Spot Contracts: What is a Spot Contract?

Spot Contracts are common foreign exchange products used by foreign exchange brokers for businesses and individuals looking to make an immediate money transfers from one currency to another at the current foreign exchange rates.

Spot Rates Definition

How a Spot Contract Works

Once the two currencies, the amount and exchange rate have been confirmed, a spot contract is drawn up which is a binding agreement between the client and the foreign exchange broker.

The spot contract is booked and confirmed with the client (day of trade). The client sends their money by bank transfer to the foreign exchange broker‘s holding account before it is converted to the new currency and deposited in the beneficiary account (settlement date).

The money will usually be an immediate transfer or completed within 2-3 days depending upon the currency and country the money is being transferred to.

Uses

Spot contracts may be used to purchase a car in another country, pay international tuition fees, purchase a home or goods from an overseas supplier. They would typically be used for higher-value money transfers rather than to transfer €200. Although many companies will allow smaller payments to be made if they occur on a regular basis. 

Benefits

Spot contracts allow you to transfer money immediately to another currency if funds are required promptly. It can be beneficial to transfer money if there is a sudden increase in the value of the base currency you are transferring from, or you anticipate a significant negative fluctuation in either currency due to current or upcoming events.

A foreign exchange broker can arrange a spot contract. Foreign exchange brokers can typically provide better rates than a bank or mobile application that offer international money transfers. They also have a range of other foreign exchange products that can reduce the risk of transferring money at a lower rate than is needed which in turn will reduce the amount of money you have in the new currency.

If sending money within Europe of a country which uses the SEPA route, your money should arrive in the beneficiary account either the same or next day.

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Disadvantages

The disadvantages of a spot contract are more impactful if you or your business is making regular international payments or large money transfers. If your foreign exchange transfers exceed more than £50,000, or currency equivalent, it would be more beneficial to target a rate using a market order or fix with a forward contract. This would ensure the money was transferred at a favourable rate that you have chosen rather than the current exchange rate which may not be in your favour.

If you are using a spot contract to settle an overseas invoice which typically has a 30 to 90 day settlement date, you could lose a significant amount of money if you transfer money immediately rather than plan your transfer of funds. This is due to fluctuations in currency exchange rates over 30-90 days meaning you might have missed a better opportunity to convert your currency if the exchange rate was more favourable to your within the next 90 days.

Example

A client sets up an account with a foreign exchange broker to send a deposit for a property in Spain. The client needs to send transfer €5000 to the Spanish developer immediately to reserve the property.

The exchange rate on offer is GBP/EUR 1.1250 which the client has accepted. The client transfers £4,444 to the foreign exchange broker’s holding account to process the currency transfer. The client provides the Spanish developer’s bank account details, and the €5000 payment is received into their account the next day.

Pricing

Commissions on spot contracts will vary subject to foreign exchange broker, currencies involved and the amount transferred. A currency expert will typically apply a margin of between 0.5% to 3% and apply no transfer fees.

Booking a Spot Contract

Foreign Exchange Broker

A foreign exchange broker will offer you an exchange rate, if you agree to the rate the spot contract can be booked. Upon booking a spot contract the foreign exchange broker will send you a deal notification and segregated bank account details to receive your funds. Upon receipt of your funds, your base currency will be converted at the pre-agreed rate and the funds are sent to the beneficiary of your choice.

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Foreign exchange brokers will usually have a mobile app and online platform to book spot contracts, arrange the transfer of funds to their holding account and allow you to input a beneficiary account details to complete the currency transfer. In some cases, a payment can be made using a debit card up to a certain value depending upon the foreign exchange broker, else a bank transfer is required.

  • NewbridgeFX: Spot Contract – NewbridgeFX are a UK based foreign exchange broker that offer spot contract to businesses and high net worth individuals to manage their foreign exchange risk.

Booking with a Bank

Booking a spot contract with a bank can be slightly slower and a manual process. For larger money transfers you might be required to visit your branch. They will typically provide you with a ‘day rate’ which normally is 3-5% less competitive than a foreign exchange broker’s exchange rate.

Some banks will allow you to transfer money and book spot contracts online. These are normally made in the same way as an internal money transfer, accept a rate will have to be approved online and a transfer fee will be debited. A beneficiary will also normally be for an international bank.

Spot Contract for Business

Businesses that make regular international money transfers will benefit from adopting a foreign exchange strategy for their international payments by using a range of foreign exchange contracts.

Spot contracts, forward contracts and market orders are some of the foreign exchange products that a business will use to make regular international payments. These payments could be to overseas suppliers, to settle invoices from international clients or make regular international payroll payments to overseas staff.

Spot contracts allow a business to make an immediate currency transfer which is normally required to purchase materials. Alternately a market order is used to target an exchange rate in the coming days or weeks rather than make an immediate transfer. This contract can be beneficial if there isn’t a need to make an immediate payment.

Related:  Forward Contracts: What is a Forward Contract?

Spot contracts can be more beneficial as they allow a business to make an immediate transfer to take advantage of a currency fluctuation in their favour, which may only be available for a few hours.

Spot Contract for Individuals

Spot contracts are often used by individuals that need to make an immediate international transfer. Transfers tend to be for larger payments for an overseas property, international tuition fees, transferring money to emigrate and overseas investments.

Individuals using a spot contract through a foreign exchange broker can expect to receive a better exchange rate and lower fees for their international money transfer compared to a bank or mobile app.

Foreign exchange brokers can offer advice for an individual’s specific circumstances and offer a range of foreign exchange products that maximises their currency transfer as well as reducing the risk from currency fluctuations.

Spot contract vs forward contract

Spot contracts and forward contracts are used throughout the financial services sectors and are used to book different contracts. Within the foreign exchange market, the spot contract is used to book an exchange rate for a near-immediate delivery.

A forward contract is slightly different whereby the funds are paid later. Individuals and businesses can book today’s rate (spot rate) and hold that rate for up to a year and pay within the agreed timeframe.

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