The speed of spot trading is for the brave ones because it has high volatility and quick profits (and losses). A spot deal consists of a bilateral contract where a party delivers a specified amount of a given currency against receipt of a specified amount of another currency from counterparty, based on an agreed exchange rate, within two business days of the deal date. The exception is the Canadian dollar, in which the spot delivery is executed the next business day.
The name "spot" does not mean that the currency exchange takes place on the same business day the deal is executed. Currency transactions that require same-day delivery are called cash transactions.
It is important to keep in mind that the two-day spot delivery for currencies was developed long before all the technological breakthroughs in information processing. This time period was necessary to check out all the details of the transactions among counterparties.
In terms of volume, currencies around the world are traded mostly against the U.S. dollar because it is the currency of reference. Here you have a list of the most traded currencies in order of volume:
- US dollar
- Japanese yen
- Pound sterling
- Swiss franc
- Australian dollar
- Canadian dollar
- Swedish krona
- Hong Kong dollar
- Norwegian krone
- New Zealand dollar
- Mexican peso
In addition, a significant share of trading takes place in the currencies crosses
, which is a non-dollar instrument where foreign currencies are quoted against other foreign currencies, such as euro against Japanese yen.
The reasons why currency spot trading is so popular are:
- Profits and losses are realized quickly due to volatility.
- The time exposure to credit risk is limited because the spot deals mature in only two business days.
That has brought a dramatic increase in spot trading: profitability and reduced credit risk. This trading is characterized by high liquidity and high volatility, so that makes it very attractive.
In an active global trading day (24 hours), the euro/dollar exchange rate may change its value 18,000 times. An exchange rate may "fly" 200 pips in a matter of seconds if the market gets wind of a significant event. On the other hand, the exchange rate may remain quite static for extended periods of time, even in excess of an hour, when one market is almost finished trading and waiting for the next market to take over.
In the United States, the majority of spot trading deals are executed between 8 am and noon, when the New York and European markets overlap. The activity drops sharply in the afternoon (over 50%) when New York loses the international trading support. Overnight trading is limited, as very few banks have overnight desks. Most of the banks send their overnight orders to branches or other banks that operate in the active time zones.
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