Getting Started in Foreign Exchange Futures

The spot foreign exchange (forex or FX) market is the world's largest market, with over one trillion U.S. dollars traded per day. One derivative of this market is the forex futures market, which is only 1/100th the size. This article examines the key differences between forex futures and traditional futures and looks at some strategies for speculating and hedging with this useful derivative.

Forex Futures versus Traditional Futures
Both forex and traditional futures operate in the same basic manner: a contract is purchased to buy or sell a specific amount of an asset at a particular price on a predetermined date. (For an in-depth introduction to futures, see Futures Fundamentals.) There is, however, one key difference between the two: forex futures are not traded on a centralized exchange; rather, the deal flow is available through several different exchanges in the U.S. and abroad. The vast majority of forex futures are traded through the Chicago Mercantile Exchange (CME) and its partners (introducing brokers).

However, this is not to say that forex futures contracts are OTC per se; they are still bound to a designated 'size per contract,' and they are offered only in whole numbers (unlike forward contracts). It is important to remember that all currency futures quotes are made against the U.S. dollar, unlike the spot forex market.

Here is an example of what a forex futures quote looks like:


Euro FX Futures on the CME

For any given futures contract, your broker should provide you with its specifications, such as the contract sizes, time increments, trading hours, pricing limits, and other relevant information. Here is an example of what a specification sheet might look like:


Specification Sheet from CME

Hedging versus Speculating
Hedging and speculating are the two primary ways in which forex derivatives are used. Hedgers use forex futures to reduce or eliminate risk by insulating themselves against any future price movements. Speculators, on the other hand, want to incur risk in order to make a profit. Now, let's take a more in-depth look at these two strategies:

Hedging
There are many reasons to use a hedging strategy in the forex futures market. One main purpose is to neutralize the effect of currency fluctuations on sales revenue. For example, if a business operating overseas wanted to know exactly how much revenue it will obtain (in U.S. dollars) from its European stores, it could purchase a futures contract in the amount of its projected net sales to eliminate currency fluctuations.

When hedging, traders must often choose between futures and another derivative known as a forward. There are several differences between these two instruments, the most notable of which are these:

  • Forwards allow the trader more flexibility in choosing contract sizes and setting dates. This allows you to tailor the contracts to your needs instead of using a set contract size (futures).
  • The cash that's backing a forward is not due until the expiration of the contract, whereas the cash behind futures is calculated daily, and buyer and seller are held liable for daily cash settlements. By using futures, you have the ability to re-evaluate your position as often as you like. With forwards, you must wait until the contract expires.

Speculating
Speculating is by nature profit-driven. In the forex market, futures and spot forex are not all that different. So why exactly would you want to participate in the futures market instead of the spot market? Well, there are several arguments for and against trading in the futures market:

Advantages

  • Lower spreads (2-3).
  • Lower transaction costs (as low as $5 per contract).
  • More leverage (often $500+ per contract).

Disadvantages

  • Often requires a higher amount of capital ($100,000 lots).
  • Limited to the exchange's session times.
  • NFA (National Futures Association) fees may apply.

The strategies employed for speculating are similar to those used in spot markets. The most widely used strategies are based on common forms of technical chart analysis since these markets tend to trend well. These include Fibonacci studies, Gann studies, pivot points, and other similar techniques. Alternately, some speculators use more advanced strategies, such as arbitrage.

Conclusion
As we can see, forex futures operate similarly to traditional stock and commodity futures. There are many advantages to using them for hedging as well as speculating. The distinguishing feature of forex futures is that they are not traded on a centralized exchange. Forex futures can be used to hedge against currency fluctuations, but some traders use these instruments in pursuit of profit, just


Source link  
Differences that matter: demo and real

Two days ago we spoke about different ways to understand whether it is time to move from a demo trading account to a real trading account. However...

Bitcoin Beginner Guide to Surviving Bgold

This is an updated version of A Bitcoin Beginner's Guide to Surviving a Coin-Split specifically addressing issues associated with the upcoming...

Top Cryptocurrency Trading Tools

The new world of Cryptocurrency trading such as Bitcoin, Ethereum and much more, can be extremely profitable, but it’s also a minefield...


How to Keep Bitcoins Safe

If you are thinking through the process of accruing bitcoins, you may be wondering where to keep them once you’ve done so. After investing time...

Lessons From a Cryptocurrency Hack

Cryptocurrency-related cyber attacks are on the rise. As cryptocurrency continues to explode in value and public awareness...

Forex Point And Figure Software

International financial market is a complex inconstant mechanism...


Most actual TOP-10 Forex Blogs

Brokers and experts aim not only at earning money on trading but also work on their reputation and status. That is why specialists start their online pages. They share knowledge, make analysis, answer comments. Each of them improves their skills, makes special design and selects information...

How to read forex trading charts?

Forex analytics have key importance and is an essential part of trading in the international market. With the aid of special instruments, which are called charts and trading bar graphs, a trader can forecast the market changes. To read these charts it is essential to know...

What is the best online forex trading platform?

Every trader starts his or her life in the forex market with choosing a good reliable broker and building a trading strategy. Opportunities vary much in broker companies and their services. However, a beginner trader should examine not only a broker's reputation...

  


Share: