Starting CFD Trading and What It All Means

A contact for difference (CFD) is a lucrative source of income for many traders that are involved in the trading of shares and markets. CFD trading is often the preferred online trading strategy in comparison to the regular buying of shares due to some of the reasons we will highlight below. Day trading restrictions do not apply to the CFD market. The novelty of this is based upon the flexibility and potential for earning significant profits.
So How Do You Profit From CFD’s?

Traders receive profit from a variety of contracts including currency exchange, indices, commodities, binaries, and various options. Profit typically occurs as a result of changes in stock prices and shares. For these reasons, online CFD trading is popular and provides the option to “go short” or “go long”. The technical details may be overwhelming for the novice; however, beginners are encouraged to learn the basics of trading stocks and approach this strategy with caution.

Leverage and Risk

Leverage is a very important concept to understand about CFD trading because you use it to achieve increased exposure on your positions. Online software programs offer the convenience of placing “stop losses” with a click of the mouse to lock in profits or minimize losses. Several commercial brokers deliver guarantees on the stop loss order at your predetermined price. This is because the market moves quickly and changes may occur without warning.

CFD trading accommodates traders with attractive opportunities to earn profit from rises and falls in the financial market. Traders are allowed to trade shares they do not own. Significant profits are achievable when leveraging as the chances are optimized.

Trading Education

The primary advantage of CFD trading includes education sessions for interested parties to learn how to maximize their earnings and learn how to navigate around the financial market. Most of these courses are detail-oriented and cover the highly technical nature of CFD strategies. There are numerous continuing education opportunities through online seminars and consultations from a private account manager. The account manager typically provides advice and step-by-step directions during your first couple of transactions.

The majority of CFD brokers provide real-time prices and news about the global markets and permit online trading direct from the provider’s platform. Traders enjoy the ability to gain trading power by managing a diverse portfolio in one centralized location.

Contracts for Difference (CFDs) Explained in Full

Depending where you are trading Contracts for Difference (CFD) in the world, there are a few common features of these leveraged trading instruments.

One main feature that traders choose to utilise when trading CFDs is their leverage. Instead of paying full value for the trading transaction, the trader only pays a percentage (a fraction) of the total position when opening the position – this is called the Initial Margin. This margin allows for leverage trading plays, which allows for increased exposure to the underlying share price movements unlike if you buy the underlying securities themselves.

Because Contracts For Difference are traded on margin and the prices of the underlying securities fluctuate during market hours, the dealers have something called Mark to Market. The margin is actively marked to the market price – which means the percentage is actively being calculated as the share price moves. You must keep a margin on all open positions over the required level including any market profits or losses (paper profits and losses) as long as the position is open. If the trading position moves against you and reduces your cash balance and you end up in the red below the required margin level you will receive a “Margin Call” and will need to fund the account to maintain the position otherwise your CFDs would be automatically liquidated.

A CFD can be Traded in Rising or Falling Markets

Trading in CFD allows the trader to easily take a long or short position on the market or any security that is provided by any CFD dealer. That means the trader can trade both rising and falling markets. You can profit when the share price goes up and you are long, and you can also profit when you have a short position and the underlying shares fall. When you buy the CFD with the expectation that the underlying shares will rise, you are taking a long position. When you sell or short sell the CFD with the expectation that the underlysing security will fall you are taking the short position.

No Stamp Duty, Tax Implications on CFD

Don’t take my word as gospel but depending where you are with trading CFDs, you aren’t physically buying the underlying shares or stocks so you don’t have to pay stamp duty. Other tax implications for trading CFD can be that you can register your trading activities as a business.

Commissions

Instead of a brokerage, CFD’s have commissions, which is basically the same thing. The CFD commission is calculated on the total position value and not just the margin paid.

CFD Overnight Financing

CFD’s have overnight financing. A consequence of the leverage is that you are basically borrowing money – and someone needs to be paid the interest. So when you hold a position open overnight you’ll get a finance charge for that benefit. Long CFD positions attract an interest charge of 1 to 2 percent above your national bank’s lending rate and short positions pay interest but 1 or 2 percent below your national bank’s official lending rate. This interest on the position is calculated daily with the application of the interest rate on the daily closing value of the position. (Daily closing value is the number of shares you hold and the closing price of the underlying shares).

Flexibility in Trading Market Sentiment

Trading Contracts For Difference offers the trader flexibility in trading market sentiment. There are CFD’s that allow you to trade specific shares, or market indices if you have an overall market sentiment or even sectors and specific international currencies.

CFD and Risk Management

CFD providers commonly provide risk management facilities because of the high risk nature of leveraged trading and the double edged sword effect. Many of these CFD dealers provide Stop Loss, Limit Orders and If Orders so market traders can actively manage their risk in trading CFD’s.

Working CFD Profit Example and How It Works

More often than not, CFD brokers and dealers automatically provide a free stop-loss order service to their trading clients. This is to encourage people to limit their losses on this very risky leveraged trading instrument. A stop loss on your CFD is exactly that, a tool for the trader to limit their trading losses. It is up to the trader to self regulate their usage of this tool and any trader is encouraged to utilise the tool in their trading systems.
So How Does a Stop Loss Work?

For example you have opened a long position on XYZ stock at $10, but you only want to limit your trading liabilities to 50 points so you can set a stop loss on your CFD trade at $9.50. So if your trade goes sour, the stop loss order immediately executes a sell to exit your long position.

However, these is a disadvantage and also risk to using a stop loss. For instance, if the market is having a stormy day at sea, that is, an over-volatile market where the underlying stock under the CFD is spiking up and down, you may find that you are stopped out too easily if you have put your stop loss order too close to the action. The risk when using a stop loss is when the market gaps and the stock just doesn’t trade at your stop loss limit. If you think about it – it’s a VERY BIG risk. However an advantage to the stop loss order on your CFD is that if gives you the discipline to follow a system as it automatically takes you out a trade which at some point in time you expected to make you a profit because it was trending to some sort of pattern. That is only an advantage if you resist the urge to continuously move the CFD stop loss.

So How Does It Work Making Profit From CFD Trading?

Let’s use a case study to illustrate how CFD’s (Contract’s For Difference) work. So lets take UK listed Tullow Oil (TLW) and assume the price is at £50. After our technical or fundamental analysis we have decided whether we want to sell (going short) or buy (going long) the stock (or the CFD). Say we go long (buy the stock) and decide to risk £1 on each point of fluctuation in the share price. (A point is worth a cent in this context) This means for every cent that the TLW shares move, the trader either gains or loses £1. Now the way you decide this £1 risk per point depends on the leverage (CFD dealers usually have a 3%, 5%, 10% or 20% options available on the amount of leverage) and the size of your contract with your CFD dealer. So if the WPL shares have gained 10 pence and want to take profits your profit would be 10 x 1 = £10 or if the share lost 10 cents then you lose £10.

So to take this example of how CFD’s work to the next level, still assuming the £50 underlying share price for TLW. Say we have £10,000 (ten thousand pounds) to invest in the trading game. Say if your CFD broker has a 5% margin required (the leverage amount) for TLW. 5% of £50 is £2.50 so you need to deposit at least £2.50 per share with your dealer to trade TLW CFDs. The reason why I say at least is because the shares may fluctuate since these CFDs are mark to market which means, at all times you trade CFDs you must maintain this 5% margin level or else the broker make liquidate your position. So with the £2.50 per share margin requirement you can buy 4,000 (£10,000/£2.50) shares or £200,000 worth of exposure to TLW. That’s the power of leverage. And remember – it’s a double edged sword.

Managing Risk With CFD Trading

Contacts for difference (CFD) trading strategies require an effective risk management plan to establish real limits. Risks associated with trading CFD’s are inherently greater because there are strong possibilities of losing significant amounts of money if you sustain a substantial loss. When you lose on the stock market using CFDs, you may owe additional debt to the brokers to cover your loss. Trading without a proper risk management strategy exposes you to great financial risk. There is potential for financial destruction if you gamble with money you cannot afford to lose.

It is very easy for novice traders to get in over their head by becoming more aggressive after trades which end with large profits. Traders must overcome the temptation of frequent trading using mobile applications and easy access to the internet. Several positive trading experiences and large profits tend to provoke traders to get more involved and start to overtrade.

What can you afford to lose?

The amount of money that you are willing to allocate for each trade must be designated and identified as your limit or cut off point. The absence of a strong investment strategy has potential to wipe out your account with significant loss. Trading capital is a valuable asset that cannot afford to be the driving force that removes you from the trading market.

Position sizing functions as a common risk management strategy by assigning the same amount of capital for each online trade. The final dollar amount that you are willing to trade is frequently calculated in a formula. This mathematical formula incorporates how much money you are willing to invest divided by the price of the CFD. Make sure you stick to your limits and resist temptation to grasp more than you can reasonably handle.

riskRisk calculation is computed by identifying how much money you are willing to lose before the stop-loss order is placed. The stop-loss order is essential because it allows you to lock into profits and simultaneously minimize loss. Risk assessment also factors in the commission cost and finance charges associated with holding an overnight position in the market.

The highly variable and unsteady nature of CFD trading must be taken seriously. Do not get involved with this type of investment strategy if you are unable to afford unprecedented loss. Learn how to resist the urge to get aggressive after several lucrative returns on investment. Consult a financial consultant or an investor to examine your financial situation and the feasibility of incorporating CFD trading within your portfolio.

How To Find The Best Broker for CFD Trading

The interest in contracts for difference (CFD) trading has become increasingly popular and prevalent in the investment product market. Investments have numerous financial advantages and potential to earn a substantial return on investment. The stock market fluctuates constantly and results in the need to carefully track the rises and falls. Performing this task independently is a tremendous challenge unless you are very knowledgeable in CFD trading. Even the most skilled professionals simply cannot watch the stock market around the clock. Fortunately, there are a number of brokers available to monitor the variable activity through the use of sophisticated software packages that are designed to send notifications of atypical activity patterns. The task of finding the best broker to meet your individual needs requires some research.

trading-cfdsCFD trading brokers are a luxury and a necessary commodity to service your needs while participating in this type of investment. Continuously monitoring the stock market requires an enormous amount of time, energy, and resources to perform this task independently. The ability to monitor the stock market in a real-time display is the specific duty of the broker. The development of a professional relationship with a broker requires the establishment of trust and effective communication. The investor and the broker must have a clear understanding of the goals, limitations, and expectations of investing in CFDs.

When faced with the decision to shop around for a broker, the investor assesses the level of experience, asset range, personality mesh, and terms and conditions of conducting business. Select a person who is capable of understanding your needs and one that you feel comfortable enough to trust with your financial portfolio. Your personality type and the broker’s personality should be compatible to encourage the ability to speak openly about your concerns and questions.

Determine the range of investment products that he or she handles because some brokers limit their scope of practice to only handling shares or stocks. Perhaps you need to search for someone who specializes in . An experienced CFD trader is most likely very experienced in this area and has been in the business for a number of years with a proven track record. Some brokers may have decades of experience in CFDs while other possess advanced degrees in finance with an emphasis on CFD trading. Consider the professional recommendations of brokers by business professionals that also use this type of investment tool.

Before committing to a formal agreement with a broker, make sure you understand and agree with the specific terms and conditions associated with conducting business with the broker. Obtain knowledge of the typical fees associated with CFD trading and be sure that you are receiving a fair quote. Identify the commission amount and make sure you are comfortable with the terms of this agreement. Read the entire contractual agreement and obtain clarification before signing your name because this is a legally binding contract, and make sure you understand the associated risks.