Forwards, Firm Orders & Options Explained
What Are They & Can They Help Your FX Transfers?
The most common type of transfer that you’re going to come across in international money transfers is called a spot transfer, or spot contract. This is your normal transfer from one currency to another at the current market rate. For example, you send US Dollar through your bank or FX provider into Pound Sterling, at the prevailing market rate. Easy.
But you may have heard people talking about making a forward trade, or hedging against future market movements using options… This is where it becomes a bit more tricky.
No matter what type of trade you’re doing, you’re taking on some type of risk. Be it a spot trade or any other kind of trade. It’s always best to speak to a financial advisor before going through with any FX trade.
Let’s go through some of the common transfers that some people utilize when sending money internationally.
A Forward Contract is where you make a commitment to buy or sell a certain currency in the future.
For example, you know that in 6 months time that you need to make a USD to INR trade, but you’re worried that the exchange rate will change between now and 6 months time. A forward contract allows you to lock in an exchange rate now, for the trade in 6 months time.
This allows you to minimize the effects of a downturn in the exchange rate. BUT! You must also remember that by doing this you will also miss out on any gains that you might have made if the exchange rate turned in your favor.
Forward contracts have a wide range of applications and are regularly used in business and individual circumstances. Somebody buying property overseas, for example, might use a forward contract when they agree to purchase, but settlement might not be for 90 days. A sudden downturn in the currency value would make their property a whole lot more expensive all of a sudden. A forward contract would minimize that risk.
So, forward contract locks in a future rate. Minimizes the effects of a downturn in the currency, but also minimizes gains from upturns in the currency.
A Firm Order or Limit Order allows you to buy or sell a currency at an exchange rate that you choose, and the trade will be executed once the market hits that rate.
For example, your current AUD to USD rate might be 0.75, but you have a business deal that would only be viable at 0.78. You might place a firm order at 0.78, and that trade would be made when the rate hits 0.78. However! Your rate may not ever hit 0.78. It may stay the same, or go down, or it may hit 0.78 3 years from now.
So the risk of placing firm orders is that you never know if or when they’re actually going to go ahead. You can normally cancel a firm order with minimal or no cost.
Options & Structure FX Products
The Terms Options & Structured FX Products cover a wide range of FX strategies that some people and businesses take in the FX market.
At the basic level, an Option is normally purchased at a premium and gives the purchaser the right, but not the obligation to buy or sell a currency at a future point in time.
There’s plenty of jargon that pops up in the world of options. – A Put Option gives you the right to sell at a future date and price. – A Call Option gives you the right to buy at a future date and price. You can go Long(buy) and you can go short(sell). There’s Straddles, Strangles, Long Call Butterflies, Iron Condors, and many many more…
Options should not be looked into lightly. They are usually used by big businesses with financial teams, to hedge against global market risks. If you’re using this article to make a decision whether or not you want to purchase options, then you’re probably not in the position to be purchasing options…
Options can be very beneficial to large scale operations, but also come with a huge amount of risk; if you don’t know what you’re doing. There have been numerous cases recently where individuals and businesses have lost large sums of money trading options, and court cases with FX companies have ensued. Because of this, a lot of the major FX brokers have moved away from offering options.