What is Spot Trade?

Spot marketsSpot MarketsThe spot market, often called a cash/physical market, is a financial market where stocks, bonds and currencies are bought and sold for delivery with a usual settlement time of two business days from the day the trade was initiated (T+2). The settlement price is called the spot price.read more are also known as financial marketsFinancial MarketsThe term “financial market” refers to the marketplace where activities such as the creation and trading of various financial assets such as bonds, stocks, commodities, currencies, and derivatives take place. It provides a platform for sellers and buyers to interact and trade at a price determined by market forces.read more, cash markets, or physical markets. The term physical market refers to the physical exchange and delivery of assets. In most financial markets, settlements take two working days.

Key Takeaways

  • In spot trading transactions, the payment and delivery of the securities occur immediately—at over-the-counter markets. The securities are bought at the current market price, also known as the spot price. Options and futures contracts are the opposite of spot trade, with the payment being set on a predetermined date on special prices. An investor involved in spot trade must first study the market.

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Spot Trade Explained

Spot trade occurs in spot markets. Assets and commodities are bought at current market value. These transactions are immediate, and there is a physical transfer of securities. Usually, the transactions get completed within two working days—denoted as T+2 days.

Buyers and sellers determine the price through supply and demandSupply And DemandSupply has a direct relationship with the price. Thus, if the price rises, the product’s supply will also increase, and if the price falls, then supply will also decrease. In contrast, demand has an indirect relationship with price. Thus, if the price drops, demand will rise and vice-versa.read more. Spot markets encourage a transparent environment. In such trades, each transaction member is fully aware of all the prices and details.

Unlike future marketsFuture MarketsA futures market is a financial marketplace where participants trade futures contracts for commodities, stock indices, currency pairs, and interest rates at a pre-determined rate and agreed-upon future date. It, thus, protects investors and traders from losing money on a transaction even if the price of the commodity or financial instrument rises or falls later.read more, there is no minimum capital limit for spot market transactions. At times, investors end up buying assets at an inflated price due to volatility. Later, the price declines to the fair value. It is a constant risk associated with volatile assets. In addition, there is less scope for recourse once the transaction gets completed.

Spot trades occur swiftly and in real-time; as a result, there is a lack of planning. Spot market transactions are inflexible, and parties have to handle physical delivery. In spot trade settlements, the interest rate is influenced by counterparty default riskDefault RiskDefault risk is a form of risk that measures the likelihood of not fulfilling obligations, such as principal or interest repayment, and is determined mathematically based on prior commitments, financial conditions, market conditions, liquidity position, and current obligations, among other factors.read more. Therefore, investors indulging in spot trading should be ready with an investment strategy and planning. Real-time decision-making is a high-pressure situation—investors must control their emotions, else they end up with significant losses.

Cryptocurrency Spot Trade

Binance is a spot trading platform for cryptocurrencyCryptocurrencyCryptocurrency refers to a technology that acts as a medium for facilitating the conduct of different financial transactions which are safe and secure. It is one of the tradable digital forms of money, allowing the person to send or receive the money from the other party without any help of the third party service.read more. Traders create a Binance account and then choose a cryptocurrency pair to make a trade. Traders are not required to buy cryptocurrencies with fiat; they can exchange them for other coins and tokens on the spot. 

Types

There are two types of spot markets:

#1 – OTC Markets

Over-the-counter (OTC) initiates bilateral trades between sellers and buyers through consensus. There is no third party or a central exchange institution to regulate the trade. As a result, traded assets may not be standardized in terms of quantity price, as is the norm with organized exchanges.

 In OTC marketsOTC MarketsOTC markets are the markets where trading of financial securities such as commodities, currencies, stocks, and other non-financial trading instruments takes place over the counter (instead of a recognized stock exchange), directly between the two parties involved, with or without the help of private securities dealers.read more, buyers and sellers bargain on all terms of trade and settle the transaction on the spot. These trades occur privately—OTC prices do not get published.

The currency exchange marketCurrency Exchange MarketFor those wishing to invest in currencies, the currency market is a one-stop solution. In the currency market different currencies are bought and sold by participants operating in various jurisdictions across the world. It is important in international trade and is also known as Forex or Foreign Exchange.read more is the most active OTC market. A foreign exchange spot transaction is known as an FX spot. Two parties enter an agreement to exchange currencies at a specified price on the spot date. The exchange rate for the FX spot is called the spot exchange rate.

 #2 – Markets Exchanges

In market exchange, buyers bid on financial instrumentsFinancial InstrumentsFinancial instruments are certain contracts or documents that act as financial assets such as debentures and bonds, receivables, cash deposits, bank balances, swaps, cap, futures, shares, bills of exchange, forwards, FRA or forward rate agreement, etc. to one organization and as a liability to another organization and are solely taken into use for trading purposes.read more offered by sellers. Trading is facilitated by an electronic trading platform or a trading floor. This upgrade has made trading more efficient—instant price determination.

Some exchanges deal with a particular niche and specific types of assetsTypes Of AssetsAssets are the resources owned by individuals, companies, or governments expected to generate future cash flows over a long period. There are broadly three types of asset distribution: 1. Based on convertibility (current and non-current assets), 2. Physical existence (tangible and intangible assets), 3. Usage (operating and non-operating assets)read more. Exchange brokers (market makersMarket MakersMarket makers are the financial institution and investment banks which ensures enough amount of liquidity in the market by maintaining enough trading volume in the market so that trading can be done without any problem.read more) formulate trading. At an exchange, all the traded assets are standardized.

Usually, there is a minimum contract price for traded assets. Spot pricesSpot PricesA spot price is the current market price of a commodity, financial product, or derivative product, and it is the price at which an investor or trader can buy or sell an asset or security for immediate delivery.read more can change every minute or even within milliseconds.

NYSE and NASDAQNYSE And NASDAQNASDAQ is the National Association of Securities Dealers Automated Quotations exchange to buy and sell stocks and provides a critical index indicating the stock market’s performance. In contrast, NYSE is the New York Stock Exchange, the world’s largest stock exchange based on listed securities total market capitalization.read more are global market exchanges located in the US. Other examples include The London Stock Exchange (LSE), The Hong Kong Stock Exchange (HKSE), and The Shanghai Stock Exchange (SSE).

Examples

Let us look at some examples to understand the practical application of spot trading.

Example #1

In December 2020, spot markets moved slowly—the flatling of oil futures put the brakes on buying. However, almost 20 Angolan Cargoes were made available in January. Many IOC (Indian Oil Corporation) tenders closed within a week. Unipec bought a cargo of Djeno and IOC issued a tender for cargo in January. Sasol from South Africa came forward with a buy tender for February arrivals. At the same time, Perenco and SNH offered two Cameroonian Kole crude cargos through a closing tender.

Example #2

Spot prices rose for hot-rolled coil in China’s domestic and export markets after ferrous futures prices made a bull run across the board. It stemmed losses caused by Chinese regulators—who tried to stabilize iron ore prices. However, spot HRC prices declined for two days in Eastern China before the spike occurred.

This has been a Guide to What is Spot Trade and its Meaning. Here we discuss spot trade transactions, examples, fx spot, cryptocurrency trades, spot traders, and spot trade vs. futures. You may also have a look at the following articles to learn more –

The transaction takes place immediately. So, in a way, a supermarket purchase can be used as an analogy—when a person goes to a supermarket to buy a product, they pay for it and almost immediately receive the product. Spot markets operate in a similar manner.

It is like any other transaction in the financial market. There is only one difference— the whole process occurs immediately with a physical exchange of assets. Therefore, there is no real proof of whether it can make investor money or not.

It is called spot trading because the transactions take place on the spot. Therefore, there is no delay in payment or delivery. But for settlement, it usually takes two working days from the day the trade was initiated.

  • Spot RateForward RateSpot Price