Understanding Futures Trading

The Forex futures trading market is a derivative of the larger well known Forex market. The Forex market is now recognised as the world largest liquid market, with billions of dollars traded daily. The Forex futures market is about 1/100th the size of its larger parent. This article will look at some of the differences between futures trading in Forex trading compared to more traditional futures trading.

Forex futures trading vs. traditional futures trading

Forex futures and traditional futures principally operate in the same basic way; the trader purchases a contract to buy or sell specific amounts of an asset at a certain price on an already determined date. The key difference however, is that the Forex futures unlike traditional futures, are not traded on a central exchange, they can be moved through several exchanges anywhere in the world.

But no matter where they are traded Forex futures are bound to a contract which has a designated size and in whole numbers. One point to remember is that, unlike the spot Forex market, currency futures quotes are all made against the US dollar.

Speculating vs. hedging

Forex derivatives are used in two main ways being speculating and hedging. Speculators, are risk takers, and will take risks on board in order to profit. The more conservative hedgers utilise Forex futures to minimise risk, and protect themselves against price movements in the future. We will look at the respective strategies used.

Speculating

Speculators are profit driven by nature. Since the Forex futures trading and spot markets are not much different why would you choose the futures market over the spot? There are a number of arguments both for and against the futures trading market.

Advantages

• Lower spreads
• Lower transaction costs
• More leverage

Disadvantages

• Usually requires a higher amount of capital
• Limited to the session times of the exchange

Speculating strategies are very similar to those utilised in spot markets. The most popular strategies are using technical chart analysis, given that traditionally these markets are prone to trends. Techniques include Gann studies, pivot points, Fibonacci studies, and others similar in nature. More experienced speculators are known to learn toward the more advanced type strategies, such as using arbitrage.

Hedging

One of the main reasons to use hedging strategies is to neutralise effects of currency changes on sales revenue. Traders who opt for hedging are frequently required to choose between two different types of derivative, being futures and forwards. There are a number of differences between these two vehicles.

Forwards provide the trader with more flexibility when choosing contract sizes and date setting. This allows you to customise the contracts to your own requirements instead of having to use a set contract size -futures. The funds that are backing forwards aren’t payable until the end of the contract, however, the money backing futures is calculated on a daily basis, and both buyer and seller are held accountable for daily cash settlements. By using futures, you can re-evaluate your position as frequently as you like. With forwards, you must wait until the contract ends.

Conclusion

As can be seen above, Forex futures trading functions in a similar way to the more traditional stock and shares futures. Using them for hedging and speculating has a number of advantages. The fact that Forex futures aren’t traded on a central exchange is what makes them different. Many traders use Forex futures to hedge against currency fluctuations, but others consider them instruments for pursuing profit.

Related posts:

1. Currency Futures Trading
2. Benefit From The Forex Futures Market
3. Ins And Outs Of Commodity Futures Trading
4. Forex Futures Trading – The Big Picture
5. The Advantages of Futures Option Trading
6. Understanding the Mechanics of Derivatives