what actually happens when one uses their forex broker to buy XAUUSD? i used to think it was a cfd for a futures contract, but i'm actually buying gold itself i believe (spot price). does my broker buy some gold somewhere on my behalf that's stored in a vault somewhere? or what?
Wysiwyg
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You buy the "price" of gold in USD. The broker does not buy physical gold on your behalf.
Wysiwyg
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If you buy shares in Woolworths the company doesn't deliver any shopping trolleys full of groceries to you. As bizarre as it may seem. 
Trembling Hand
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It is a CFD. It's linked to the price of an exchanged traded futures contract most likely the Comex GC futures. What your broker does is makes a price pretty much tick for tick on the changes to the bid/ask of the futures. They don't pass it on to a real market like what happens when your purchase WOW, BHP, CBA on the ASX stock market. They simply take the other side. Its called a synthetic market.... Its made up from something else.
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Gold is traded on various futures exchanges.
Originally futures started as a physical delivery market, some of the first markets were grain.
Some still are but over time people traded the contracts but never delivered by closing out before expiry.
Now with more innovation, people trade on the price of an asset, without owning the asset.
Almost all derivatives, no one actually owns the asset. Ironically alot of the time now the tail wags the dog. meaning that speculation on the derivatives has a real impact on the actual price, without anyone actually buying any of the asset.
Now with the case of a cfd. The broker is acting as a bookmaker. You are trading a contract for the difference.
Not a contract for ownership. you have no access to gold.
Now the broker may hedge with other clients or on the futures market.
If the broker goes bust, then you lose your bet and therefore all of your money.
On the exchange you are trading with the participants, under the guidelines of the exchange.
If you buy woolworths, you own the company, you have a vote, you are entitled to assets if it goes bust or is bought out, you are entitled to earnings/dividends. It is legal ownership.
If you have a cfd of woolies, you do not own woolies and are just speculating with the marketmaker/ bookmaker, on the price. You do not have a vote or any legal ownership etc.
that is the difference.
Now it is hard to buy gold, as it is expensive, you need capital and you want to gear if there is lack of volatility. You also have to physically store it as well. A cfd allows you to gear by borrowing and be more nimble in trading the asset. Other derivatives allow for more flexibility ad complication, like options.
Trading in gold equities increases specific risk to the company and management, so that is a round about way.
That is why alot of people go to cfd, as it is direct and easier especially for retail traders with small amounts of capital. A step up from that would be trading on a futures exchange, where prices are less opaque compared to over the counter markets. however i think more capital is needed.
It makes you question the extent of counterparty risk in the modern financial system, given that alot of assets are imaginary.
But isn't money plastic after all??
Better than going back to the bartering days in the village..
cheers
this is complicated stuff... grateful for people's input. i'll no doubt refer again and again to these posts over time. i understand CFDs, and my thinking now is that XAUUSD is a cfd to a gold futures contract. which isn't imaginary at all. although i don't know why it's called "spot gold" if it's a futures price (?). but hopefully that will become clearer over time.
Trembling Hand
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Because its isn't in your favor to understand how they price their products. If you know then you can understand and thats the last thing a CFD provider wants.
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NOT ADVICE DO YOUR OWN RESEARCH
Gold is a real asset, a contract is only as good as private property rights
The futures price is used over the world as away to value an asset.
For example a company may settle a contract based on the spot market or fix the price at the current spot rate or when you go to the mint to buy gold they might use USD price on an exchange spot price.
A CFD is a over the counter brokers product. Just like betting on Federer to win a tennis match is a product created by the bookmaker.
The price is created by the broker. The liquidity is controlled by the broker. The spread is controlled by the broker. The rollover is controlled by the broker.
The broker creates the product to mimic features of a futures contract.
A spot type contract is different to a futures contract.
For the difference between spot, you need to understand what a futures contract is.
The futures contract started as away for farmer to hedge the volatile crop prices.
For example say I am producing apples which are in high demand at the moment because cider is in fashion
The price is say $3 a kilo
Now I am afraid that prices may fall by the time I harvest.
So I want to hedge the price risk and sell a futures contract.
I go to a buyer and say I want to sell my apples now and he says ok I will give you the money and you deliver in January next year the physical product.
But the buyer will lose interest in the bank on money he pays me for the contract.But I will have to pay the storage costs.
So he may say take off 3% on the price and I will say add on 1% for storage cost.
so eventually we agree the buyer purchases the apples at $2.94 instead of the current(spot) price of $3.
I get the money and the asset is delivered in january.
Now if the price of apples goes up in the mean time the buyer has gained and if they go down the buyer has lost.
After a while people realised they could make money just buying the contracts instead of actually producing/creating the asset. Just like the central banks who print money without the backing of a physical asset like gold.
Other complications like margin were introduced as well.
Now you have introduced a counterparty. Say the apple grower goes bankrupt, then the buyer will lose all of his money. That is one of the reasons people buy through an organised and regulated exchange with government regulators overlooking as well.
On margin the buyer goes to the bank and says, look i want to buy a shipment of apples but don't have the money. so the bank says ok we will loan you the amount and use the contract asset and a deposit as collateral. if the apple price falls too much, you must sell the contract and surrender the deposit/any difference in price.
Now moving back to gold the spot is supposed to reflect the current price. The way this price is discovered as in most markets is complicated, but essentially it is supposed to represent purchasing the asset immediately. The spot contract was created to allow one to trade the asset price only without having to take into account the other factors of a future, eg: you are buying the apples now, so don't have to worry about interest on the cash etc. In some markets it may be the front month contract used as a proxy. However some OTC brokers may just infer the price in their own contract.
when you pay rollover for a long postion, you are borrowing on margin, just like the apple buyer.
When you buy a futures, you are buying gold in xmonths time not now.
That is the difference between the spot and futures market and explains the difference in price.
In an efficient market the relationship between the futures and spot/actual asset will mean very little discrepancy when interest rates and yield,dividends etc are taken into account.
However it could be argued that in extreme circumstances and the perception of asset movements can also be priced into the future. The 1987 crash is an example of this. The futures failed to follow the market closely and alot of hedging strategies failed.
A broker can only buy a futures product from/on the exchange, he cannot create it
Otc brokers do generally not buy the product in your name from the exchange.
The benefit of OTC is the flexibility and trading with small amounts of capital
Sometimes exchanges stop shorting or governments try to intervene, eg china trying to stop selling or asx stopping shorts during the gfc.
OTC markets may often allow continuation of trading their products
The downside, is the counterparty risk, ie the apple grower going bankrupt or playing silly buggers with you.He may even stop you from buying apples from him if he knows you keep predicting apple price rises correctly.
The other downside, is that OTC you are only asking one seller of apples. You must buy from him only even if he has access to other sellers or markets. You are locked in to his conditions.
the apple seller can call it spot or futures or donkeys but only futures from an exchange are really futures.
cheers
NOT ADVICE DO YOUR OWN RESEARCH
Trembling Hand
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Where did you get all this info from.
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I am sorry if i am wrong, it is my opinion Maybe what i said is not what i meant.
please point out where it is wrong
thanks
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I just googled it now, this is what i meant.
A commodity's spot price is the price at which the commodity could be traded at any given time in the marketplace. In contrast, a commodity's futures price is the price of the commodity in relation to its current spot price, time until delivery, risk-free interest rate and storage costs at a future date.
Read more: How are commodity spot prices different than futures prices? | Investopedia http://www.investopedia.com/ask/ans...es-different-futures-prices.asp#ixzz4W9vbtDUm
Trembling Hand
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It can be but doesn't need to be. Rarely will the underlying physical product matter, gold bullion in this case, you are trading supply and demand of price not of physical product. Unless your time horizon is weeks as a trader its all just price derived from the futures.
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If they create a substance of substitute like characteristics to gold?
Look at what happened to the price of pearls.
What will eventually happen to coal??
If people buy shares, that is the physical product of a future???
If large supply comes on from mines, that is a physical supply of a product(metals)??
If china switches from coal to nuclear, that is a physical demand of a product???
If there is a drought in Russia, that is supply of a physical product(wheat)??
Physical supply is not everything, but to know the history of futures helps and what you are trading is.
People always say to me boasting
I am trading gold or the currencies, but they are not. They are trading financial instruments, which are different and represent the underlying asset. introducing complexity. margin, counterparty risk,risk free rate/discount etc
Isn't fundamentals partly based on the supply and demand of the underlying???
Intrinsic value of shares?? Supply demand of commodity etc etc
It is complicated, that is why a reason so many people fail.
Don't understand what you are trading at your own mercy.
It won't hurt.
my two cents
Trembling Hand
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Exactly the point I was trying to make. Thinking that China moving from coal to pig **** methane capture aint gonna help a trader on his 4 hour Monday morning gap fade on the SPI. If you are trading it doesn't matter if its gold, oil, a biomed share or bitcoins. You are trading price. You can try and fill out thousands of words to convince yourself that you have 'knowledge' of what you are doing but its comes back to price/market patterns that matter. If you trade short term - fundamentals of the underlying are not what you are trading. Market context is what you are trading.
tech/a
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Understand this.
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If you don't know the difference between futures and spot or what futures actually are.
If you don't know that you are effectively trading with a book maker when OTC.
Then you are in trouble.
That is the point I am making.
By your mindset..
Would you trade the stocks in syria or nigeria.
That is an asset....
Trade options without understanding implied volatility..
Trembling Hand
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Mmmm to continue or not..????
Buddy I was replying to Grah33 who asked a very specific question about what he was purchasing with the OTC XAUUSD. You decided to confuse the sh!te out of him with stuff a couple of degrees removed from his question and from the real answer. So I added a comment that in trading the important thing is to spend time learning about whats important.
You obviously disagree. Good luck with it but be careful you too don't join the ever growing group of peps who spend time learning about the nutz'n'bolts of the race car but never get paid to race it..
Buddy I was replying to Grah33 who asked a very specific question about what he was purchasing with the OTC XAUUSD. You decided to confuse the sh!te out of him with stuff a couple of degrees removed from his question and from the real answer. So I added a comment that in trading the important thing is to spend time learning about whats important.
You obviously disagree. Good luck with it but be careful you too don't join the ever growing group of peps who spend time learning about the nutz'n'bolts of the race car but never get paid to race it..
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he didn't even know what a future was?Mmmm to continue or not..????
Buddy I was replying to Grah33 who asked a very specific question about what he was purchasing with the OTC XAUUSD. You decided to confuse the sh!te out of him with stuff a couple of degrees removed from his question and from the real answer. So I added a comment that in trading the important thing is to spend time learning about whats important.
You obviously disagree. Good luck with it but be careful you too don't join the ever growing group of peps who spend time learning about the nutz'n'bolts of the race car but never get paid to race it..
attack the man when you lose.
