Advantages of Cfd Trading

We explore the merits of cfd trading.

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Cost effectiveness: a CFD transaction does not involve ownership of the underlying physical assets. Consequently, there is no stamp duty involved in the deal. This is a significant cost saving given that stamp duty could run into huge figures for large transactions.

Competition among brokers has also meant that commissions have been driven to very low levels. Indeed, commissions on CFD trades are typically much lower than those incurred on trading in shares with traditional stockbrokers.

Low initial capital required: one of the key features of CFDs is leverage. You can trade with a lot more than you deposit, with many companies allowing you to trade with ten times your actual deposit. So with £10,000 you could actually gain exposure to about £100,000 if you wanted. However, leverage is a double-edged sword and should be used with caution as you stand to lose a lot more than your deposit if you are not careful. In order to mitigate this possibility, many CFD providers offer the opportunity to protect yourself by placing stops when you trade. This is discussed further below.

Simplicity: CFDs are typically traded in the same way as the underlying securities that they mirror. As such, the mechanics of buying and selling CFDs is very similar to that of buying and selling shares. This implies that a transaction in a CFD (such as an equity CFD) should typically be executed at pretty much the same speed and price as a corresponding traditional stock transaction.

Flexibility: as with spread betting, most CFD providers offer a range of markets to trade. Most brokers offer CFDs on major UK, US and European stocks with a market capitalisation of at least £50 million. Many also offer CFDs on smaller stocks on a case-by-case basis. Furthermore, flexibility also extends to the variety of avenues to place your trade, with most providers offering a combination of interactive online platforms and phone services.

A further element of flexibility derives from the fact that unlike options or futures contracts, CFD contracts have no specified settlement date. Since they are dealing in open-ended contracts, cfd trading allow investors to decide when to close their positions, thus maximising any potential gains or minimising any losses.

Profit from falling markets: Like spread bets, CFD trading offers the opportunity to profit from both rising falling markets.

Risk management: as with spread betting firms, most CFD providers offer essential risk management products such as stop losses and guaranteed stops. Just to distinguish between the two, with a stop loss, the broker will try to close your position as soon as your maximum loss threshold is hit. However, there are times when the market can move so quickly against you that the broker is unable to close your position at your stop loss level, resulting in greater losses than you anticipated. This can happen if the market opens with a large gap for instance. In contrast, with a guaranteed stop, the broker (not you) would foot the bill for any extra losses beyond your stated maximum threshold limit. Of course, you pay a premium for the extra protection - but it can save your trading capital in volatile markets.

Portfolio insurance or hedging: There is another dimension of risk management that we should also touch on. If you are a long-term investor with substantial long positions in the market, you may want to buy some 'portfolio insurance' at times of higher market volatility by trading CFDs in the opposite direction to your existing positions in shares for example (so you take short cfd trading positions if you already own the shares). This would help you mitigate the effect of a decline in the value of your shares as the value of the CFDs rise to compensate. The advantage of using CFDs instead of spread bets in this instance is that any losses on your cfd trading position can be counted against your capital gains tax liSpreadbet Traderlity. This is a very useful strategy for large long-term investors and is very popular with the financial institutions who can engage in CFD trading to hedge their underlying market exposure.

If you enjoyed this article on cfd trading, then check out these other articles to help you hone your spread betting skills

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