Equity Contracts for Difference (CFDs) provide an opportunity for you to make profits from trading without ever owning the asset being traded on. However, CFDs are not for those without a stomach for risk, as this leveraged form of trading gives you the chance to make unbelievable profits, but also significant losses.
So what are equity CFDs? Equity CFDs reflect the price variations of the asset in question, so being able to read market trends and follow movements in the value of shares is crucial to trading on CFDs. Equity CFDs are based on any equity listed on a stock exchange. You can buy or sell a CFD and, at the end of the contracted time, you either pay or receive the difference between the opening and closing price of the asset, depending on whether the value has increased or decreased.
The contract between a CFD buyer and seller is referred to as a ‘financial instrument’ tied to the value of the asset in question. Trading on CFDs means you are not culpable at all for the asset itself. You can predict the asset will fall in value or rise in value and make money if your predictions are correct. In the UK, any profit made from trading on CFDs is exempt from stamp duty, making it a highly attractive form of trading.
There are many other advantages of equity CFDs. In contrast to the traditional buying and selling of shares, CFDs allow you to trade on a company’s share performance without having to buy or sell anything. If you do also own some shares, CFDs can be used to hedge against these other investments, to give you a more balanced portfolio. For example, if you hold shares that right now aren’t giving you much in the way of dividends, but in the future look set to yield big returns, CFDs could be used to generate revenue in the meantime.
The disadvantage of CFDs is of course how high risk they are. As you need only a small amount of money to occupy a large position, should your predictions fail, you could easily end up loosing far more money than you originally invested. It is therefore useful that when trading on CFDs you can close your position at any time to lock in profits or limit you losses. Many traders wisely adopt a stop loss order. This allows you to set a point at which your position would automatically close. So for example if the asset dropped to £X in value, your stop loss order would at that point close your trade before further losses occur. So despite the high risk, you can protect yourself to a certain degree and set in place barriers to limit how much you can lose.
For many traders, equity CFDs are a stepping stone from trading in shares to trading in CFDs. One big advantage CFDs have over other forms of trading is the sheer diversity of markets on offer; you can trade in more sectors than are available through the more traditional stock market trading. So, if you are looking to trade on new and different types of assets, equity CFDs can help you transition to trading methods that will allow you tackle new markets.
Risk warning: Spreadbetting, CFD trading and Forex are leveraged. This means they can result in losses exceeding your original deposit. Ensure you understand the risks, seek independent financial advice if necessary. The value of shares and the income from them may go down as well as up. Nothing on this website constitutes a solicitation or recommendation to enter into any security or investment.