Forex CFD (contract for difference) trading

Introduction: What are CFDs?

A Contract for Difference (CFDs) is a contract traded on an asset in such a way that the differential in value of the asset traded is based on the price differentials of the underlying assets. With CFDs trading, traders get to speculate on whether the prices of fast-moving global financial markets or instruments such as stocks, commodities, indices, currencies, etc., will rise or fall. CFD trading allows traders to trade on the margin. As such, traders can go short (sell) if they think prices will fall, or go long (buy) if they believe prices will rise.

With CFD trading, traders do not buy or sell the physical underlying asset (such as currency pairs, stocks, indices, commodities). Instead, they buy and sell many contract units for a particular asset, and choose a direction based on whether their analysis of future price changes. Consequently, CFD allows traders to make profits as a result of playing the markets on the prices of underlying financial assets without actually owning them. Like every other financial asset, CFDs are traded on a broad range of global markets.

Forex CFD Trading

What are the key aspects of forex CFD trading?

A) Leverage

Leverage refers to a market situation where the trader is lent capital by the brokerage to trade to enable the trader control large amounts of the CFD contract for a fraction of the cost.

For instance, a leverage of 1:10 (or 10%) means that a 1% change in the price of the underlying asset will induce a 10% change in the price of the CFD. Leverage is sometimes known as “gearing” and can multiply either gains or losses. What this means for the trader is that they could lose more than the amount of capital deposited. On account of this, an increase in leverage leads to magnified price changes, which also affects the the amount of margin required to maintain the position. Overall, CFDs are leveraged instruments, meaning that a trader only needs to deposit a tiny percentage of the full value of a particular trade to open a position. This capital is referred to as the margin requirement.

B) Margin Call

A margin call relates to a phenomenon where a broker asks for an increase in the margin required to maintain open positions, when the total unrealized losses from open positions exceed the trader’s portion of the capital in the trades. Leveraged assets such as CFDs require a certain amount of money to remain open. If you make a streak of losing trades and the funds in your account are no longer enough to keep your existing trading positions open, your broker will demand that you top up your trading account. Failure to add funds to your account may see your broker close the position. When this happens, any losses incurred in the course of the trading activity will be translated from unrealized losses to realized losses.

Assets Traded as CFDs

When you trade CFDs, you can take a position on many instruments across a broad range of markets. These include:

  • Forex. CFD trading allows traders to trade currency pairs as CFDs. CFD trading offers traders the chance to trade cash and forward forex contracts that include all the major and minor pairs, as well as exotic currency pairs. Some of these pairings include USD/JPY, EUR/USD, GBP/USD, EUR/AUD, GBP/JPY, AUD/USD, USD/CHF, GBP/CAD, CAD/CHF, among others.
  • Commodities. With CFD trading, traders can speculate on many cash and forward commodity products such as gold, natural gas, silver, oil, corn, wheat, soybeans, palladium, sugar, copper, cocoa, and much more. The physical commodities do not need to be owned by the trader, and there are no deliverables on expiration of the contracts.
  • Indices. CFD trading enables traders to take a position on the price movements of the indices which track the movements of stocks on an exchange. Traders have the liberty of choosing from many cash and forward indices contracts: UK 100, Germany 30, US 30, Japan 225, ASX 200, USA 500, Swiss 20, Norway 25, Hong Kong 50, Spain 35, Italy 40, France 40, etc.
  • Stocks. Traders who wish to trade CFDs can do so on thousands of in-demand stocks from different countries of the world. Some of the stocks traders can deal in include Facebook, Lloyds Banking Group, Apple, Tesco, Barclays, Sainsbury, HP, Coca-Cola, Samsung, Amazon, Snap, Micron, Tesla Motors, Cooper, Barrick Gold, S&P Global, Rockwell Collins, etc.
  • Treasuries. CFD trading offers traders the opportunity of trading in a range of treasuries such as bonds, gilts, treasury notes, and bunds, among others.
  • Cryptocurrency. This is the latest class of CFD assets. Traders can trade cryptocurrencies as CFDs on Bitcoin, Ripple, Ethereum, Litecoin, Dash, Monero, and Bitcoin Cash, without necessarily owning the cryptocurrencies in a wallet.

How to Start Trading CFDs

Traders can trade on markets using leverage to access thousands of assets globally. To take advantage of the versatility of CFDs as a part of your trading portfolio, you can take the following steps:

  • Select a broker that lists CFD assets on its platform.
  • Find out about their account opening requirements. If you consider them favorable to your trading aspirations, you can proceed to the next step.
  • Create an account. Having identified your preferred broker, create a trading account with them. We usually encourage traders to begin with a demo account to enable them to master the strategies before they commit actual money.
  • Choose a market. Determine which market you want to trade on.
  • Decide whether to buy or sell. You will have to click on the “Sell” option if you believe that the value of the market will fall. If, on the other hand, you think that the value of the market will rise, click “Buy.”
  • Set your trade size, stop loss, take profit and other trade parameters.
  • Select the number of CFD contracts you want to trade.
  • Execute the trade. Remember to keep track of your trade and close it when appropriate.

Advantages of CFDs

The Advantages of CFDs include:

  • Traders can trade without having to put down the full value of a position. This enables them to use their funds for other investments since they are not tied up in one transaction.
  • CFD allows traders to trade on both rising and falling markets. This helps traders to hedge their existing portfolios during short-term volatility.
  • Traders can participate in the markets without assuming the risks of having to take the possession of the underlying physical asset.
  • CFD offers a way for traders to trade conveniently, as they can trade different assets on the same platform.
  • CFD trading allows flexible lot sizes, which give traders greater control over trade positions and the allocation of their trading portfolio.

Conclusion

In all, CFDs offer a way for traders to trade in a range of markets and a variety of instruments. The opportunity of trading across different markets enables traders to diversify their trading portfolio. It is one of the most sophisticated and versatile assets in the financial markets today.