Futures, Options, and Speculators in Foreign Exchange Markets - dummies

Futures, Options, and Speculators in Foreign Exchange Markets

By Ayse Evrensel

First of all, the term speculators implies a variety of people. They may be individuals who are trying to make a buck. In foreign exchange (FX) markets, they are individuals who represent financial firms, banks, or MNCs. Independent of their identity, speculators want to make a profit by buying or selling foreign currency using FX derivatives.

Remember the golden rule of making money: Other than marrying into a rich family, if you want to make money through speculation, you need to buy low and sell high. No matter how sophisticated speculation may sound, it’s always about buying low and selling high.

As forward contracts, futures and options are contracts enabling you to buy or sell currency on a future date at a price (exchange rate) specified today. While the main function of all FX contracts is the same, futures and options share common characteristics but also have differences.

Common characteristics of futures and options:

  • These contracts are standardized. Their standardized nature implies that these FX instruments are denominated, for example, in multiples of $100,000.

  • They are tradable, which make them attractive to speculators.

The main difference between futures and options:

  • A futures contract implies that the holder of a futures contract has an obligation to fulfill the contract by buying or selling foreign currency at the specified exchange rate and at the specified date indicated in the contract.

  • In contrast, when you hold FX options, well, you have an option. If you have an FX option, you have the right but not an obligation to buy or sell foreign currency. If this sounds too good to be true, yes, it is. Having a choice between exercising and not exercising the option is not free.