Options Role in FOREX Trading
At the Interbank level, options
have been an integral part of the FOREX landscape for many years. It is estimated that options may comprise up to 20 percent of FOREX market share, a substantial portion for hedging purposes by banks and corporations.
A bank may be at risk on an international loan for a short time. Hedging with currency options can eliminate that risk. Hedging acts as an insurance policy. If the bank is at risk on the long side of the EUR/USD, it can take the opposite position in options. A corporation might do the same while awaiting payment on a large sale.
Loss on the business-side transaction is compensated by a profit in the hedge. For retail currency traders, speculative options trading has been the domain of seedy boiler room operations until recently. There are now three domains in which you may trade currency options: (1) exchange trade listed currency options; (2) you can spread-bet currency options at some of the spread betting operations mentioned in Selecting a FOREX Broker Guide
; and (3) several reputable retail broker-dealers now offer FOREX options on over a dozen or more pairs and with a wide variety of features. I now recommend traders who wish to work with currency options use a retail FOREX broker. The advantages and convenience of being able to trade spot FOREX and the corresponding FOREX options under one roof is substantial.
Spot FOREX options may be used either as a substitute for spot trading or they may be used as a money management tool with spot trading.
Exotics, currency pairs with the USD or EUR, and a small or exotic country's currency provide exceptional opportunities along with higher risks than the majors or top-tier crosses. They offer variety, have trading personalities all their own, and may be especially attractive if you have some knowledge or insight about the exotic country other traders do not.
For U.S. traders, exotics have lost much of their appeal. New regulations limit leverage on them to 10:1.
By Michael Duane Archer