The forex market consist of spot, futures and options market. However, most people do not realize that when they talk about the forex market, they are actually referring to the over the counter (OTC) interbank market, or spot market. There have been a general confusion on spot forex trading and futures trading by some sites promoting spot trading. The difference between the two is little, but it’s worth noting.
Spot forex trading has long been the preferred trading vehicle as opposed to futures trading by forex professsionals due to several reasons. According to the book ‘High-Powered Investing All-In-One For Dummies’, “currency futures markets operate alongside the interbank market, but they are definitely the tail being wagged by the dog of the spot market. As a market, currency futures are generally limited by exchange-based trading hours and lower liquidity than is available in the spot market.”
Spot forex trading are contracts bought and sold with immediate effect based on the current price. Because prices are settled in cash based on current prices on the spot contrary to forward market, it is often known as ‘physical market’ or ‘cash market’. While the settlement of spot forex trading will take only two days, futures transactions can have longer delivery time may be a few months into the future. Jamaine Burrell, the author of the book ‘The Complete Guide to Currency Trading & Investing’ observed that, “more than 40 percent of all Forex trades are settled within two days and 80 percent of all Forex trades are settled within two weeks.” Such are the extend of spot forex trading. The simplest form of spot forex trading is when you visit a money changer and make a transaction for a foreign currency. The transaction take place immediately based on the current market price.
Spot forex trading was initially developed by banks to cater to the needs of big corporations, making money from the spread of express transactions. Overtime, spot forex trading was made available to retail investors. Today, the market is massive and its tremendous growth has been attributed largely to independent dealers and retail investors.
One of the most commonly mistaken point is that spot forex trading carry a lower transaction cost since it does not involve fees by the National Futures Association (NFA). This is because many people failed to see that the spread is usually higher in spot market compared to currency futures market. Once these two are taken into the equation, one will notice that the supposedly lower transaction of spot forex trading will be cancelled out.
Perhaps the most commendable perk for spot forex trading is the ability to buy smaller lots, instead of committing to the usual 100,000 lot. This is an attractive feature especially for new investors with lower risk tolerance. With this in mind and the use of automated online trading platform, spot forex trading will continue to play a major role in the forex scene.
Tags: spot forex trading