Why can't I have fixed rollover costs in forex?

A:

In the forex market, trades are made on many foreign currencies around the world. Much like in the equities market, in the forex there is a buyer and a seller behind every transaction. For example, in a trade on the EUR/USD currency pair, there is investor A, who is buying euros with dollars, and investor B, who is selling euros for dollars.

When a trade is agreed upon by buyer and seller, both parties have two business days to settle the deal. Continuing with our example, suppose investor B, who is selling euros, agrees to sell 100,000 euros on Monday to investor A. Investor B now has two business days - until end of the trading day on Wednesday - to deliver the 100,000 euros. However, investor B does not have to deliver by Wednesday - he or she also has the option to roll over the position to the next settlement date.

When an investor decides to roll over his or her position to the next settlement date, there is a possibility that he or she will either be charged or credited a fee. The costs arise as a result of the differential in interest rates between the two currencies that are traded. Whether an investor incurs a charge or earns a credit depends on which side of the trade the investor is on. The investor that is selling the currency with the higher interest rate will incur a charge, while the investor that is buying the currency with the higher interest rate will earn a credit. So, from our example, if the euro has a higher interest rate than the U.S. dollar, investor A would earn the credit and investor B would incur the charge.

Because positions can be rolled over within two business days, they are sometimes rolled over into a weekend when markets are closed. For example, suppose it is Wednesday and an investor is looking to roll over his or her position to Thursday. If the investor does this, the delivery date of the position changes from Friday to Saturday. However, because no trading is done on the weekend, the delivery date is changed to Sunday, then to Monday. This creates a three-day rollover, for which the investor is charged three times the normal amount.

The cost of rollover is linked to the changing interest rates of underlying currencies and, therefore, brokers are unable to offer fixed rollover fees. Furthermore, the varying sizes of the positions available for investors to take also restricts brokers from charging fixed fees. Whenever an investor incurs a charge or earns a credit, the amount is electronically deducted from or added to the investor's account. Brokers will also usually stipulate that an investor maintain a minimum margin before he or she can earn credits from a rollover.

To learn more, see Getting Started In Forex, A Primer On The Forex Market and Getting Started In Foreign Exchange Futures.

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