Rollover

What you are actually trading in the forex market is a contract which requires one currency to be exchanged for another and delivered in two business days. For example, if I buy 1 contract of EUR/JPY then I am buying 100,000 worth of Euros and selling the equivalent amount of Japanese Yen. This technically requires me to deliver the equivalent amount of Japanese Yen portion of the trade to the bank account of the party I am trading with. The party that I am trading with is then technically required to deliver the 100,000 EUR portion of the trade to my bank account in two business days.

As we are trading simply for speculation however, we do not want actual physical delivery of the currency, so the platform which we are using in our examples, and pretty much any other retail forex trading platform, will automatically role this position over to the next delivery date if the position is held past 5pm Eastern Standard Time.

It is not really important to understand all the details here as this part is done automatically. What it is important to understand however is that there is a US Dollar debit or credit made to your account for any position held past 5pm Eastern Time, to account for the interest portion of the transaction.

As with most other transactions which involve holding or borrowing money, trading currencies also involves an interest payment or credit depending on whether you are the holder of a currency or the borrower of a currency.

What this means is that if I buy USD/JPY which means I have bought US Dollars and sold Japanese Yen, then I earn interest on the US Dollars I have bought and pay interest on the Japanese Yen that I have sold in order to buy those US Dollars. The reason for this is technically what I am doing when I sell a currency, is borrowing that currency and then exchanging the borrowed currency for the equivalent amount of the currency that I am buying.

 

When trading forex if you buy the currency with the higher interest rate and sell the currency with the lower interest rate, then you earn money for holding a trade past 5pm when rollover occurs, because the interest rate differential is in your favor. Conversely, if you sell the currency with the higher interest rate and buy the currency with the lower interest rate then you pay interest if you hold the trade past 5pm, because the interest rate differential is not in your favor. If you open and close the position before 5pm then nothing happens as there is no rollover necessary.

As noted above we are trading a 2 day contract in the forex market, so the interest that you either pay or receive at rollover is 2 days worth of interest, calculated based on the interest rates as set by the central banks in the countries of the currency pairs which you are trading.

Using our USD/JPY trade as an example, overnight interest rates in the United States are at 2.25% as of this lesson, and rates in Japan are at .5%.

As you can see here when we are trading the USD/JPY currency pair, if we buy then we are long (holding) US Dollars at an interest rate of 2.25% and we are short (borrowed) Japanese Yen at an interest rate of .5%. So in this example the interest rate differential is in our favor by 1.75%, so we will earn interest if we hold this position past 5pm NY Time.

If we were to sell the USD/JPY then we are short (borrowing) US Dollars at an interest rate of 2.25% and long (holding) JPY at an interest rate of .5%. So in this case the interest rate differential is against us by 1.75% so we will pay interest if we hold this position past 5pm NY Time.