A spot rate is the price of an asset like a commodity, an interest rate, or the exchange rate of a currency in a transaction involving immediate delivery and payment. Transactions that settle immediately are said to occur in the spot market because they occur “on the spot.”
Learn what a spot rate is, see common examples of spot rates, and explore how a spot rate is different from a forward rate.
Definition and Examples of Spot Rates
A spot rate is the price at which an asset can be immediately exchanged. Like all prices, the spot rate is determined by supply and demand for that particular asset.
- Alternate name: Spot price
An example of a spot rate would be what you would pay to purchase a commodity today, rather than in the future through a forward rate.
How Spot Rates Work
Because spot rates are the price you pay for something at a specific point in time, how they work is straightforward.
A commodity, security, or currency has a particular price that you’ll pay to immediately settle the transaction. That price may change from day to day, depending on what you’re buying or selling. The spot price is usually influenced by the number of people who are buying and selling the asset in question.
For bonds, the spot rate is the rate of interest you’ll be paid if you purchase the bond at a specific point in time.
Types of Spot Rates
Spot rates appear across a variety of assets and interest rates, including commodities, bond interest rates, exchange rates, and securities.
A commodity is a product or resource for which one unit is indistinguishable from the next. Examples are gold, silver, and other metals, natural resources like oil, and agricultural products including corn and wheat. Commodities are traded both in spot markets and futures markets. As with other spot prices, the spot rate is the price for the commodity today.
Bond Interest rates
The interest rate on a bond is the price that the issuer must pay to be able to use the funds it receives for selling that bond. The spot rate of interest is the yield on a zero-coupon bond for a specific maturity date.
The spot rate for a given time period is found by observing the yield to maturity on a zero-coupon bond for that time period. For example, the one-year spot rate is the yield to maturity on a zero-coupon bond that matures in one year. The two-year spot rate is the yield to maturity on a zero-coupon bond that matures in two years, and so forth.
The spot rates of various bond maturity terms create the term structure of interest rates, which is an important economic and financial concept.
The spot exchange rate is the amount of one currency that is needed to obtain a given amount of another currency at the current time. Typically, currency exchanged in the spot market is settled two days later.
Spot exchange rates are important because they affect the relative value of goods and services between the two countries and can alter the level of imports and exports between them.
The current market price of a security is the spot price for that security. Financial securities can also be traded based on futures contracts that establish prices and settlements for future dates.
Spot Rate vs. Forward Rate
|Spot Rate||Forward Rate|
|Price in the spot market.||Price in a forward contract.|
|The money and assets are exchanged immediately.||The money and assets are exchanged at the pre-specified time in the future.|
A spot rate is the price for an asset that is to be exchanged immediately. A forward rate, however, is an agreed-upon price for which the asset will be exchanged at a later date. Forward rates are a function of a forward contract and set by the parties involved.
All the details of the forward contract to include price, settlement date, and amount of the asset to be exchanged are decided when the contract is created. However, no money or assets are exchanged until the specified settlement date arrives. Standardized forward contracts that trade on an exchange are called futures.
Forward contracts can be used for both hedging risk or speculating on future price movements.
What It Means for Individual Investors
If an investor wishes to trade an asset immediately then the relevant price is the spot rate. Spot rates change over time, and, in the context of currency exchanges, may have an impact on a country’s economy. Spot rates aren’t the only rates available for you to buy and sell a commodity or currency; they can also be traded through a forward or futures contract for settlement at a later date.
- Spot rates are the prices of physical or financial assets in a transaction for immediate settlement.
- Spot rates of various maturity zero-coupon bonds are used to construct the term structure of interest rates.
- Unlike spot rates, forward rates are the agreed-upon price of an asset that is to be exchanged at some point in the future.