When you trade forex, you express a view on the direction of a currency pair by buying or selling the base currency (first-named currency), with profit or loss made in the quote currency (second-named currency). In effect, you agree with us as the counterparty to take a view in one currency before swapping it back at a date of your choosing, with any running profits or losses cash-adjusted to the account.
Holding a position depends on your trading strategy and plan. Swing traders might hold a position for days or even weeks, while scalpers might hold it for a few seconds. When holding a position, the price of the currency pair you're trading isn't the only price you need to watch; you should also be aware of the swap or funding charge.
The swap charge is heavily influenced by the underlying interest rate corresponding to each of the two currencies involved. The swap charge is applied should you hold the position at the daily rollover point, which is 00:00 server time and known in forex trading as 'tomorrow next' or 'tom next.'
Intraday traders won't need to worry about swap charges, as they'll naturally close their positions before the daily rollover point. But for anyone else holding a position overnight or longer, you need to consider this in your trading considerations.
How is rollover interest calculated?
Swap charges are driven by interest rate differentials. Interest rate differentials are another way of thinking about the difference in interest rates between your base and quote currencies. Naturally, there can be differences in the two interest rates, so when we net these off and assess the differential, you could be charged — or even receive — a daily amount of interest. Factors that affect this amount include lot size, the current market price, and the extent of the differential between the two interest rates at that time. This differential forms the basis of the carry trade.
What is a carry trade?
When the market conditions suit, traders will often actively take a position in a currency with the higher corresponding interest rate, as well as 'fund' the trade by shorting a currency with a lower interest rate, then net off the positive interest differential. This is known as the carry trade, with the trader carrying over their position to pick up the interest and the swap rate differential. Carry is a huge part of the FX landscape and can be a primary consideration for many hedge funds.
Why do brokers charge swaps?
At Pepperstone, we offer our clients the ability to actively trade price changes in the global currency markets without having any interest in taking physical delivery of the traded currency. So when we enter a leveraged FX position, it’s on an open-ended, rolling settlement basis. What this means is, as a trader you decide when you want to close a position using a stop-loss or other form of trade management, and brokers as the counterparty use the rollover time to calculate funding charges in lieu of delivery or receipt of physical currency.
How does settlement take place in the underlying FX spot market?
In the underlying market, spot FX transactions tend to settle two business days after the trade date (T+2). If an institution buys EURUSD in the spot FX market, they’ll receive EURs at the agreed rate two days after the day of the trade. There are some exceptions to this rule, for example, USDCAD, which settles the day after the trade (T+1).
What is tom next?
Tom next swaps are fully tradable financial instruments. Their rate fluctuates with monetary policy expectations as well as other market forces, such as supply, demand, and liquidity that affect the market. Institutions often look to delay settlements by entering into a tom next arrangement.