The Advantages Of Cfd Trading Over Traditional Share Trading

CFD means Contract for Difference, a Contract for Difference is a type of financial product entered into between two parties, the buyer and the seller

. The seller of a Contract for Difference has an onus to pay the difference between the current price of a share or other instrument over which the Contract for Difference is based and the price of the contract when it was sold to the buyer. If the difference is negative, the buyer pays the difference to the seller.

Contract for Difference trading started in London in the 1990s. It was in the year 2001 that investors realized that Contracts for Difference had significant advantages over traditional share trading, the main advantage was the avoidance of stamp duty.

Contracts for Difference have a number of advantages over traditional stock trading. The main benefit is that no Contract for Difference expires and the owner of a Contract for Difference is required to maintain a minimum margin amount, much less than buying stocks or futures contracts outright. For an investor to ensure that they earn money through CFD trading, it is essential that they calculate risk, study market trends on a frequent basis and avoid margin calls which can occur should the Contract for Difference position move against the buyer. traders can go short or long and use stop loss orders enabling them to reduce their losses.

There are many types of financial instruments available allowing traders to invest their money in order to profit. Depending on the level of knowledge an trader has they will choose the right financial product to suit their needs. If we compare all types of financial instruments, then it can be said that Contract for Difference trading is most similar to futures trading with the additional benefit of liquidity and leverage.

Below are four of the main benefits of Contracts for Difference for short term traders

1. Overnight financing

CFDs are the ideal choice for short term day traders and there are a few important reasons for this. Firstly, Contracts for Difference incur a financing rate when you hold a position overnight. The financing for long positions is typically the Reserve Bank rate or cash rate. So if the Reserve Bank rate is 4.25% then you pay 6.25% per year calculated back as a daily rate as the CFD provider will add a haircut of around 2% on top of the Reserve Bank rate. You can avoid financing charges by closing your position before the day is over.

2. Contract for Difference Leverage

Another reason that Contract for Difference trading strategies are so common is leverage. If you had $5,000 in a share trading account then you could only trade $5,000 and a 5% move on $5,000 would only be $250. If you took that same $5,000, invested in CFDs and opened a $20,000 position, that same 5% move now equates to $1,000. Therefore with Contracts for Difference you can potentially make another $750 with no extra investment.

3. Liquidity

The key for short term day traders is liquidity, unlike other derivative products such as options, Contracts for Difference reflect the liquidity in the underlying market . When trading using a DMA provider you can see the precise volume available on each stock CFD at each price level in the market depth.

4. Commission

A significant advantage of CFDs for investors are their low commission rates. Some brokerage products such as index CFDs are brokerage free. If you are trading the top 300 ASX Contracts for Difference, the brokerage rate is still low. Typically commission brokers charge a minimum of $10 or 0.1%.

If you want to learn more about Contracts for Difference you can visit our CFD page and you will find a variety of related trading facts. You can find out more about CFD trading by visiting IC Markets website.

by: Ic Markets

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