Contracts for difference (CFDs) offer an increasingly attractive alternative to financial investors instead of physically investing in stocks, commodities, indices and bonds. A CFD is a derivative form of financial trading. Investors that wish to ‘buy’ or ‘sell’ a CFD place an order with a broker. This order is a binding contract to exchange the difference in the value of the asset from when the order is placed to when it is closed.
There are many positives of CFD trading for both experienced and beginner financial investors, providing you mitigate the potential downsides. Here are our six key benefits of CFDs for financial investors that can give you a leg up when starting out in the world of investing or provide a new dimension to your existing portfolio.
Use leverage to take your investment capital further
So many newcomers to financial trading believe they need tens of thousands of pounds behind them to invest and make sizeable returns. Thanks to CFDs, this is no longer the case. Many CFD brokers offer market leverage which can maximise profits, but also magnify losses if trades don’t go your way. With leverage, CFD traders are only required to deposit a small fraction of the full value of their trade. The deposit is known as the margin. For example, if a CFD broker offers a margin factor of 10:1, traders need only deposit £100 to open a position worth £1,000. The profit or loss that you make is based on your maximum exposure in the market.
Go ‘short’ if you spot markets in a downward spiral
CFD trading is extremely flexible as it allows investors to open ‘sell’ positions to make a profit on an asset even if its market is bearish. If you specialise in being able to predict markets that have peaked or are likely to retract in price, CFDs are likely to be a useful string to your trading bow.
A useful hedge against share portfolios
CFDs can also be a very useful risk management tool for those with traditional share portfolios. For instance, if you own shares in Barclays but the global banking sector is forecast to experience a turbulent time, by opening a ‘sell’ CFD on Barclays you can offset any losses incurred with your shares.
Simple and straightforward risk management
CFD trading can be pretty black and white in terms of your risk management. From the moment you place a CFD order, you can specify stop losses and profit-taking points to guarantee a risk-reward ratio. It’s important to note that some CFD brokers will charge you for setting guaranteed stop losses.
CFDs are an accurate representation of underlying markets
By their very nature, CFDs are designed to provide the most accurate representation of the genuine underlying markets. Unlike spread betting markets, whose margins are somewhat out of kilter with the underlying markets, to buy the equivalent of ten shares in a company on the stock market you will place a ‘buy’ CFD order of ten shares too.
Tap into thousands of global markets
Thanks to CFD brokers, even newcomers to financial investing can access tens of thousands of markets, from shares and commodities through to forex and bonds. The burgeoning cryptocurrency industry has also seen many brokers offer cryptocurrency CFDs on the likes of Bitcoin and Ethereum. CFDs are also available 24/7, allowing you to trade out-of-hours prices even when the genuine markets close for the day.
Of course, although CFDs can offer exciting returns, it’s important to respect that the potential losses can also be magnified. Investors in CFDs can lose more than their initial deposit, but responsible traders can utilise the various digital trading platforms and tools available to manage risk responsibly.
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