This interest is credited or debited to the trader’s account each night. On rollover, the buyer and seller of the spot contract settle any interest payments due. It gives the impression of a fixed holding rather than a contract that’s due for settlement in two business days. This happens when a client wishes to keep a spot contract open indefinitely. Rollover is the practice of closing and reopening cash positions each night.

Most of those who trade spot currency will be accustomed with the process of rollover. In the US the regulatory body is the CFTC. Exchange membership demands strict margin rules and unlike spot forex brokers, futures brokers must be regulated. When trading futures through a broker, the broker has to be member of the exchange. If the trade is executed through a small FX broker, clients often don’t know how creditworthy the broker’s liquidity providers are or even know who they are. In a spot forex trade, the counterparty is usually the market maker. In a futures transaction, the exchange is always the counterparty to both sides of the transaction. But if a firm is hedging $300 million dollars of currency exposure, then counterparty risk is a real cause of concern. Counterparty risk is the risk of the buyer or seller not fulfilling their obligation in the contract.įor a small transaction on a trading account this might not seem significant. In addition to improving transparency, trading futures also reduces counterparty risk.

Ensuring exchange members meet margin requirements.

Matching buyers and sellers at nearest bid/ask point.

Specifying the futures contracts including size, margin, and terms of settlement.The main duties of a futures exchange are: In contrast, the role of a market maker is to create liquidity and therefore they can take a trade even if there is no buyer or seller on the other side.

The exchange’s fee includes the cost of trading and clearance.Ī futures exchange only matches an order when both a buyer and seller exist. And the buyer and seller enter the contract at the same price, the mid-point between the bid/ask. On the other hand most futures exchanges use a fixed-commission per contract. This spread can vary depending on market conditions. In OTC, to make a profit, a market maker must create an artificial bid-offer spread. In contrast to a quotation from a dealer, the exchanges’ quotes are actual prices buyers and sellers are willing to pay. They can look at the most recent bid and ask prices for each contract and get an idea of market depth. Traders can see the flow of orders that the exchange is receiving. Unlike a market maker, futures exchanges broadcast buyer/seller quotes for each market they trade in. Main differences between a cash and a futures tradeĪs well as the difference between delivery dates, the core difference between trading spot currencies and trading futures is that the entire transaction is handled not by a market maker but by the exchange.įigure 2: Futures trade on an exchange © forexop In practice most futures contracts are closed before expiry and are settled in cash rather than by delivery. The buyer of the futures contract agrees to purchase and the seller agrees to deliver a specified amount of the commodity at settlement.

Today exchanges offer futures trading in everything from oils, metals, softs to interest rates, currencies and even weather. The original purpose of futures was to allow producers and receivers to lock in prices for commodities that would be bought or sold at a later date. If we look closer though there are some subtle differences. The mechanics of trading futures isn’t unlike trading spot currencies. The existence of a market-maker acting as middle-man means that an over the counter transaction is less transparent and more open to manipulation than is a similar transaction through a futures exchange. While the solvency of major banks isn’t a cause of concern, that can’t be said of some of the smaller lesser regulated providers that serve retail clients. In spot forex the market-maker is nearly always counterparty to the trade on both the buy and sell side. That means a market maker is exposed to market risk and that risk has to be compensated in their fees. Their trade book isn’t always neutral and they can have net long or net short exposure depending on the flow or orders. Unlike an exchange, a market maker must buy or sell – even if there isn’t another side to the trade – in order to maintain liquidity. The spread between the bid and ask is a trading cost paid on both opening and closing a position and is where the maker tries to create profit.Ī market maker is always deciding an artificial price, even though that price is tied to the broader market and order flow. Figure 1: Typical cash trade through a market maker © forexopĪ market maker publishes a two-way bid and ask price at which they commit to trade long or short.

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