CFD (Contract For Difference)
After presenting the best online trading platforms, let’s take a look at CFD trading platforms. One of the most popular types of online trading are contract for difference (CFD). A CFD is a contract that allows one of the parties, the seller or the buyer, to profit from the price fluctuations of assets without owning the actual asset.
Warning: CFDs are complex instruments and carry a high risk of losing money quickly due to leverage effects. Between 71 and 89% of retail investor accounts lose money when trading CFDs. Also, some parameters like margin can be volatile depending on the market trend. You should consider whether you understand how CFDs work and whether you can afford to take the high risk of losing your money.
The introduction of CFDs came to use among institutional traders as early as the 1990s. The abbreviation CFD stands for ‘Contracts for Difference’ and means transactions for difference; investment bankers also speak of equity swaps. In the interbank market, i.e. trading between credit institutions, these contracts are mainly used for hedging purposes. With the introduction of the Stamp Duty Reserve Tax in England in 1986, CFDs also became increasingly popular among speculative investors.
CFDs are highly speculative financial derivatives that are only suitable for investors who understand not only the opportunities but also the particular risks associated with this asset class. How CFD trading works and what investors should look out for when trading CFDs and choosing a CFD broker.
How CFDs work
CFDs give you the opportunity to move more capital on the markets for the same amount of capital invested than with a direct investment in an underlying asset. In addition, CFDs allow you to participate in both rising and falling prices of different underlying assets. The trading result (profit or loss) is calculated from the difference between the entry and exit price of the CFD.
“Where do I start trading CFDs?”
Where should I start? Is a common question from inquisitive people. CFD trading platforms are the appropriate option to use. CFD trading can include CFD trading of stocks, currencies, commodities, shares
eToro
The #1 social trading platform from eToro, founded in Cyprus in 2007 with offices in England and Israel. Positioned as an innovative web platform for trading, eToro sets itself apart from other CFD trading platforms with its social trading capabilities, also known as mirror trading or copy trading – meaning users can simply follow the actions of trusted traders and make the same investments. This made it quite popular in 140 countries, reaching over 3 million accounts.
Key features:
- Social trading and investment platform, 2 in 1.
- CopyTrader function – copy trades and trades
- Ability to view a member’s transactions for the entire time period
- Stop Loss – set a minimum amount in the account
- 24/7 Market hours
- eToro Economic Calendar – to see events that may affect trading
- Trading Academy – site with webinars, courses, blog.
Note that you can only withdraw a minimum of $30, although the minimum withdrawal fee is $5. There is also a $10 inactivity fee if you haven’t logged in for 12 months. eToro adheres to several regulations and governing bodies, takes cybersecurity seriously and is helpful to customers 24/7. In terms of contracts for difference, please note how CFDs work on eToro.
68% of retail investor accounts lose money when trading CFDs with this provider. You should consider whether you understand how CFDs work, and whether you can afford to take the high risk of losing your money.
Most important CFD trading facts to keep in mind
- CFDs (Contracts for Difference) belong to the group of derivatives. The price of a CFD is therefore derived directly from the respective underlying asset, for example, a share or an index.
- Investors therefore do not acquire an interest in a company or any other real asset with CFDs.
- Those who trade CFDs should know that they are dealing with highly speculative financial derivatives.
- CFD trading is interesting for investors who are willing to take risks because with CFDs they can also speculate on underlying assets one both positive and negative price trends
Loss limitation and risk management in CFD trading
With the right trading strategy for you, you can specifically counteract the disadvantages in CFD trading and thus minimise your risk. For successful risk management, you should bear in mind a few points:
- Never underestimate the leverage effect
Often traders with CFDs and other leverage products lose sight of the loss risk of the leverage effect due to the high profit potential and over-leverage their account. The higher the number of CFDs traded, the greater the risk. Even though there is no margin call on retail CFDs, you should choose your position size wisely. - Use stop-loss orders
Use (guaranteed) stop-loss orders to set your own maximum limits for a possible capital loss. - Do not use too much capital
Choose your position size wisely. As a rule of thumb, use only 1% of your capital per trade. In the order ticket at CMC you can see exactly how much money would be lost if the position were to be stopped out. Calculate how much money you would lose with 1% (alternatively 0.5% or 0.25%) in the event of ten losing trades in a row and whether you still feel comfortable with this or would prefer to choose a lower level of risk. - Do not rely on spontaneous trends
Spontaneous trends in price movements are tempting, but risky and often unreliable. Use your trading system as a guide so that you can trade systematically and leave your gut feeling out of the equation as much as possible. - Trade derivatives that you know and understand
In CFD trading, you must know the underlying asset behind the CFD and be able to estimate possible price fluctuations. If you are unfamiliar with the underlying assets of the CFD, the risk increases that you will make incorrect assessments or close out a trade at the wrong moment due to a lack of experience.
Whether it’s CFDs on indices, currencies, commodities, government bonds, cryptocurrencies, or shares, these methods will give you a stable foundation for your trades.
