What is a spot contract?
A spot contract is an agreement that enables you to buy and sell an asset at the current market rate, known as the spot price. Spot contracts are most commonly associated with commodities, currencies and bonds, but are also available on a range of markets, such as cryptocurrencies and even property.
Most spot contracts are settled physically, resulting in the delivery of the asset in question, which usually takes place within one business day. However, forex trades can take approximately two days. For example, if you bought a spot contract on Brent crude oil, you’d pay the most recent market price and take ownership of the underlying oil but delivery would occur the next day.
In most instances, you’d pay at the point of purchase rather than settlement – in what’s known as a ‘buy now, pay now’ arrangement. This is in contrast with futures, forwards and options, which are all used to speculate on the future value of a market. For all three contracts, you’d agree the price of an asset in the present, but set a date of exchange at some point in the future – known as the expiry date.
When you trade spot contracts with us, you’d be speculating on the underlying market price. This means you’d never have to take physical delivery of the asset in question and would always settle in cash. You’d be taking a position on whether spot prices will rise or fall, which would open up a wider range of opportunities.
How do spot contracts work?
Spot contracts work by tracking the spot price of an asset, so that you can take a position on the most recent buy and sell orders of market participants.
Once you’ve chosen a price level you’re comfortable entering the market at, you can enter your position. At which point, your spot contract is automatically created, and you’d be part of a binding agreement to exchange the asset immediately or settle in cash.
Spot prices usually change much faster than futures or options markets, especially in liquid markets where there are a high number of market participants making bids and offers. Fast-changing rates can impact your trade, as it could be executed at a different price from the one you requested – known as negative slippage.
To prevent slippage, you can attach a guaranteed stop loss to your position, which will ensure your trade is always placed at the level you’ve chosen. There is no fee to attach the stop, but if it is triggered, you would incur a small premium.
Futures and options can be used to hedge against volatility as they can enable you to lock in a market price and mitigate the risks of exchange rate differentials.