Futures can be essential for hedging against currency risk in forex trading. Futures contracts are standardised agreements to buy or sell a particular currency at a set price on a future date. By hedging with futures, traders can protect themselves from the potential losses that can occur if the value of a currency moves against their position.
In addition to protecting from currency risk, traders can also use futures to speculate on the future direction of a currency’s value. For example, if a UK trader believes that the US dollar value will increase against the Japanese yen, they could buy USD/JPY futures contracts to profit from this expected movement.
While futures can be a helpful tool for hedging and speculation, it’s important to remember that they are not without risk. Futures contracts are often leveraged, meaning traders only have to invest a small amount of capital in taking on a much more prominent position, which can amplify both profits and losses, so it’s crucial to use proper risk management techniques when trading futures.
What are the risks of trading futures in the UK?
When trading futures contracts in the UK, there are a few key risks to be aware of.
The risk of counterparty default
First and foremost is the risk of counterparty default when the party you’re trading with doesn’t uphold their side of the agreement, which could leave you without the currency you were expecting to receive (or having to deliver currency you don’t have). To help mitigate this risk, it’s essential to trade with a reputable broker with a good track record of honouring their contracts.
Exchange rate risk
Another critical risk is exchange rate risk, which refers to the potential changes in currency values to impact the price of your futures contract. For example, if you’re long USD/JPY and the US dollar value falls against the yen, the price of your futures contract will also decline (all other things being equal).
To help manage exchange rate risk, traders can use a stop-loss order which automatically closes out a position once it hits a specific price. They can also use limit orders, which allow them to set a maximum price they’re willing to pay (or the minimum price they’re willing to sell at).
Another potential risk when trading futures is margin calls, which occur when the value of your account falls below the required minimum amount, and you’ll be asked to provide more funds to maintain your position. If you don’t have the available capital, your broker may be forced to liquidate your position at a loss.
To help avoid margin calls, use proper risk management techniques and never over-leverage your account.
What are the benefits of trading futures in the UK?
In addition to the risks, there are also several potential benefits of trading futures in the UK.
Futures can provide access to markets that are difficult to trade
The first is that futures can provide access to markets that might be otherwise difficult or impossible to trade. For example, foreign currency markets can be pretty volatile and may have large bid-ask spreads (the difference between the prices quoted for immediate purchase and sale of a security). Futures contracts can help traders take advantage of market price movements without worrying about the bid-ask spread.
Futures offer a higher degree of leverage
Another potential benefit is that futures can offer higher leverage than other trades. Traders can control a more prominent position with less capital, leading to increased profits (or losses).
Traders can use futures to hedge against currency risk
Finally, futures can be a helpful tool for hedging currency risk. If you have positions in other markets denominated in a foreign currency, you can use futures to offset any potential losses if the currency value falls.
The bottom line
Futures can be a helpful tool for hedging and speculation, but it’s important to remember that they come with risks. Ensure you understand the potential risks and rewards before entering into future contracts. Always use a reputable and experienced broker from Saxo Capital Markets, and never over-leverage your account.