Foreign Exchange Spot Market

An Introduction to Foreign Exchange Spot Market:

A foreign exchange spot market is a market for trading one currency against the another in such a way that the delivery takes place within 2 days of the execution of the trade. It usually takes two days to transfer cash from one bank to the other. The price is based on the ongoing exchange rate i.e. the current value of one country's currency relative to the another. The foreign exchange spot market is the largest market in the world with a transaction of more than US $ 1 trillion in a single day. The forex futures market is a minor derivative of this market and its size is 1/100th of that of the foreign exchange spot market.

Nature of Foreign Exchange Spot Markets:

A currency's spot rate is expressed as its value relative to the US dollar i.e the number of US dollars needed to buy one unit of the other currency. A foreign exchange spot market allow a company to buy or sell a foreign currency according to it's requirements. But even the daily movements in spot exchange rates are characterized by a number of vagaries. So those operating in this market are speculators rather than trend-followers. For this reason, it exposes an entrepreneur's cash management to a number of unpleasant alterations in foreign currencies.

The spot rate of a currency can be affected by various reasons such as the current and future expectations about the inflation rate, BOP(Balance Of Payments) situation, policies created by government and central bank and other economic indicators of the country.

Reasons for the trades to be settled 'on the spot':

Foreign exchange spot market is the most common form of currency trade because if the contracts are settled afterwards, then the traders might ask for compensation against the value that the money has gained over the duration of delivery. So these contracts are settled instantaneously using the electronic forex systems.