A spot transaction

A spot transaction is a straightforward (or “outright”) exchange of one currency for another. The spot rate is the current market price, the benchmark price.

Spot transactions do not require immediate settlement, or payment “on the spot.” By convention, the settlement date, or “value date,” is the second business day after the “deal date” (or “trade date”) on which the transaction is agreed to by the two traders.

The two-day period provides ample time for the two parties to confirm the agreement and arrange the clearing and necessary debiting and crediting of bank accounts in various international locations.

Exceptionally, spot transactions between the Canadian dollar and U.S. dollar conventionally are settled one business day after the deal, rather than two business days later,since Canada is in the same time zone as the United States and an earlier value date is feasible.

It is possible to trade for value dates in advance of the spot value date two days hence (“pre-spot” or “ante-spot”). Traders can trade for “value tomorrow,”with settlement one business day after the deal date (one day before spot); or even for “cash,”with settlement on the deal date (two days before spot).

Such transactions are a very small part of the market, particularly same day “cash” transactions for the U.S. dollar against European or Asian currencies, given the time zone differences.

Exchange rates for cash or value tomorrow transactions are based on spot rates, but differ from spot, reflecting in part, the fact that interest rate differences between the two currencies affect the cost of earlier payment.Also, pre-spot trades are much less numerous and the market is less liquid.

A spot transaction represents a direct exchange of one currency for another, and when executed, leads to transfers through the payment systems of the two countries whose currencies are involved.

In a typical spot transaction, Bank A in New York will agree on June 1 to sell $10 million for Deutsche marks to Bank B in Frankfurt at the rate of, say, DEM 1.7320 per dollar, for value June 3. On June 3, Bank B will pay DEM 17.320 million for credit to Bank A’s account at a bank in Germany, and Bank A will pay $10 million for credit to Bank B’s account at a bank in the United States.

The execution of the two payments completes the transaction.