Trading currencies can be very stressful and difficult. You
need excellent skills and unlimited amount of patience and discipline. The good
thing about it is that in spite of those challenges, it’s a very rewarding
venture—especially if you’re doing currency options trading.
What are Options?
Options are a kind of contracts that are optional or
non-binding. Options contracts are agreements to buy or sell an asset (for this
article, they’re currencies) at a predetermined price in a future date. You have
the right to buy or sell it when the specified date comes, but you are not
obliged to do so, unlike futures contracts. This is the most cited reason for
its name—“options trading.”
There are two main types of options: the call options and
the put options. Those options that give you the right to buy assets are
referred to as “call options.” Meanwhile, “put options” are those that entitle
you to fixed sale price.
As for currency options trading, you must focus on how much
of a currency you will surrender in exchange of another amount of currency. Basically,
you’re trading money for money, so it can get a little bit confusing, unlike
stocks, commodities, real estates, and others.
Read further, Futures and Options: A Quick Comparison
Now here are the three main advantages of trying out
currency options trading.
Currency options are good hedging
instruments
Options are excellent hedging instruments if you use them
properly. When we say hedging, we refer to the lessening of risks inherent in a
financial asset.
To illustrate how currency options help you hedge risks,
suppose you have $100,000. Imagine you have an expenditure that’s payable in
euro in 6 months. If you want to avoid the risks of having high interest rates
when converting the dollars to euro, you can buy an option that will let you
give up $100,000 and get 85,000 euro in exchange after 6 months.
You can ignore this option if the exchange rate moves
favorably that you can get a better deal locally while converting dollars to
euro.
See also: Breaking Down Risk Management
Currency Options can be used as Leverage
Currency options can also enable you to control larger
amounts of currencies without having to invest huge money upfront.
For instance, you buy an option to exchange 10,000 GBP for
$15,000 in one month. You will only have to pay a sum that is far lower than
10,000 GBP or $15,000. Traders who think that a currency will appreciate
against another currency typically use this kind of bet.
If in one month, you can buy 10,000 GBP for just $14,000,
you can use your option to exchange pounds and have an easy $1,000 in profits.
Currency Options have high Liquidity
You must know that you can trade options over the counter
and on exchanges. OTC options trade between private parties while exchange-traded
options trade on public options markets.
New currency options traders should focus more on
exchange-traded options since these are way more liquid than OTC-traded ones.
The higher the liquidity, the easier it is to locate the exact security you
want to buy or sell.
You can also choose exchange-traded options because you
would incur lower trading costs and commissions. And even if you suddenly don’t
want them, you can certainly get rid of them anytime you want.
Conclusion
Currency options trading is a very ideal venture for rookie
traders. It offers a lot advantages aside from the above discussed. Altogether,
the currency options market is very lucrative and rewarding. When undertaken
properly, you’ll reap good rewards.
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