The spot price is the price at which a commodity or currency will change hands if it is sold immediately. The name effectively 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 apply to three different types of products. Commodities are goods which physically exist such as grains, metals, oils or livestock. However, most traders simply buy and sell these goods remotely and never actually see them. Spot prices can also cover international currencies.
The third type of product covered by spot prices are securities. This covers a wide range of financial instruments as diverse as cash and futures contracts. The spot price for a security is often known as the cash price.
To those not familiar with financial markets, it might seem strange that the spot price should be distinctive. After all, the price of most goods is the one which is paid today. In financial markets, though, there is an extra level of complexity, known as futures contracts.
With a futures contract, the product itself is not purchased. Instead, the right to buy or sell the product is purchased at a specified price on a specific future date. The idea is that the prevailing 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 draws closer, 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 commitment to do so.
There are two different prices for a financial product in existence at any 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 of the good. However, it’s important to note that there will be some inherent differences, such as the forward price of stocks reflecting the fact that somebody holding the stock over time will receive dividend payments.