Your Total Guide in Forex Trading

In forex trading there are two fundamental concepts that need to be understood in order to manage the financial risks: the spot and forward contracts. These are basically contracts between end users and financial institutions that lay out the terms and specifications in the exchange one currency to another.

There are basically four things that must be settled between the end user and the financial institution before the trading. First, there is the currencies to be bought and sold. Remember that in foreign exchange, one is selling one currency to buy another. For instance, in selling your US dollar, you are automatically exchanging it for another currency, say the PH peso.

Second is the amount of currency to be bought or sold. It is more difficult to buy than to sell dollars because of the implications it has on the economy. Most banks would require you to disclose your purpose for purchasing the dollar especially if these are in large amounts.

The third and fourth considerations would be the maturity date of the contract and the rate the exchange of currencies will occur.

The spot and forward contracts differ on the maturity date of the contract. The exchange rate that is printed in newspapers or aired in TV business news assumes a deal with maturity of 2 business days ahead. Such is called the spot transaction. The currency being bought would be receivable in 2 days, the currency sold payable in 2 days also, except for the CAD or Canadian dollar.

What about if you want to know the exchange rate now?

To illustrate, a local business in the Philippines contracted to purchase a textile machine in US denomination but would be payable in a year. Because of the time lag, it wouldn't want for the US dollar to become too strong vis--vis the peso. It could settle a rate with the bank at which he could but US dollars in the future and then disclose the amount of US dollars to be bought, and the date when he needs it. More importantly, he should be certain of the current value of the peso. In summary, a forward contract allows a bank and its customer, to arrange for an exchange of currencies on a specified future date, at the current market price.

There are 2 bases in determining the exchange rate one year forward, as in the example above. First is the current spot rate, second is the forward rate adjustment.

The spot transaction is easily determined by the market, guided by the laws of supply and demand. From this point of view, the forward contract is much more complex as it involves computation of interest rates of the currencies involved--- essential in establishing the forward rate adjustment.

When wary whether you are taking the correct actions in foreign exchange, do not hesitate to consult with your preferred bank or financial institutions. They usually have customer service that guides and gives pieces of financial advice to their clients. It would also help to keep your self updated with local and global issues as these have an effect on the volatility of the exchange rate. Also, do not be afraid to take advantage of the plentiful and reliable information in the web which would direct you on how to play your money right.