CFDs (Contracts For Difference) are a fairly new financial derivative product available to investors. This new financial tool offers investors some key advantages over traditional stock market investments. As a result, CFDs have been rising in popularity, and are now used by individual investors, major institutional investors, and hedge fund managers. Here are some advantages that trading CFDs could bring you, along with tips on how to get started.
Profit Whether Prices are Rising or Falling
A Contract for Difference is a contract based on whether you expect the value of a certain asset to go up or down. The asset could be an index fund, a particular stock, a commodity, or a foreign currency. If you think the value of the asset is going to go up, you “go long,” and buy a CFD based on that asset. If you think the value is going to go down, you “go short,” and sell a CFD based on that asset. In either case, you have a chance to profit.
Hedge Your Positions
Contracts for Difference are useful when you own a certain stock, and want to hedge against a potential fall in value. If you are concerned about a possible drop in value, you don’t need to liquidate your stock position. Instead, you can easily use a CFD to hedge your position for some period of time.
Leverage Your Investment
Perhaps the biggest advantage of Contracts for Difference is that they are margin products. Rather than paying the full price to buy shares, you only need to invest a small margin percentage. This means your investments are highly leveraged, which can give you a much greater profit potential. Using leverage can also increase your risk, so make sure you understand how this works before investing.
No Fixed Expiration Date
Some financial derivatives have an expiration date. If you hold them longer than that, they are worthless. CFDs have no set expiration date. You decide when you want to close out your position, and can hold them as short or as long as you choose.
Evaluating CFD Brokers
When you start investing in Contracts for Difference, one of your first decisions will be to select a broker to use. Consider your investing needs, and the specific type of CFD that you want to trade. Index fund CFDs are the most popular, but some brokers also handle CFDs based on commodities, forex, and individual securities.
Pay attention to the broker’s fee structure. There can be a number of different fees involved, such as a commission on trades, a bid-offer spread, a nightly financing fee, or an account management fee. Consider all of these, and how they could affect your transactions.
Additional factors to consider include the broker’s reputation, their margin requirements, and what extra services they provide, like a free demo or a training course.
There are many websites available over the Internet which can help you with this evaluation. They provide a side by side comparison of different brokers, to help you determine which will be the best choice for your needs. They also provide user ratings.