What is Rollover?
Rollover refers to the process of extending the settlement date of an open position to the next trading day. This extension comes with associated costs or gains in the form of interest rate differentials between the two currencies in a currency pair. Essentially, when a trader holds a position overnight, they either pay or receive interest depending on the direction of their trade and the interest rate disparities between the currencies being traded. Market rollover occurs every day at 5pm EST.
Mechanics of Rollover:
Interest Rate Differential: Each currency in a forex pair is associated with an interest rate set by its respective central bank. The rollover rate is determined by the difference between these interest rates.
Currency Pairs: Rollover rates are specific to the currency pairs being traded. For each currency pair, the trader borrows one currency to buy another. The rollover rate accounts for the difference in interest rates between the two currencies.
Long and Short Positions: When a trader holds a long (buy) position in a currency pair, they receive interest if the base currency has a higher interest rate than the quote currency. Conversely, if the base currency's interest rate is lower, the trader may need to pay interest. The opposite holds true for short (sell) positions.
Why Does Forex Rollover Exist?
Rollover rates exist primarily due to the 24/5 nature of the forex market. Unlike the stock market, where trading ceases at the end of each trading day, the forex market operates continuously. This constant trading flow requires a mechanism to account for interest rate adjustments during weekends and holidays when banks and financial institutions are closed.
Disadvantages and Risks for Traders:
Price Gaps: During the rollover period, when markets are closed, various events such as economic announcements, geopolitical developments, or unexpected news can occur. When the market reopens, the prices can gap significantly from where they closed. These gaps can result in substantial losses if the price moves against your position. It is to be noted that the occurrence and intensity of these price fluctuations can vary from day to day as well and that your predetermined stop loss and take profit parameters will NOT be respected.
Lack of Control: Traders have limited control over their positions during market closures. For example, if a trade moves unfavorably during the rollover period, you will not have the ability to close the position or adjust your trade until the market reopens.
Increased Volatility: Market open and close times tend to have higher volatility due to lower liquidity. This increased volatility can lead to wider spreads, potentially affecting the execution of your trades when the market reopens.
Overnight News Risk: News and events that occur outside of trading hours can have a significant impact on the market sentiment and prices. Holding positions overnight exposes you to the risk of such news, which might result in unexpected and adverse market movements.
Cost of Rollover: If you're trading in markets like forex, holding positions through rollover may subject you to swap or interest rate differentials. Depending on the direction of your trade and the interest rate differentials between the currencies involved, this could result in either a cost or a benefit. To understand more about Swap Rates, please view this article here.
Calculating Rollover Rates:
Let's walk through an example of how rollover works in forex trading, illustrating both positive and negative rollover rates.
Swap Rate x Lots (Volume) x Number of Nights = Swap (in base currency)
The first number that is required is the Swap rate itself. It can be either a positive or negative number that is based on interest rates. Swap rates are also different for long and short positions. So, if you placed a long position (buy) you will make the calculations with the Swap long rate and if you placed a short position (sell) you will use the Swap short rate.
The long swap of – 4.38 is multiplied by the 2 lots:
-4.38 x 2 = -8.76 AUD
If you held the position open for more than 1 day, multiply with the number of nights. In our case the position was open for 5 nights:
-8.76 x 5 = -43.8 AUD
This is the monetary value of the swap rate on your trade for those 5 nights. The number is negative and does not work in your favor as opposed to the symbols having a positive swap rate.
The AUD/USD pair is charged in AUD. The amount would be then converted into the currency of your account.
How to Find Swaps on Trading Platform 4/5:
Trading Platform 4
1) Click 'View' along the top menu
2) Select 'Symbols'
3) Select which currency pair you want to see the swaps for, and click 'Properties'
4) You can now see the long and short swap rates in the pop-up window
Trading Platform 5
1) Click 'Symbols' along the top menu
2) Select which currency pair you want to see the swaps for, and click it
3) You can now see the long and short swap rates in the pop-up window
Please note, dividends are also applied during the rollover time of 00:01 server time on ThinkMarkets. For more information on dividends, please refer to this article.
Rollover is an essential aspect of forex trading that requires careful consideration by traders, especially those with longer-term strategies. By understanding how rollover rates work and factoring them into trading decisions, traders can better manage risks, optimize their trading strategies, and navigate the ever-changing forex landscape. As with any aspect of trading, staying informed and adapting to market conditions are key to success.