Spot prices are the immediate prices at which commodities, currencies, and securities change hands. They differ from futures prices and can indicate future performance. The difference between spot and forward prices can be informative, with a higher forward price indicating an expected rise in the spot price.
The spot price is the price at which a commodity or currency will change hands if it is sold immediately. The name actually comes from the fact that the deal is completed “on the spot.” Spot prices often differ from futures prices, and this difference can give some indication of how the market views future performance.
Spot prices can be applied to three different types of products. Commodities are goods that exist physically, such as grains, metals, oils, or livestock. However, most merchants simply buy and sell these products remotely and never actually see them. Spot prices may also cover international currencies.
The third type of product covered by spot prices is securities. This covers a wide range of financial instruments as diverse as cash and futures contracts. The spot price of a security is often referred to as the cash price.
To those unfamiliar with financial markets, it may seem strange that the spot price is distinctive. After all, the price of most goods is what is paid today. However, in financial markets there is an additional level of complexity, known as futures contracts.
With a futures contract, the commodity itself is not purchased. Instead, the right to buy or sell the commodity is purchased at a specified price on a specified future date. The idea is that the current price on that day will be different from the specified price in a way that benefits you. As this becomes more or less likely as the specified date approaches, you may be able to sell the futures contract at a higher or lower price than you paid for it. Another variant gives you the option to buy or sell the product, but with no obligation to do so.
There are two different prices for a financial product at any given time, the spot price and the forward price, the latter being the “going rate” for buying and selling a futures contract for the product. Depending on the type of product, the difference between the two can be very informative. If the forward price is higher than the spot price, it is a good indication that the market expects the spot price to rise in the future. With commodities, this can be a response to changing levels of supply and demand for the good. However, it is important to note that there will be some inherent differences, such as the forward price of the shares reflecting the fact that someone who holds the shares over time will receive dividend payments.
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