Tom-Next is short for ‘Tomorrow-Next Day”, which is a short-term forex transaction that enables traders to simultaneously buy and sell a currency over two separate business days: tomorrow and the next day.
Understanding Tomorrow Next (Tom Next)
In most currency trades, delivery is two days after the transaction date (T+2). Tom-next trades arise because most currency traders have no intention of taking delivery of the currency and so require their positions to be "rolled over" daily.
This simultaneous transaction is an FX swap, and depending on what currency the person holds, they will either be charged or earn a premium. Those traders and investors holding high-yielding currencies will roll it over at a more favorable rate (minimal) because of the interest rate differential. This differential is known as the cost of carrying.
The actual transactions of tom-next trades are affected by dealers in the interbank market. Depending on their transaction direction, the trader will either "buy and sell" or "sell and buy" the currency they are rolling over. A tom-next transaction is generally handled by the forwards trading desk or the STIR (short-term interest rate) team.
If a trader chooses not to roll over their position, they will be forced to take physical delivery of that currency. And because this is rarely the case, a tom-next transaction is essentially the extension of a trader's position.
Example of Tomorrow Next (Tom Next)
A trader is long on the EUR/USD pair, which is trading at $1.53 (1 euro buys 1.53 US dollars) on its expiration date. The trader issues a tom-next instruction to continue holding onto the pair. Suppose the swap interest rates for the pair are in the range of 0.010 to 0.015.
At the end of the trading day, after the purchase and sale of shares, the trader is offered an interest rate of 0.010. The new price of the trader's position becomes $1.52 the following day.