# Understanding Spot Rates: Definition, Mechanism, and Real-World Example

> **Definition**
>
> The spot rate is the current market price for immediate settlement of an asset, such as a currency, commodity, or stock.

## What Is the Spot Rate?

The spot rate is the price for immediate settlement of a commodity, currency, or other asset. This is different from a [futures](https://www.investopedia.com/terms/f/futures.asp) or forward price, where a price is determined in advance. Also known as the "[spot price,](https://www.investopedia.com/terms/s/spotprice.asp)" the spot rate is the [current market value](https://www.investopedia.com/ask/answers/020215/what-difference-between-yield-maturity-and-spot-rate.asp) based on the balance of supply and demand.

While spot prices depend on time and location, they are usually uniform worldwide. Spot prices are particularly important in commodity and currency markets, where prices may change rapidly over time.

### Key Takeaways

*   The spot rate is the current market price for immediate settlement of a commodity, security, or currency.  
    
*   Spot rates are influenced by real-time supply and demand conditions in the market.  
    
*   Unlike spot prices, futures prices are set for the future delivery of an asset and may differ significantly from spot rates.  
    
*   Spot prices are unified globally, accounting for currency exchange rates.
*   Spot rates are crucial for determining forward rates and understanding market trends.  
    

![A salesperson in a produce warehouse stands near crates of fresh avocados and uses a tablet to check the current market price.](https://www.investopedia.com/thmb/xZ2iZtGpNcxSYqd_iMlYJAtvpRw=/1500x0/filters:no_upscale():max_bytes(150000):strip_icc()/SpotRateWhatItIsHowItWorksExample-239d35d3d4ee498698d1a71db88d658a.jpg)

*— mgstudyo / Getty Images*

## How Spot Rates Influence Financial Transactions

In currency transactions, the spot rate is influenced by the demands of individuals and businesses wishing to transact in a foreign currency, as well as by [forex](https://www.investopedia.com/terms/f/forex.asp) traders. In [foreign exchange](https://www.investopedia.com/terms/f/foreign-exchange.asp), the spot rate is also called the "benchmark rate," "straightforward rate," or "outright rate."

Besides currencies, assets that have spot rates include commodities (e.g., [crude oil](https://www.investopedia.com/terms/c/crude-oil.asp), conventional gasoline, propane, cotton, gold, copper, coffee, wheat, lumber) and bonds. Commodity spot rates are based on supply and demand for these items, while bond spot rates are based on the [zero-coupon rate](https://www.investopedia.com/ask/answers/051215/what-does-it-mean-if-bond-has-zero-coupon-rate.asp). A number of sources, including Bloomberg, Morningstar, and ThomsonReuters, provide spot rate information to traders. These same spot rates, particularly currency pairs and commodity prices, are widely publicized in the news.

## Comparing Spot Rates with Forward Rates

Spot settlement (i.e., the transfer of funds that completes a spot contract transaction) normally occurs one or two business days from the trade date, also called the horizon. The spot date is the day when settlement occurs. Regardless of what happens in the markets between the date the transaction is initiated and the date it settles, the transaction will be completed at the agreed-upon spot rate.

The spot rate is used in determining a [forward rate](https://www.investopedia.com/terms/f/forwardrate.asp)—the price of a future financial transaction—since a commodity, security, or currency’s expected future value is based in part on its current value and in part on the risk-free rate and the time until the contract matures. Traders can extrapolate an unknown spot rate if they know the futures price, risk-free rate, and time to maturity.

## Understanding the Dynamics Between Spot and Futures Prices

The difference between spot prices and futures contract prices can be significant. Futures prices can be in contango or backwardation. [Contango](https://www.investopedia.com/terms/c/contango.asp) is when futures prices fall to meet the lower spot price. [Backwardation](https://www.investopedia.com/terms/b/backwardation.asp) is when futures prices rise to meet the higher spot price. Backwardation tends to favor net [long](https://www.investopedia.com/terms/l/long.asp) positions since futures prices will rise to meet the spot price as the contract get closer to expiry. Contango favors [short](https://www.investopedia.com/terms/s/short.asp) positions, as the futures lose value as the contract approaches expiry and converges with the lower spot price.

Futures markets can switch between contango and backwardation and may stay in either state for short or long periods. Looking at both spot prices and futures prices is beneficial to futures traders.

## Real-World Example: Spot Rate in Action

For example, if a wholesaler in August needs bananas delivered in two days, she pays the spot price. If she wants bananas in December and expects prices to rise due to demand, she shouldn't use a spot purchase because they might spoil. Since the commodity wouldn't be needed until December, a forward contract is a better fit for the banana investment.

In the example above, an actual physical commodity is being taken for delivery. This type of transaction is most commonly executed through futures and traditional contracts that reference the spot rate at the time of signing. Traders, on the other hand, generally don't want to take [physical delivery](https://www.investopedia.com/terms/p/physicaldelivery.asp), so they will use options and other instruments to take positions on the spot rate for a particular commodity or currency pair.

> **Article Sources**
>
> 1.  CME Group. "[What is Contango and Backwardation](https://www.cmegroup.com/education/courses/introduction-to-ferrous-metals/what-is-contango-and-backwardation.html)."