CFDs, First steps and 5 Tips to perform your best

The CFDs ( Contract for Difference) is a financial product available on Trading Platforms. The principle is to trade the fluctuations of products or indices without owning or borrowing the underlying values. A CFDs is a contract between a buyer and a seller. It states that the seller must pay the buyer the difference between the present value and the value of the underlying asset at the date of the contract. If the difference is negative, then the buyer pays the difference to the seller.

The purpose of a CFDs

The Contract for Difference allows investors to position themselves up or down on an underlying (indices, equities, currencies, futures). It is, therefore, a derivative product, in the sense that the investor does not have to become the owner of the product itself. Unlike futures, CFDs do not have a predefined maturity date or size. The trades are on the basis of a leverage effect with margins of 1 to 30% of the nominal value of the underlying.

Trading Markets

CFDs are available on organized markets as well as on over-the-counter (OTC) markets. They are not available in the United States, due to a restriction of the Securities & Exchange Commission (SEC) on OTC financial products.

The advantages of CFDs

Unlike certificates and warrants, CFDs do not have a finite life beyond which will make it worthless. Over 7000 products are available from commodities to indices through equities. Simple to use, CFDs offer a leverage of 10 in general. So for example, by buying 50 CFDs Alibaba instead of buying the Alibaba share price of $70. It's like to invest € 350 instead of € 3,500 to enjoy a similar performance. If the Alibaba share gains 2%, the CFD derived from Alibaba will appreciate by 20%.

5 TIPS to perform with CFDs

1. Choose the right broker

  The CFDs can expose you to a risk potentially greater than a regulated and listed stock market product. In CFDs transaction, the broker acts as the counterparty and is the entity with whom you contract. It is therefore essential to choose a well-established and regulated broker. Since the CFDs is not listed, the broker can not influence the quotation, unlike the case of certificates and warrants. The price is identical to that of the product, which gives good visibility. However, the spread - the difference between the purchase price and the sale price - is fixed by the broker to ensure his remuneration. But the spread announced by brokers is not necessarily guaranteed. This can increase sharply, especially in the case of renewed volatility. So choose a broker that offers a guaranteed spread. Check also the margins proposed: the broker blocks a more or less important part of your investment when you take a position: a margin of 20% allows you to invest for example $5,000 by mobilizing only $1,000. You are in level 5, which is very high, especially for a novice trader. Once this amount is used (in the event of an unsuccessful bet) if you maintain your position, the broker makes a margin call, that is to say, that he asks you to put money back on the table. Finally, as with any trading operation, the chosen platform must be safe, efficient and practical.

2. Duration of placement of CFDs

With no expiry date, the Contract for Difference does not lose value as time passes, unlike the case of warrants. So you can keep it for a long time without worrying about this factor. However, do not neglect the consequences of a long-term CFD carry in terms of costs: the maintenance of positions from one day to another (overnight) induces an additional cost. Indeed, the broker finances your leverage and claims in return the payment of interest, which accumulates over time.

3. Leverage

The leverage offered by brokers can reach staggering levels. Do not be lured by such offers, which are far too risky in the event of a change in the underlying that is contrary to your bet. A leverage of less than 5 is ample. CFDs are available in a mini version, to start serenely with a small capital. It can be mini-contracts CFD on Nasdaq that proposes a variation of $1 per point, and micro-contracts can go down to 10 cents of variation.

4. CFDs transaction costs

Costs related to the purchase of a CFD are, most often, fully included in the spread, which avoids unpleasant surprises. However, remember that the more you keep the CFDs, the more the fees applied by the broker increase. CFDs are more accessible than futures. They attract particular investors, sometimes insufficiently aware of the specifics of trading. Whatever your bet, you owe it to yourself to have solid knowledge.