Currency Futures Trading
Currency Futures trading involves the buying or selling of foreign exchange futures. Futures are contracts that have a date of expiry. Contracts are priced based on their current value at the specified date in the future. The pricing of FX futures is based on the interest rate differentials of the currency pair.
For example, Great Britain currently has a benchmark interest rate of 5.25% and the United States have a benchmark rate of 2.25%. Because of this interest rate differential, the longer the expiry the cheaper the contract. For retail spot forex traders, this difference in prices is similar to the swap you would earn for an open position.
At the time of writing these are the prices for GBP/USD (British Pound) Futures.
September ’08 1.9774
December ’08 1.9619
March ’09 1.9489
June ’09 1.9370
September ’09 1.9251
As you can see, the further out the contract, the cheaper the price. If the British benchmark interest rate was lower than the United States, then the prices would get more expensive for longer contracts.
Futures contracts are traded in set sizes. The British Pound standard contract is for 62,500 GBP. They all have margin requirements. The currently margin requirement for a a 62,500 GBP British Pound futures contract are:
$2,700 initial margin
$2,000 maintenance margin
The initial margin is the amount of margin you must put up to open the contract and maintenance margin is the amount of margin required to keep the position open. Self explanatory really.
Day Trade Forex Futures
It is possible to day trade fx futures, but in many cases the spot forex market has many advantages for day trading currencies such as lower margin requirements and more flexible position sizes. The spot market is also more liquid.
Forex Futures Trading is traded on margin and can be very risky. Unlike retail spot forex brokers, losses in excess of your initial deposit can occur. This will usually result in a call from your broker asking for more margin. It is imperative that you fully understand the risks involved with currency futures trading before trading.
Foreign Currency Options
Foreign Currency Options are contracts that allow the currency speculator or hedge the opportunity to reduce their risks. A Foreign Currency Option is like a currency Future, except the trader has the option whether or not they want the contract on expiry. If the contract ended negative, clearly the trader would not want it. An options contract has a premium. The maximum loss when buying options contracts is limited to the premium.
Currency Call Option
A currency call option is when you are going long on a currency pair. You can buy or sell a currency call option. If you buy a currency call option, your maximum loss is the premium. If you sell the currency option, you take the other side of the contract, so the maximum profit is the premium, but the maximum losses is potentially unlimited.
Currency Put Option
A currency put option is when you are going short on a currency pair. Like call options traders can buy or sell put options.
The strike price is essentially the entry price. With Options you can select your own strike price. For example if the GBP/USD spot was at $1.98, you could buy a call option at $2. At expiry of the contract, your entry would be $2. Due to the fact that in this example the strike price is 200 away from the current spot price, the premium would reflect this difference. If a price lower than the spot price was selected, the premium would reflect this and be higher.
At the money
An at the money option is where the price of the contract is equal to the strike price
Out of the Money
An out of the money option is where the contract price is before the strike price. For example if a british pound call option strike price was $2 and the contract price was $1.98, the contract would be out of the money.
In the money
In the money is the opposite of out of the money. It is where the contract would have a value if the contract was closed at this point in time.
The are many factors that go into making the price of an option. Most commonly the main factors are the length of time to expiry, the expected volatility in the period and how far in or out of the money the strike price is.
Forex Options Strategies
There are literally hundreds, possibly thousands of strategies that options traders use. Some of them are extremely complex. I will just introduce a few of the basic ones here:
The long strange is where a call option and a put option are bought at the same time. This strategy can be used when you expect price action to be extremely volatile, but are unsure in which direction it will move. It allows the trader to potentially profit regardless of the direction the market moves. This is where a call and a put option are simultaneously bought. The most the trader can lose in this instance is the cost of the two premiums.
Bear Call Spread
A bear call spread is entered by buying call options at a at a specific strike price and selling the same number of options at a lower strike price. The same currency and same date of expiration must be used. This strategy has both a limited loss and a limited profit.
Forex Options Brokers
Forex Options and futures Brokers
Optionsexpress this broker offers both currency options and futures contracts
Saxobank This broker offers most intruments including stocks, spot forex, futures, options and CFDs
These are brokers I have personally tried and had a good experience with. They are by no means personal recommendations by fxtradingguide.com.
In conclusion trading online fx options involves risk. A good understanding is critical to success. Options can be a good way to trade currencies where the risk is limited regardless of how much the market moves against you.