Contracts For Difference, or simply CFDs, is a derivative product that allows you to speculate on the price movement of the underlying asset on market instruments like Forex, indices, shares, commodities, and others. You also do not need the ownership of the underlying asset for you to speculate in the market. Instead of owning the underlying asset, you agree to pay the difference in the opening and closing price of the asset. The main benefit of CFD trading is that you get to speculate on rising and falling markets. The profits or losses that you incur are all based on your predictions. Other benefits of CFD include short and long trading, hedging, leverage, and margin.
Short and Long Positions in CFD Trading
In CFD trading, you are allowed to speculate on the movement of the price in the market either on the rising market or falling market. So, although you can copy the traditional form of trading where you profit from the rise of market price, you can also open a trading position that allows you to profit from the decrease of the price of your underlying asset. This is called ‘going short’ or selling, the contrast of ‘going long’ or buying.
Consider this example, you are thinking that the Apple shares that you have will fall. In this case, you could sell it and still get some profit even though the price of the underlying asset is falling. You will still have to exchange the difference of the opening and closing price but you will be earning some profit on the drop of shares and loss if the share increases its price. Both of these long and short trades allow you to see your profits or losses once the trading position is closed.
Leverage in CFD Trading
One of the major benefits that contribute to the popularity of CFD is leverage. Leveraged products like CFD allows you to gain exposure to huge trading positions without having to commit a huge amount of money for the capital. For example, you want to open a CFD position that is equal to 500 Apple shares. Traditional trading requires you to pay the full amount before you can start to trade the asset. But with CFD, you are only to put on a certain amount called margin to start trading. Leverage allows you to have better opportunities to profit but you also need to employ a good risk management strategy to be able to cope with the risks on each of your trades.
Margin in CFD Trading
As mentioned above, the margin is the amount required to open a position in CFD trading. It is like a deposit that you have to pay to start trading. Make sure that you have extra funds in case you receive a margin call or risk getting your positions closed by your CFD provider.
Hedging in CFD Trading
It is also possible to hedge a position against losses when you are trading CFDs. If you think that the shares you have will suffer losses, you can offset it to avoid the potential losses by going short and selling the asset you have before the price dips any further.