As you grow more accustomed to the world of CFD trading, you will probably run into the terms “rollover” and “overnight financing”. It’s worthwhile taking a few minutes to learn about what these terms mean, and the difference they could make to your CFD trading strategy and goals. In particular, as we will see, they could make a difference to the way you approach opening and closing your deals on your online trading account. In this article, we’ll focus specifically on the forex market to see how the concepts of rollover and overnight financing apply here.
Let’s say someone interested in online trading opens a trading account with broker like iFOREX, with the plan to take a long position on the currency pair EUR/USD. This would mean he is expecting the euro to grow in value relative to the dollar within a certain period of time. There are unique overnight interest rates that apply to both the euro and the US dollar. If our trader leaves his “buy” position on the EUR/USD open until the end of the trading day, he will either be credited or debited a certain amount of money for holding his position open overnight. What that amount will be, and whether it will be a credit or a debit, depends on what the interest rates of the dollar and the euro are at that time. In our case, if the euro’s overnight interest rate is higher than the dollar’s, his trading account will be credited. If the dollar’s overnight interest rate is higher than the euro’s, his account will be debited. With this foundation under our feet, let’s look a bit more into the practicalities of rollover and overnight financing.
What is Rollover?
Rollover refers to the process of our trader letting his position on the EUR/USD roll over into the next day. This means that his existing position on the currency pair will close at the final rate for the day, but then automatically re-open at tomorrow’s new opening rate. When you see your forex broker’s rollover rate displayed for you, this number is the net difference in overnight interest rates of the two currencies. If the rollover rate is negative, it means the trader going long on the EUR/USD will pay a cost; if it is positive, he will be credited.
Some traders will strategically take a long or “buy” position on the currency with the higher overnight interest rate, thus ensuring their trading account will receive a credit. If a trader is holding a position that would lead him to pay a negative rollout rate he’d prefer to avoid, he could elect to close his position before the end of the trading day, thus evading overnight costs. Just a note on rollover rates: they normally stay fairly stable, the exception being when there is increased credit risk, but they’re influenced by central bank interest rates. This would be a reason for traders to check their economic calendars for scheduled rate changes.
What, then, are the more practical applications of rollover rates? They all spring from being aware of the risks and opportunities of leaving your position open overnight. Traders who want to hold onto long-term positions, say for several weeks, could agree to expose themselves to overnight financing for every day their position remains open. Our question applies more to short-term traders. Two reasons why our trader might want to keep his position open overnight are that he believes the euro (on which he is going long) will appreciate overnight, or, if the euro, in fact, depreciated during the day, and he hopes it will rebound after hours and make up lost ground.
On the other side of the coin, there are potential risks involved in leaving his position open. If a surprise event, like an earthquake a major unexpected change within a company were to happen after hours, this could shift the balance of the market in some way. Then, the gains he had made during the day could be wiped out, or his losses could be increased. Stop-loss orders and limit orders are made to protect traders from this kind of volatility, so be sure to read up on them to ensure you’re using them correctly in your own trading strategy. In general, when traders see that the rollover rate will be negative and high, they close their positions before the end of the day. If they want to continue trading the next day and see the rollover rate looks like it will be positive, they allow their positions to stay open.
If your interest in online trading is growing, or if you’ve already opened an online trading account, it’s essential to spend time reading about CFD trading, the forex market, and market news in general to ensure you are familiar with all the details of CFD trading. The more you learn, the more concepts like rollover and overnight financing will become familiar to you, leading you to make more informed trading decisions.