Foreign exchange otherwise known as forex, FX, currency market, etc. is an investment vehicle that deals with the fluctuation of different currencies and important commodities like crude oil, gold and silver. Trading is usually in pairs in order to take advantage in the increase and decrease of one currency as opposed to another. This article will discuss several financial instruments that are used to affect a trade.
How to Trade in Forex: Spot
A spot is one of the shorter types of exchange. In fact as a general rule, it only takes two business days for the same to mature. In some cases, maturity is reached after one business day (i.e. USD, CAD, EURO, Rubble, Lira, etc.). The trade is characterized as a short and direct exchange that involves liquid assets such as cash rather than contracts. One can imagine that 1 to 2 business days means no interest is included in the transaction.
How to Trade in Forex: Forward Contract
This type of contract provides risk management to future contracts, in that a specific rate of exchange is agreed upon to be collectible at a future time, specified or determinable. For example, Buyer A from the United States agrees to purchase heavy machineries from Seller B from Canada. The transaction is to take place after 90 days and the rate of exchange between USD/CAD is specified at 1.01920, regardless of the actual rate of exchange.
How to Trade in Forex: Foreign Exchange Swap
This is a type of forward contract that provides for a specific exchange for a specific or specified future time. This particular forward contract however applies to as many transactions as possible for so long as it is within the contracted period of time. As a security measure, a deposit is usually required to keep the position open until the contract or transaction is completed.
How to Trade in Forex: Currency future
Another form of forward contract that is traded in the FX. In other words, the ability to standardize a specific exchange at a future time is being sold. Average contract validity is 3 months and this is inclusive of interests (if any).
How to Trade in Forex: Foreign Exchange Option (FX option)
This derivative allows the owner or holder the right but not the obligation to exchange one currency with another. The exchange is characterized by a contractually determined exchange rate and a specific or determinable future date. Given the volatility and unpredictable nature of forex, this type of option is arguably the most sought after type of exchange.
Option Trading vs. Speculation
One school of thought abhors speculators as gamblers who destabilize and bring out the worst out of the forex market. However, another school of thought recognizes the inevitability of the same, accepts their existence, and recognizes their necessary role in the forex. However, regardless of the school of thought you believe in every investor, trader, broker must realize that speculation is very risky both in terms of personal finance as well as fines and penalties. Therefore, it is best to deal only in acceptable transactions and with authorized and licensed individuals.