1. Home
2. Day Trading Strategies

Spot Trading

Written By

Royston Wild

Written By

Royston Wild

Royston is an experienced investor and writer. His expertise includes stock recommendations through to commodities, forex, and macroeconomic news. Royston's background includes roles as a stocks and commodities reporter, and editor of forex coverage at Shares Magazine.

» Royston Wild Profile Page

Edited By

James Barra

Edited By

James Barra

James is an investment writer with a background in financial services. As a former management consultant, he has worked on major operational transformation programmes at prominent European banks. James authors, edits and fact-checks content for a series of investing websites.

» James Barra Profile Page

Fact Checked By

William Berg

Fact Checked By

William Berg

William contributes to several investment websites, leveraging his experience as a consultant for IPOs in the Nordic market and background providing localization for forex trading software. William has worked as a writer and fact-checker for a long row of financial publications.

» William Berg Profile Page

Updated

Aug 15, 2024

Spot trading is done in a type of market in which goods or services are traded immediately for cash. Buyers and sellers will make a deal, and the transaction is done “on the spot” – i.e., completed straightaway.

The relative simplicity of spot trading compared with derivatives like futures or options makes it popular. Spot trading also suits short-term traders because of low costs and access to diverse, highly liquid markets.

Quick Introduction

• Spot trading refers to the buying or selling of a security for settlement either immediately or within two business days, known as T+2.
• The majority of spot trading is conducted over the counter (OTC) rather than on regulated exchanges. OTC markets can be done between any two consenting parties.
• Forex, cryptocurrencies and commodities are all popularly traded with the use of spot contracts, providing diverse day trading opportunities.

How Did We Choose The Best Brokers For Spot Trading?

What Is Spot Trading?

With spot transactions, the exchange of the asset and payment occurs either immediately or shortly after the trade is executed.

On-the-spot trades typically complete within two business days (often expressed as T+2).

Spot prices are influenced by the classic forces of supply and demand, and the terms of these transactions are generally quite simple compared with those of most other financial instruments.

Royston Wild

Author

The foreign exchange (or forex) market is among the most popular venue for spot traders, with daily trading volumes reaching over $2 trillion in recent years.

According to the Bank for International Settlements, the daily value of spot transactions in the currency market is steadily growing. However, the proportion of these trades continued to decline relative to derivatives.

Where Does Spot Trading Take Place?

There are two ways that spot traders go about their business:

• Most transactions are carried out over the counter (OTC), where buying and selling take place directly between two parties.
• But contracts (particularly those involving cryptocurrencies) also change hands on centralized financial exchanges.

Trading over the counter (or off-exchange) has certain advantages for investors. These include client privacy, lower trader costs, better contract customization and the opportunity for market participants to deal 24/7.

However, OTC trading exposes you to a greater risk of fraud and market manipulation due to a lack of regulatory oversight.

A lack of transparency on key information, such as pricing and volumes, is another major drawback, as is the threat of counterparty risk (where one party fails to meet its financial obligations).

How Spot Trading Works

Trading on the spot is intuitive, easy to grasp, and lends itself to multiple trading strategies. This all means it is a popular first step for those who are new to short-term trading.

Let’s say that I wish to purchase spot gold in US dollars…

Today, the yellow metal is changing hands at $2,068.10 per ounce, as you can see below.

I expect prices to appreciate from current levels, a scenario which would allow me to make a profit by selling higher at a later date.

The first step on my trading journey is to find a broker who will allow me to buy the commodity in my desired currency (this shouldn’t be a difficult task given the popularity of precious metals trading in dollars!).

Once I’ve selected a brokerage, I’ll place a spot buy order at my desired price and quantity.

If I find a seller who is happy to accept my offer, the deal will be executed, and the gold will be transferred to my portfolio.

The transaction should be settled within two business days of completion.

Spot Trading vs Futures Trading

When someone references the spot market, it means the current price that can be transacted in for the current month’s (or period’s) delivery.

For instance, when people say something like “oil is $100 per barrel” they are often referencing the spot market. The price in other months, up to many years down the road, is often called term pricing.

The shape of the entire curve is often called the futures term structure.

The following chart is an example of the price curve of WTI crude oil. It shows a relatively high spot price, but with futures prices up to $40 lower in future years.

The shape of the curve is called backwardation, where the spot price is above prices in the future.

Futures are also derivatives. This means that – like forwards and options contracts – they get their price from the value of an underlying security such as a commodity or a currency pairing.

Importantly, traders in these complex financial instruments do not actually own the underlying asset.

In the case of a GBP/USD futures contract, for example, I can speculate on the movement of the British pound to the US dollar without having to own any actual currency.

Traders in these derivatives can choose to liquidate their position before the expiration date to avert having to take delivery.

You also have the option of rolling over your position, which involves exiting an expiring contract and entering a new one with a later expiration date.

Furthermore, futures trading involves agreeing to buy or sell a set amount of a financial security at a specified price and by/on a pre-selected date.

Both exchange and settlement take place some time in the future, unlike spot contracts where settlement takes place on the spot or within 48 business hours.

So, which is better?

Spot trading is much simpler than dealing in futures contracts, while it also allows more flexibility as market participants are not bound by pre-determined rules on contract timings and sizes.

However, derivative products also have some significant advantages over spot contracts. Going short – which allows you to make money when the price of an asset falls – is much more straightforward with futures contracts. This function also allows you to hedge against potential losses.

It is also much easier for short-term traders to access leverage (or borrowed funds) with derivatives, which can allow you to make greater profits (and losses).

The bulk of futures trading also takes place on financial exchanges, which (as I explained above) can have major benefits for traders.

Pros And Cons Of Spot Trading

Pros

Cons

Bottom Line

The spot market is a type of market in which goods or services are traded immediately for cash. It is popularly used for goods and services that are perishable or that have a short shelf life.

Spot trading is an easy concept to understand, which makes it an ideal starting point for traders who are just starting out. The method of asset pricing is extremely simple, while spot transactions are generally simpler in terms of contractual obligations and conditions compared with derivatives.

On the other hand, trading vehicles like futures can allow traders to employ more complex trading strategies, while the availability of leverage is also far better with derivatives.

Ultimately, your decision to deal in spot contracts or derivatives will depend on your financial goals, risk tolerance, and level of trading expertise.

To get started, open an account with one of our top-rated spot trading brokers. They have all been reviewed and vetted by our testing team.