone, dealing and electronic network, while futures contracts generally trade in a pit on a centralized futures exchange.
The Chicago Mercantile Exchange pioneered the currency futures market starting the International Monetary Market or IMM back in the 1970s. At the time and until relatively recently, IMM currency futures made up the only way a smaller trader could take advantage of the moves in the currency market.
Also, the fact that currency futures traded on the IMM have quarterly delivery dates, versus two day delivery for spot changes the dynamics of trading the product considerably. In addition, all currencies must be traded against the U.S. Dollar since the futures trade in the United States.
Another major difference in trading futures versus spot currencies consists of the amount of leverage allowed on futures. IMM futures allow for only a 5:1 leverage ratio or 20%, while spot forex transactions can be leveraged up to 50:1 in the United States and up to 500:1 elsewhere.
Spot or Futures: Which Works Better for You?
Unless you have a specific need to use the futures market for your forex trading, such as selling futures against a spot position for example, trading forex in the spot market would seem preferable for a number of reasons.
Also, trading currency futures entails paying commissions and exchange fees, which could increase trading costs significantly. Furthermore, not all online forex trading brokers offer futures trading, so an additional trading account may have to be opened for trading currency futures, and futures trading software may have to be purchased or rented.
Another important consideration for a trader in trading the futures market consists of the size of the futures contract. For example, a contract for GBP in the futures market would be for £62,500 per contract, but smaller amounts can be traded in the spot market.
Futures or spot? The answer lies completely with the trader, but the spot market seems increasingly attractive, thanks largely to the ready availability of online forex brokers.