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Currency futures are a transferable futures contract that specifies the price, in one currency, at which another currency can be bought or sold at a future date. The price of currency futures are determined when the trade is initiated. For example, buying a Euro FX future on the US exchange at 1. Most participants in the futures markets are speculators who close out their positions before futures expiry date. They do not end up delivering the physical currency.
Rather, they make or lose money based on the price change in the futures contracts themselves. The daily loss or gain on a futures contract is reflected in the trading account. It is the difference between the entry price and the current futures price, multiplied by the contract unit, which in the example above is 125,000. If the contract drops to 1. 1,250 on one contract, depending on which side of the trade the investor is on.
The currency spot rate is the current quoted rate that a currency, in exchange for another currency, can be bought or sold at. The two currencies involved are called a “pair. If the spot rate of a currency pair increases, the futures prices of the currency pair have a high probability of increasing. On the other hand, if the spot rate of a currency pair decreases, the futures prices have a high probability of decreasing. This isn’t always the case, though.
Sometimes the spot rate may move, but futures that expire at distant dates may not. Assume hypothetical company XYZ, which is based in the United States, is heavily exposed to foreign exchange risk and wishes to hedge against its projected receipt of 125 million euros in September. Prior to September, the company could sell futures contracts on the euros they will be receiving. Company XYZ sells 1,000 futures contracts on the euro to hedge its projected receipt. Consequently, if the euro depreciates against the US dollar, the company’s projected receipt is protected. They locked in their rate, so they get to sell their euros at the rate they locked in at.
However, the company forfeits any benefits that would occur if the euro appreciates. An agreement to buy or sell the underlying commodity or asset at a specific price at a future date. A Ccurrency forward is a binding contract in the foreign exchange market that locks in the exchange rate for the purchase or sale of a currency on a future date, essentially acting as a hedging tool that does not involve any upfront payment. The spot price is the price at which an asset can be bought or sold for immediate delivery of that asset. An outright forward is a forward currency contract that locks in an exchange rate for a specific delivery date and a specific amount. Forward points are the number of basis points added to or subtracted from the current spot rate to determine the forward rate.