Forex Trading Example – The global foreign exchange market has an average daily trading volume of $5 trillion. It is valued at more than $ making it one of the largest marketplaces in the world. Within this market there is a growing category of derivatives: forex futures. This article will define and explain these futures contracts and their popular applications. as well as suggesting some analytical tools necessary to successfully negotiate contracts in the forex futures space.
Forex futures are standardized futures contracts to buy or sell currencies at a specified date, time and contract size. These contracts are traded on one of the world’s leading futures exchanges. Futures contracts are publicly traded. not regulated (Standardized in fixed contract sizes and settlement procedures) and guaranteed credit loss by an intermediary known as a clearing house, namely
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The clearinghouse provides this guarantee through a process where daily accumulated profits and losses are converted into real cash losses and credited or debited to the account holder. This process is known as mark-to-market. Use the average of the last few trades of the day to calculate the settlement price. This settlement price is used to determine whether a profit or loss is made in the futures account. In the period between the previous day’s settlement and the present day Profit and loss will depend on the last settled price.
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The futures clearing house requires a deposit from the participant known as margin. This is different from the stock market margin, which is a broker loan to the client based on the current portfolio value. The futures market margin represents the initial amount deposited to meet the minimum requirements, i.e. no borrowing is involved. And this default margin acts as a form of good faith to ensure that both parties involved in the trade will meet their obligations. This is generally lower than the required margin on the stock market.
If the account suffers a loss after Daily Mark-to-Market Futures position holders must ensure that they maintain their margin level above the predetermined amount. This is known as the maintenance allowance. If the accumulated loss reduces the account balance below the maintenance margin The trader will be charged a margin and must make a deposit to get the margin back to the initial amount.
Examples of margin requirements for each type of contract can be found on the Chicago Mercantile Exchange or CME website (more on CME below).
Forex futures are traded on exchanges around the world. One of the most popular exchanges is the Chicago Mercantile Exchange (CME) Group Forex. It can be traded on the Pit Floor by real traders in an open environment or by fully electronic methods with access to computers and the Internet. The open outcry has ended in much of Europe and replaced by e-commerce.
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As mentioned earlier In terms of fixed volume of derivatives traded, the CME Group leads the pack with an average daily volume (ADV) of 19.1 million contracts in 2020. The majority of Forex futures contracts are traded by the CME Group and its intermediaries.
Each futures contract is backed by the exchange and has unique characteristics that distinguish it from others. For example, CAD/USD futures are actually delivered on the settlement date. The standard size is 100,000 Canadian dollars. and has a quarterly cycle in March (i.e. March, June, September and December) traded for 20 months on a
However, what is most interesting to traders is that minimum price volatility, also known as a tick, is unique to each contract. And traders need to understand the specifics of each contract. For the CAD/USD contract, the tick or minimum price is $.0001 per Canadian dollar rising or falling. with a standard contract of $100,000 CAD This translates to $10 each way. This means that if the Canadian dollar rises from .78700 USD to .78750 USD, the short seller will lose 5 ticks or $50 per contract.
Unlike CAD/USD futures, the CHF/USD contract has a contract size of 125,000 CHF, in this case $0.0001 per increment of the Swiss franc, or $12.50 per contract.
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The futures market offers micro contracts that are 1/10 of the standard contract and e-mini, half of the normal contract.
Sized with their regular counterparts, E-minis are ideal for new traders due to their increased liquidity and accessibility due to their lower margin requirements. Trading contracts 23 hours a day, Monday to Friday, worldwide.
Forex futures are widely used for hedging and speculation activities. Let’s look at a brief example of using FX Futures to mitigate foreign exchange risk.
An American company doing business in Europe expects to receive €1,000,000 for services rendered over five months. For example, imagine that the current EUR/USD rate is $1.04.
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Due to fears that the euro will depreciate further against the dollar. The company was able to protect against impending payments by selling 8 euro futures contracts worth 125,000 euros each, expiring in 5 months at $1.06 per dollar per euro. in the next five months When the euro weakens again against the dollar Company accounts are credited daily by the clearing house.
After some time and the Euro falls to $1.03, the Fund receives $3,750 per contract shorted, 300 ticks (at a minimum price movement per tick of .0001) and is calculated with a multiplier of $12.50 per contract. By selling 8 contracts. No. The company has a net profit of $30,000 before clearing fees and commissions.
If the US company in the example does not enter this trade and receives euros at spot rates, They will lose $10,000: $1.04 EUR/USD spot five months before the futures expire. And futures expiration will change to $1.03 at $10,000 spot per €1,000,000 loss.
Like the stock market The type of trading method depends on individual preferences. both in terms of technicality and time frame
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Day traders usually don’t hold positions overnight and can enter and exit trades within minutes in an attempt to cross intraday swings. One day trader M.O. focuses on price action and volume with heavy emphasis on Technical analysis as opposed to fundamental Forex futures traders use key technical indicators prevalent in the spot market such as Fibonacci patterns, Bollinger Bands, MACD, oscillators, moving averages, trendline chart patterns. and support and resistance
Many aspects of technical analysis for equities are not interchangeable with the futures market. Therefore, trading between the two assets is easy for day traders.
Swing traders are traders who hold positions overnight for up to one month. It generally uses technical analysis that covers long time frames. (hourly to daily charts) as well as short term macroeconomic factors.
Finally, there are position traders who hold positions for weeks to years. for these people Technical analysis may overshadow macroeconomic factors. Position traders are not concerned with the day-to-day fluctuations in contract prices. Because of this, they may use wider stop losses and risk management principles that differ from swing traders or day traders.
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However, keep in mind that these are general definitions and the different characteristics of a trader are not black and white. Sometimes day traders may use fundamental analysis, such as when the Federal Open Market Committee releases.
With the same token Position traders can use technical analysis tools to create entries, exits and trailing stop losses. Moreover, the timeframes used by traders are quite individual. And day traders may hold positions overnight. While swing traders may hold positions for months at a time. Like the stock market The type of trading style is subjective and varies from person to person.
Like the stock market FX futures traders use both technical and fundamental analysis. Technical analysis by its very nature examines price and volume data, and subsequently, similar methods are prevalent in both the equities and futures markets.
However, the biggest analytical differences between FX traders and stock traders. is how they use fundamental analysis. Fundamental analysis in the stock market may focus on examining a company’s accounting statements. Management Discussion and Analysis performance analysis ratio analysis and industry analysis depending on the analyst Broader macroeconomic principles may obscure company specifics. However, traders of FX Futures (and FX in general) must be thoroughly familiar with macroeconomic principles and forecasting techniques.
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Young FX futures traders need to understand the many factors that can affect a country’s currency, such as the causes and effects of inflation/deflation. as well as the available countermeasures
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