The CFD – Contract For Difference, is one of the types of trading instruments, which offers global traders and investors an opportunity to make use of the price movement of the underlying asset in either direction. In CFD trading, the traders typically don’t own the assets they trade. The high leverage and low costs of CFD trading make it a feasible option for aggressive traders, despite the possibility of capital risk. Tradingcritique.com briefs the in and out of CFD trading from beginners to experienced traders in a quite logical way.
WHAT IS A CFD MEANS? by TRADINGCRITIQUE.COM
A CFD contract is relatively a simple security calculated by the asset’s movement between trade entry and exit, computing only the price change without consideration of the assets underlying value. It is a contract between two parties where they agree to pay the difference between the opening price and closing price of a particular market or asset. When traders trade with CFD they do not own the actual asset’s rather they will speculate on the price movement, up or down.
HOW A CFD WORKS? by TRADINGCRITIQUE.COM
On commission-free CFD trading, the spread includes the cost of the trade. Hence, the tighter the spread, the quicker you earn profits once the price moves into the profit-earning territory. For example, if the spread is 10 cents, the stock price should gain 10 cents to hit the break-even trade. In case of price movement in the opposite direction, you will be at a loss.
For example in a conventional broker account, if the stock meets a bid price of $51, then the gain is $100/$2500 = 4% profit. However, when the national exchange reaches this price, the CFD bid price will only be $50.95, lowering the CFD profits. This is because the trader must exit at the bid price as the spread is getting larger than on the regular market.
In the same above example, a CFD trader earns an estimated $96/$250 = 38.4% returns on his investment. The CFD broker may also insist the trader buy at a higher initial price of $50. Even in such cases, $94 to $96 earnings denote a net profit.
The aforementioned is only an example of a winning trade in CFDs, yet the loss calculation of the losing trades slightly differs. There are also other considerations such as overnight holding and rollover charges etc.
HOW TO BEGIN CFD TRADING? by TRADINGCRITIQUE.COM
Choose a Market – There are many individual markets to choose from, including currencies, commodities plus interest rates and bonds. Select the market which you have a good understanding of so it will help you respond to market advancements.
Trade Size Selection – You have to select the size of CFD’s you want to trade. With a CFD, you control the size of your investment. So choose how many CFD’s you want to trade. 1 CFD is equal to 1 physical share in equity trades.
Choose to Buy or Sell – Select ‘buy’ if you think the price will increase or ‘sell’ if you think the price will decrease. If you buy you have to go long and if you sell you have to go short. The price of your CFD depends on the price of the underlying asset.
Add Stop Loss – You have to add stop loss so that you can close your position out at a certain price if it moves too far against your price.
Keep an eye and Close your Trade – After you placed your trade, you can see the profit/loss update in real-time at the screen. So you can exit trades by clicking on the close trade button.
ADVANTAGES AND DISADVANTAGES OF CFD TRADING by TRADINGCRITIQUE.COM
ADVANTAGES
- Higher Leverage – CFD’s gives higher leverage than traditional trading. Standard leverage in the CFD market is subject to regulation. Earlier it was 2% which is minimal maintenance margin (50:1 leverage), but it is now limited in a range of 3% (30:1 leverage) and could go up to 50% (2:1 leverage). Lower margin requirement means less capital outlay for the trader/investor and greater potential returns.
- Global Market Access – Most of the CFD brokers offers products all over the world, allowing around the clock access. Traders can trade CFD’s over 4000 markets worldwide. CFD markets run 24 hours a day so you can access so many markets.
- Commission and Fees – CFD trading charges minimal costs. Most of the brokers charge very low and some charges zero fees to enter and exit trades. They earn money when you pay the spread. The size of the spread will depend on the volatility of the underlying asset.
- No Shorting Rules – Some markets have rules that ban shorting, require the trader to borrow the instrument before selling short, or have different margin requirements for short and long positions. But CFD instrument can be shorted any time without borrowing costs as the trader does not own the underlying asset.
- No Day Trading Requirements – Some markets require less amount of capital to day trade or place limits on the number of day trades that can be made within some accounts. The CFD market is not leaping with these restrictions and every account holders can day trade if they want. CFD trader can open the accounts from $500 – $5000.
- Trading Opportunities – Most of the brokers offer stock, index, treasury, sector, currency and commodity CFD’s. This allows the speculators interested in diverse financial vehicles to trade CFD’s as a substitute for exchanges.
DISADVANTAGES
- Traders Pay Spreads – CFD’s offer attractive and alternative to traditional markets, they also give possible risks. By paying the spreads on entries and exits eliminates the potential to profit from small moves. The spread decreases winning trades by a small amount compared to the underlying security and will increase losses by a small amount. So CFD’s less the trader’s profits through spread costs.
- Not Strong Regulation – The CFD industry is not very well regulated. The broker trustworthiness is based on reputation, durability, and financial position rather than government standing or liquidity. So you have to go through background check of brokers before you select the broker.
- Margin Trading – Margin increases the profit potential and also increases risk. It is quite easy to lose sight of the total exposure you have when using margin. If you cannot cover the reduction in values, your broker may close your position, and you will have to meet the loss. It does not matter what happens to the underlying asset.
- Leverage Risks – It exposes you to better promising profits but also better promising losses. While stop-loss limits are available from many CFD brokers, they cannot promise you would not endure losses, particularly if there is a market closure or a sharp price movement.
CFD TRADING STRATEGIES by TRADINGCRITIQUE.COM
Escape Strategy – You have to identify a key price level for given security. When the price hits your key level, you buy or sell, dependent on the trend. The important thing to remember with the escape strategy is to stay away from any trades when the market is not providing clear signals. If you cannot identify where the trend is moving then just give it a miss. Use charts to identify patterns that tell you where the trend is heading.
Contrarian Investing – This is actually a market timing strategy. If a stock has seen its price trending lower, then you pick a point you believe to be at or near the end of that trend, and buy-in expectation of a move in the opposite direction. You can do the same thing in reverse by short selling a stock that has been increasing in price, in expectation of a sudden change in price direction.
OPERATION OF CFD TRADING
If you trade CFD you do not need to trade overnight but you can place a high number of CFD trades in a day. To get higher returns you will have to focus on liquid elusive market. CFD trading with Gold, Bitcoin, Currency pairs is also the best example.
CFD TRADING TIPS by TRADINGCRITIQUE.COM
Trading Plan – There should always be a good trading plan. Long-term and trade by trade goals, style of trading and target markets, money management, trade identification system and risk management rules.
Trading Journal – You have to keep all the records of your trades entry and exit positions, your reason for entry and exit and observations about the trade.
Stay away from emotions – Emotions are the biggest barrier to implement your CFD trading plan. You will receive shocks from the markets still you should be confident. Do not chase your losses by risking more than you intended. Losses are a part of your trading process so be patient and achieve your goals.
Money Management – In this CFD trading you need to pay more attention to your capital outlay on individual positions, as CFD’s are a leveraged form of investment. You should only use a margin of your deposit to open a position, not the entire contract value. It will increase your return on your investment. This will also increase the risk.
DEMO ACCOUNTS
Try before you start. Many brokers offer demo account for easy access to the traders when they start with their real accounts. This gives some training for the traders at the start.
EDUCATION
Brokers also offer education to their traders through e-books, pdf documents, live webinars and expert advisors. So you have to analyse these things before opening an account.
IS CFD PROFITABLE OR NOT? LET TRADINGCRITIQUE.COM ANSWER YOU
CFDs trading is quite challenging and used generally for hedging purposes by the investors. One needs to expertise the CFD trading mechanism to minimize the chances of losses. It is necessary for the traders to make use of the educational resources by maintaining a regular practice of learning to build their own trading strategies.
