CFD is a contract that consists of a price difference. Realization or acquisition of an asset using this tool does not provide for the documentation of property rights to the transaction object. Those. if a client, for example, has entered into such a contract to acquire 500 shares of Apple, he does not become their owner. Why then make such a deal?
The answer is simple - the deal is solely to get the difference in value, which is done to hedge or generate speculative profits. If you are not a long-term investor and aspire only to receive income on operations, purchase and subsequent sale of assets, then why arrange these securities in the property? Indeed, it is much easier to acquire several CFDs and, with the growth of quotations, close positions upon receipt of income. Its size will be the difference between the cost of closing and opening a transaction. Of course, we must remember about the commission of the brokerage company. An important advantage is the lack of costs for inclusion in the list of shareholders and fees of trading platforms for gaining access to the market.
From here you can come to a completely logical conclusion that CFDs were created to simplify trading with various assets. To be more precise, these contracts were originally developed for hedging securities on the London Stock Exchange, but they were ideally suited for speculative trading. In addition to the advantages already mentioned, CFDs have a number of other important advantages:
- The minimum deposit to start working with securities, commodity and other assets
- Leverage option
- By issuing a CFD to purchase shares, you are automatically granted the right to receive dividends
- Huge potential to diversify the investment portfolio, which is especially relevant for people with a small start-up capital
- A wide selection of trading instruments from securities to grain
CFD Trading Principles
Contracts for difference imitate the income and losses of a real transaction for the acquisition or sale of an asset. CFD allows you to work on the stock exchange and generate profit without actually owning an asset
For example, you are waiting for the rapid growth of oil prices and are planning to purchase 500 shares of Exxon Mobil, the largest public oil corporation in the world. You have the opportunity to purchase these securities through a broker by paying the majority (according to Fed regulations, the initial margin in the United States is 50%) of the full price of the above assets, and for the remainder, take a loan from a brokerage company and pay additional fees. CFD does not have this disadvantage.
Margin trading provides an excellent opportunity to increase trading volumes even with a small amount of investments. If the market is moving in the direction predicted by you, then the income with the obtained leverage rises, since you have contributed only part of the total value of the contract, but income is generated in any case from a change in the total price of the contract. Of course, with such trading losses can also increase significantly when opening the wrong position. Therefore, you should be extremely careful with leverage. In this situation, risk management takes on a special role.
Intraday trading is the purchase and sale of assets in one trading day. Since margin trading provides an opportunity to significantly increase a trading position even with a small amount of investment, one can trade CFDs on insignificant price movements within one day.
Profit margins with quotes rising and falling
Contracts for difference have impressive flexibility. If you have confidence in the growth of the value of the asset, then generate a profit, opening a transaction for the acquisition of CFD. At the same time, you have the opportunity to speculate on lowering quotes by selling a contract for difference. Holders of open long positions to acquire CFDs on shares officially receive a dividend amendment that is equal to the size of the declared dividend. At the same time, a dividend amendment may be withheld from the deposit in case of opening a short position in the CFD.
If you expect purchased securities to fall in price, but you don’t want to sell them, you can take advantage of strategies to hedge your investment portfolio against risks. To do this, open a position to sell a CFD on your portfolio. Due to this, the income from this position compensates for the losses from the decrease in the price of the main portfolio assets. As a result, you will incur significantly lower costs if you compare them with hedging when real assets are sold for subsequent redemption at a lower cost.