Contract for Difference or well-known as CFD is a derivative product that allows people to trade based on the price movements of assets and indexes across local and international markets. It allows the traders to get into the market using only a fraction of the value of the asset they are purchasing, which intensifies the potential for gains and losses (leverage).
CFD is considered as a tradable instrument that reflects the movements of the asset underlying it. It allows the traders to trade against share price movements without actually buying or selling the physical shares. They are fast and accessible, eliminating the need to trade through a stockbroker. CFDs can improve the risk or return on your investment capital.
Moreover, CFD is specifically ideal for traders who aim to gain a larger market exposure using only a proportion of full value while penetrating and exiting the trades swiftly. Below are some of the advantages of CFD you might consider:
No required day trading
Unlike other markets, CFD has no required minimum amounts of capital for day trade or placing limits on the amount of day trades that can be made within certain accounts. This is a major advantage of CFD, which is not bound for any restrictions. You are allowed to day trade if they want. Although $2,000 and $5,000 are the required minimum deposit, you can open an account for as low as $1,000.
Diversity on trading options
With CFD, you can from trading selections including: index, stock, currency, commodity, and treasury. Not only stock traders benefit from these trading options, but also a lot of traders from various financial vehicles.
High levels of leverage
With leverage involved, traders would only require to pay a fraction of the full value that the trade has in order to open a position. The margin for upfront payment is usually a small percentage of the total trade value. Using the leverage, it helps the traders to increase any profits they see, but it also magnifies the losses they will have. Understand first the risk of margin and leverage before doing the trade; ask for help from professional traders or brokers.
Flexible contract sizes
With CFD, contract sizes are frequently less compared to usual contract size of the underling instrument. In short, traders can get exposure to the price movement of the instrument without a significant deposit.
Connection to international financial markets
CFD traders are allowed to gain access to wide variety of worldwide markets. It is now easier to trade commodities such as oil, silver, and gold. There are also varieties of global indices without having to trade the futures contract itself.
Trade on international markets using one account
A lot of CFD providers are offering CFDs on international shares such as silver, oil, and gold. Using just one account, trader can also have shares on indices, treasuries, sectors, and commodities. Traders will be more diversified in the investments across their portfolio.
Small transaction costs
Brokerage using CFDs will be much cheaper compared in buying shares with the help of full service broker. There are no stamp duties on CFDs because the stock is not actually being purchased.
Flexibility in Markets
One clear advantage of CFD trading is that traders are not limited to establishing positions in only one type of economic environment (for example, posting buy positions in a bull market). The ability to trade in both rising and falling markets adds flexibility to your CFD trading strategy and allows you to forecast price movements that coincide with the underlying fundamentals (which can fluctuate in both positive and negative directions).
One method that investors use to limit potential risk is the implementation of ‘hedged’ positions. For example, if you have a long position on a stock that is accruing losses, you can open a position in the opposite position using a short CFD. This might seem redundant to some, but it will help to balance losses, as the short position will start to make gains if prices continue in a downward direction. This balance, or ‘hedge’, will thus allow you to limit risk and prevent future losses.
Absence of Stamp Duty
Unlike traditional share dealing, there is no stamp duty to pay on a CFD trade as you don't take physical ownership of the underlying asset. However, tax treatment depends on individual circumstances and can change.
One of the most important factors to consider when you are trading anything is liquidity. Whether you are buying CFDs or cattle or cucumbers, you cannot hope to make money unless there is a market for your product. The wider that market, and the easier it is to realise your notional gains, the more effective a market that is in terms of delivering a return. The market for CFDs is highly liquid because it tracks almost directly the underlying asset market. That means that market movements can filter through into the CFD transaction, making it easier to yield a profit and affording shorter investment cycles.
No Expiration Date
CFDs have no set expiry date, unlike other forward looking instruments such as futures, which means they don’t decay in price and they are less restrictive. With a CFD, you can hold on to your position for as long as is necessary to yield a result, which gives you the flexibility to ride through market cycles if necessary, without the need to be more specific about the timeframe over which you anticipate the market to move in your favour.