Introduction to the Currency Futures Markets

How Currency Futures Work

man looking at stock information on computer
Rafe Swan/Cultura/Getty Images

Currency futures are a futures contract where the underlying asset is a currency exchange rate, such as the Euro to US Dollar exchange rate, or the British Pound to US Dollar exchange rate. Currency futures are essentially the same as all other futures markets (index and commodity futures markets), and are traded in the same way.

Futures based upon currencies are similar to the actual currency markets (often known as Forex), but there are some significant differences.

For example, currency futures are traded via exchanges, such as the CME (Chicago Mercantile Exchange), but the currency markets are traded via currency brokers, and are therefore not as regulated as currency futures. Some day traders prefer the currency markets while others prefer currency futures.

Currency futures do not suffer from some of the problems that currency markets suffer from, such as currency brokers trading against their clients, and non-centralized pricing. On the flip side, forex trading is much more flexible, allowing traders access to high leverage and trading in very specific position sizes. Currency futures only trade in one contract size, so traders must trade in multiples of that. As an example, buying a Euro FX contract means the trader is effectively holding 125,000 euros. In the actual forex market, a trader can trade in multiples of $1000, and can therefore fine-tune their position size to a much greater degree.

One market isn't better than another, but one may suit a trader (and their account size) better than the other.

Settlement, Delivery and Profits

Currency futures are based upon the exchange rate of a currency pair, and are settled in cash in the underlying currency. For example, the EUR futures market is based upon the Euro to US Dollar exchange rate, and has the Euro as its underlying currency.

When a EUR futures contract expires, the holder receives delivery of $125,000 worth of Euros in cash. Note that this only happens when the contract expires. Day traders do not usually hold futures contracts until they expire. Therefore, they should not be involved in the settlement, and will not receive delivery of the underlying currency.

Day trading, and anyone who is trading currency futures for speculation/profit, reaps a profit based on the price difference between what they buy the contract at and the price they sell it at. With futures, you can also sell first and then buy later, collecting a profit if the price drops.

The profit on a currency trade is calculated as the difference between the entry price and exit price (in ticks), multiplied by the tick value, multiplied by the number of contracts taken on the trade.

For example, assume a trader buys a Euro FX contract at 1.2525 and then sells it at 1.2545. That is a 20 tick profit, and each tick in that contract is worth $12.50. Therefore, the profit is $12.50 x 20, multiplied by the number of contracts the trader had bought.

Each currency contract may have a different tick value. This can be checked on the exchange website (CME, for example).

Margin

Currency futures margin should not be confused with margin/leverage as it applies to stocks or the underlying currency market.

With currency futures (or any futures contract), margin refers to how much the trader must have in their account in order to open a one contract trade. To trade a Euro FX contract, a broker may require the trader have at least $2,310 to $3,000 in their account, as margins can vary by broker (although the minimum is set by the exchange). That is to hold a position overnight. If day trading, brokers usually provide preferential margin, often only requiring a $500 balance be maintained in the account while holding the position.

Margin is not a cost. Think of it as money that is held by the broker to offset any losses you may incur on the trade. Once the trade is closed, you will be able to use those margined funds again.

Popular Currency Futures

Many of the most popular futures markets that are based upon currencies are offered by the CME (Chicago Mercantile Exchange), including the following :

  • EUR - The Euro to US Dollar currency future
  • GBP - The British Pound to US Dollar currency future
  • CHF - The Swiss Franc to US Dollar currency future
  • AUD - The Australian Dollar to US Dollar currency future
  • CAD - The Canadian Dollar to US Dollar currency future
  • RP - The Euro to British Pound currency future
  • RF - The Euro to Swiss Franc currency future

Many other currency pairs are also offered for trading via futures contract.

Final Word on Currency Futures

Currency futures are a regulated and centralized way to participate in currency market movements. Currency futures move in increments called ticks, and each tick of movement has a value. How many ticks are made or lost on a trade determines the loss/profit of the trade. To open a currency futures trade, the trader must have a set minimum amount of capital in their account, called the margin. There are many currency futures contracts to trade, and specifications for each one should be checked on the exchange website before trading it.