Forex or FX is the largest and most popular global market for trading currencies. It is widely used today in global business, acting as the means by which individuals and companies can change one currency to another within global commerce. For anyone involved in international trade or business, the knowledge of the foreign exchange market is fundamental.
What are the types of foreign exchange markets?
There are three primary types of foreign exchange markets those being the spot market, the forward market and ultimately the futures market. All of them play a particular role and work in a different manner.
Spot Market
The spot market is the type of foreign exchange market that is more basic and the most common foreign exchange market. The spot market involves trading in currencies for delivery at the most within two business days from the date of trading. This market is for immediate selling and buying of currencies now using today’s price referred to as the spot price.
Since such contracts are extremely short-term, spot transactions are paid within a short interval from the time and date of trading and hence the spot market is preferred by traders and merchants who require the physical delivery of the currency. The spot market has a high level of activity and the exchange rates are in constant change depending on its supply and demand. A large percentage of retail Forex trading is conducted in the spot market.
Forward Market
The forward market, unlike the futures market, allows the exchange of currencies at some specified rate for the actual exchange to occur at a date in the future. This market is normally utilised largely by business people as well as investors who make deals internationally and wish to minimise the possibility of the changes in the foreign currency rates affecting their business outcome. Thus, the companies can guarantee that they will not be affected by fluctuation in the market when they lock an exchange rate earlier.
For example, an exporter can employ the forward market to lock the rate he will use to convert foreign income into his home currency at some time in the future. The forward foreign exchange market is not as active as the spot market. Most forward foreign exchange transactions are arranged on an Over-the-counter basis, that is, the two parties negotiate directly.
Futures Market
The futures market is similar to the forward market but with some peculiarities. Unlike the futures market where they are standardised and traded over the floor of formal exchanges like the CME. These contracts outline the quantities of the currency for exchange, the exchange rate and the time of the exchange.
Just like forwards, futures are well controlled, however, the market is much more transparent compared to that of forwards. The futures foreign exchange market players are speculators involved in the trade with the view of making gains on the price fluctuation of currencies. All the same, there are businessmen who trade with a view of hedging on the price volatilities of currencies.
Conclusion
In summary, there are three main types of foreign exchange market. These markets include the spot market, the forward market and the future market, with the spot market providing an opportunity for sellers to exchange their currency soon while the forward and future market lets business lock their deal by entering into an agreement today that enables them to use a particular currency at some time in the future as a hedge against future weakening of that currency. This blog takes a look at the different categories of the foreign exchange market which is important, especially for anyone who participates in foreign exchange transactions.
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