What are CFDs
A CFD (Contract for Difference) is an opportunity for the small investor to speculate in a rising and falling market. The investor chooses either a long (buyer) or a short (seller) position, depending on whether he or she believes prices will rise or thinks they will fall – much riskier than buying shares.
The contract will pay the difference between the buying price and the selling price. If the investor is correct, he or she will realise a profit. The amount of profit or loss is based on the rising or falling price of the underlying asset.
The main advantage of a CFD is that it requires a much smaller investment than a full price contract. A CFD is a leverage device, generally at the rate of 10:1. In other words, the investor enters the market for about 1/10 of the usual amount. For this relatively small amount, the trader can produce much larger profits than would be possible in an account that is not leveraged. This makes CFDs a popular trading option.
With opportunity comes risk and responsibility. The finance investor needs to take into account his level of experience and knowledge of the market before investing in a CFD. It is entirely possible to lose more than was initially invested, should the market move against the investor. Some investors have been known to rack up purchases on their credit card or debit card only for the stock to swing and they are then left owing thousands of dollars.
One technique for containing risk is to utilize a stop loss order to trigger selling the product when the price reaches a certain point. This is placed in the initial contract as a way to mitigate any adverse event. In order for the stop loss order to help, a new investor must be found to take over the contract. This is not always possible.
For the small investor willing and able to accept the risk, a CFD can provide the leverage needed to reap increased profits in a volatile market. If the market moves in his or her favour, the benefits can be very great indeed.
CFD trading is certainly in fashion at the moment especially as it often needs specialised software which can be downloaded from various websites and domain names. This sort of trading should be considered with other financial advice such as health and life insurance as well as superannuation options.