What Are Currency Futures?
Currency futures are exchange-traded futures contracts that specify the price in one currency at which another currency can be bought or sold at a future date. Currency futures contracts are legally binding, and counterparties holding the arrangements on the expiration date must deliver the currency amount at the specified price on the specified delivery date. Currency futures can be used to hedge other trades or currency risks or to speculate on price movements in currencies.
Currency futures may be contrasted with non-standardized currency forwards, which trade OTC.
Currency futures are one of the instruments used to hedge against currency risk.
They are highly regulated, and any counterparty still holding the contract at the expiration date is legally bound to deliver the currency on the given date and at the given price.
What is the difference between spot and futures prices?
A futures price differs from a spot price as it is not based on current market value but a possible market price in the future.
If traders have open positions on a spot currency rate, they may use a currency futures contract to hedge.
What is the difference between currency futures and currency forwards?
Both currency futures and currency forward contracts are financial derivatives that allow people to buy and sell currency pairs at a specific time and a given price.
Though they are similar, they operate with a few key differences:
|Currency futures are||Currency forwards are|
|Traded on an exchange||Traded over-the-counter|
|Highly standardized transactions with legally binding terms and conditions||Privately negotiated and specific to individual traders needs|
The main difference between a currency future and a currency forward is that futures are traded through a central market. In contrast, forwards are over-the-counter contracts (private agreements between two counterparties).
The risk of default on futures contracts is virtually zero as they always involve a central clearinghouse, whereas forwards always carry the risk of counterparty default. Some providers require client collateral to cover this risk.
A forward contract sets a rate with an expiry date. A futures contract establishes daily market (mark-to-market) rates, and the daily price differences are settled or included daily in the contract until it ends.
A futures contract is usually a speculative product for investors, while forwards are more commonly used by companies seeking to protect themselves against currency volatility.