As compared to the olden days, we can see that the competition is increasing everywhere today. It is because people have been continuously raising their standards of living, which is leading to them having more requirements to lead a comfortable life. In order to achieve that, a single source of income is seldom sufficient, and people are looking at different ways to earn more money.
One of the most popular ways that people try to make more money is online trading. Now, when we talk about trading, you can do it in different forms. They include trading in stocks or shares, CFD, etc.
In today’s modern world, the concept of CFD is gaining significant prominence. Though it is not available in the USA, CFD is widely popular in European countries. Apart from that, more and more people, even in the far-east, are adopting the CFD form of trading. If you have no idea about what CFD trading is, you have reached the right place. It is because today, in this article, we shall be covering everything that you should know about CFD trading. So, let us begin with the introduction to CFD, first. Here we go!
What is CFD?
For the unknowns, the word ‘CFD’ expands as ‘contract for difference.’ It is a prevalent form of derivative trading, which enables you to speculate whether a digital asset rises in the value of decreases or increases.
In other words, it is where you can trade in fast-moving global financial markets (or instruments) such as commodities, shares, indices, treasuries, or even currencies. But the good thing here is that you will not need to own any of the above mentioned digital assets here. As against the conventional forms of trading wherein, you purchase the shares or commodities; you just have to predict if the value of the digital assets that you want to deal with.
The prediction can go either way. You can say that the value of the asset you want to deal with, can go up or down, whichever way you think it will go. If your prediction turns true, you win, or you lose it! But what is it that you are losing or winning? Let us know about that here below.
How CFD Works?
As the term CFD – contract for difference, explains – here, you agree to exchange the difference in the price of an asset from the point when the contract is opened to the point when it is closed. Let us explain this to you in an easier manner with the help of an example.
Let us assume that you have decided to trade with CFD principles in shares. Now, we all know that the values of stocks are volatile. They can go down in a moment, and the next moment, they have the potential to touch the skies.
Assume that you are trading with the shares of some XYZ index, at 10 dollars each. If it were conventional stock market trading, you would have had to purchase the stocks first, to deal with them. Also, as you might be aware, you might have to buy the minimum threshold amount of commodities to be eligible to trade in those stocks.
However, the best thing with CFD trading is that you neither have to purchase those stocks nor is there a minimum threshold number of units that you would have to buy. You can trade with even a single unit of share.
Now, how this works is, you have to contact a broker, and then, you are agreeing to exchange the price of the share from the point when you start the contract, to the point when you end the contract, as mentioned above.
As discussed above, assume that you are trading with a share that costs 10 dollars each. Now, you have to speculate if the value of the asset will increase or decrease from the current levels, at the time of closing the contract. If your predictions come out as accurate, the broker will pay you the difference amount. If it happens otherwise, you will have to pay him the difference amount.
In simple example terms, let us assume you predicted that the stock’s value would be more than 10 dollars (which it was during the beginning of the contract) after 30 minutes when the contract closes. Now, after 30 minutes, if the value of the asset is more than 10 dollars, you win.
The broker will pay you the difference in the value, compared to the one during the beginning of the contract. However, if the value, unfortunately, goes against your prediction to value under 10 dollars, you lose. Then, you will have to pay the broker the difference in price.
What Is Long And Short Trading In CFD?
If you already have known a little about CFD trading, then I am sure that you might have definitely heard about long and short term trading in CFD. If not, worry not, as we will help you out with that.
Term trading is a critical aspect of trading in CFD. When you are starting a contract and predicting its value, you are doing so after a specified interval of time. In other words, if you are speculating a 0.5 dollar increase in value for a 10 dollar stock, you are also giving out a time period – say, a couple of hours, or days, or even a few weeks.
The time period is known as a ‘term’ in the trading language. Unlike the conventional form of trading, one good thing about CFD trading is that you can choose your term as per your convenience, and there are multiple flexible term options available for CFD trading.
You can predict the value of a digital asset after a few minutes, a few hours, a couple of hours, or even weeks, as per your convenience. However, we should note that it is a mutually agreed decision between the investor (you) and a broker. You will need to check with him for the term agreement.
Advantages Of CFD Trading
1. Low Transaction Charges: One of the most significant advantages of CFD trading is the low transaction charge. They are much cheaper as compared to buying shares through a full-service broker. Also, you will have to purchase the stocks in a conventional form of trading, which requires a lot of investments to be made by you. However, this is not the case with CFD, which will reduce the costs and expenditures by a significant margin.
2. Transparent Process: The idea of dealing with CFD trades is similar to that of trading with shares. Usually, one stock = one CFD, so it is not at all confusing and is entirely transparent. Also, you will work with a CFD broker, who will give you all the terms of the contract. This will make sure that you have an idea of what is at stake when the contract ends, unlike in the conventional forms of trade.
3. Tradeable on margin: In the case of CFD, you only need to deposit a percentage (typically ranging between 5 to 10% for shares and 1% for indices) of the total value of the trade. It is because the CFDs are leveraged products, and it allows you to enhance returns and levels of market exposure. For a small cost per trade, you can gain ten times the result from a trade due to the inherent leverage with CFD.
4. Trade long and short with equal ease: CFD is a trade on the price movement of a financial sheet, which does not require its ownership. Hence, you can trade both long and short with equal ease. You can take the advantage when the price of the commodity declines, and make a profit out of it by deciding on the right term. Thus, it becomes better than conventional forms of trading.
5. No fixed contract size: This is probably one of the best features of CFD trading. Unlike in the conventional forms of trading, where you have a threshold minimum for the volumes of shares that you can purchase, there is no such limit in the case of CFD. You can trade with even a single share for the minimum value and any number of shares for the higher value.
Summing It Up
A contract for Difference (CFD), like many others, is a form of trading. It is different from others as you will not need to purchase an actual commodity, like a stock, or index, or currency, to trade with it. You agree to pay or receive the difference in value during the end of the contract, against the beginning.
This form of trading is becoming more and more popular in different parts of the world, as people are finding it an efficient way of trading, as compared to the traditional methods. It has several advantages as well, as the process is transparent, and the transaction charges for the trading process are low in CFD.