Trading in Currency Futures

Futures or futures contracts are derivatives bought or sold on a futures exchange. Futures are contracts to buy or sell a particular commodity at a specified price on a certain date in the future.

The underlying asset could be commodities, energy, currencies, government bonds or other financial instruments. One of the assets frequently traded is currency. Let's take a closer look at the features of using this asset in futures trading.

What is a currency future?

A currency future, also knows as foreign exchange future or FX future, is a futures contract to exchange one currency for another at a specified date in the future at a price (exchange rate) that is fixed on the purchase date. The currency futures market is growing in popularity, as the main participants of this organized market comprise bankers, importers, exporters, multinational corporations and private speculators.

How are they traded?

Currency futures are traded according to the rules and regulations that are drawn by the futures exchanges. The trading can be done either on the floors of these futures exchanges or these exchanges can facilitate electronic trading for its members. The Chicago Mercantile Exchange is the world's largest and most successful exchange for trading in currency futures, with offices in Chicago, New York, Washington, London and Tokyo.

What are the features of the contract?

Like all futures contracts, currency futures are standardized contracts too. The futures exchange sets the contract specifications. However, only the exchange rate can be negotiated by the buyers and sellers. The remaining specifications, such as defining the underlying currency, trading unit and delivery month, are set by the futures exchange.

How does trading in currency benefit an investor?

The following are the benefits of currency trading in India:

• Easy Accessibility - Small investors would get an easy access to currency futures trading on the popular exchanges
• Easy Affordability - Margins are very low and the contract size is very small
• Low Transaction Cost - As opposed to the high pay-out of commissions in overseas forex trading, currency futures carries low costs for investors
• Transparency - It is possible for you to verify trade details on NSE if you have a doubt that the broker has tried to cheat you
• Counter-party default risk - All the trades done on the recognized exchanges are guaranteed by the clearing corporations and hence it eliminates the risks associated with counter party default. NSCCL (National Securities Clearing Corporation Limited) carries out all the notation, clearing and settlement process of currency futures trading
• Standardized Contracts - Exchange Traded currency futures are standardized in respect of lot size ($1000) and maturity (12 monthly contracts). Retail investors with their limited resources would find it tremendously beneficial to take positions in standardised USD INR futures contracts

Moreover, the currency futures market is used by some companies for hedging. These companies either purchase currency futures for their future payables, or sell the futures on currencies for their future receipts.

Speculators may also buy or sell futures on a foreign currency as a protection against the strengthening or weakening of the US dollar. So, speculators may be able to earn profit from the rise or fall of these exchange rates.

What are the risks of trading in Currency Futures?

Trading in Currency futures or forex trading comes with high levels of risk. Even a small adverse fluctuation in the exchange rate may result in loss of the entire deposit of someone trading in currency. Only people having an in-depth knowledge of the working of this market or have done a thorough homework about the risks involved are advised to trade in this market.

By BankBazaar.com - an online marketplace for your personal loan and home loan needs.