Benefits of CFD trading
When you buy or sell a contract for difference (CFD) you are agreeing to exchange the difference in price of an asset from the point at which your position is opened to when it is closed. Here we introduce some of the main advantages of CFD trading – including leverage, short selling and hedging – and explain why these benefits are popular with traders.
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Why trade CFDs?
CFD trading is a form of derivatives trading – meaning you deal on prices derived from the underlying market, not on the underlying market itself. It’s a popular form of trading because it enables traders to:
- Make capital go further with leverage
- Go short or long
- Trade a huge range of markets
- Mirror trading the underlying market
- Hedge a share portfolio
- Use DMA
If you’re new to contracts for difference, start with our introduction to CFD trading and how it works.
CFDs enable your investment capital to go further, as you only have to deposit a fraction of your trade’s full value to open a position. The deposit you’ll have to put down is called margin.
How much you’ll need to deposit depends on the size of your position, and the margin factor for your chosen market. So if ABC has a margin factor of 20%, then a position worth $1000 will only require a deposit of $200.
However, it’s important to remember that your total profit or loss is based on the full size of your position, not your deposit.
|CFD trade||Traditional trade|
|Your BT position rises to $1025||You make $25, or 12.5%||You make $25, or 2.5%|
|Your BT position falls to $975||You lose $25, or 12.5%||You lose $25, or 2.5%|
Because a CFD trade consists of an agreement to exchange the difference between the opening and closing price of your position, it is more flexible than other forms of trading. This allows you to trade on markets that are heading down as well as up.
When you trade CFDs on a dealing platform, you’ll see two prices listed: the buy price and the sell price. You trade at the buy price if you think that the market is going to go up in price, and the sell price if you think it is going to go down in price.
Trade a huge range of markets
You can use contracts for difference to trade over 13,000 markets, including shares, indices, commodities, forex, cryptocurrencies, options and more. And you don’t have to access multiple platforms to trade different markets. Everything is available under one login, wherever you need it – you can trade via your web browser, your phone or your tablet.
You can even trade some markets outside of trading hours, to make the most of company announcements. Just keep in mind that the market’s opening price may differ from its out-of-hours price.
Similarity to the underlying market
CFDs are designed to mimic trading their underlying market fairly closely. Buying an Apple share CFD, for instance, is the equivalent of buying a single share in Apple – if you want to buy the equivalent of 2000 Apple shares, you’d buy 2000 Apple share CFDs.
Buying or selling a forex CFD, meanwhile, is equivalent to buying a certain amount of base currency by selling the equivalent amount of quote currency. So buying a single CFD on GBP/USD would give you the same exposure as buying £100,000 in US dollars.
So if you’re already experienced in non-leveraged markets, CFDs can be more immediately familiar than other forms of leveraged trading.
Hedging your share portfolio
Say, for instance, that you own a number of shares in HSBC, and you plan on holding your shares over the long term. You believe that the banking sector may be in for a downturn, and you want to offset any potential losses using CFDs. So you open a short position.
If you are correct and your HSBC shares drop in value, then your CFD position will earn you a profit, offsetting your loss. If your HSBC shares increase in value, then you can close your CFD position – and offset the loss you incurred against future profits for CGT purposes.
If you’re an advanced trader, you can get direct market access (DMA). This enables you to see and interact with the order books of stock exchanges and forex providers. Instead of trading at the buy and sell prices offered by IG, you can see all the available bid and offer prices at any given time, and trade at market prices you choose.
When you choose to trade using DMA, there’s no IG spread to pay – instead, DMA trades are charged via commission. While it can be a powerful tool, there’s no guarantee that you’ll find prices that are better than the prices we offer, and it’s only recommended for experienced traders.
Is there an expiration date on a CFD trade?
Most CFD trades are open ended – with some exceptions such as futures and forwards. When you want to close your position you simply place a trade in the opposite direction to the one that opened it.
Can you hold a CFD position overnight?
Yes, you can hold CFD positions overnight. However, you’ll be charged an overnight funding charge. This fee covers the capital you’ve effectively borrowed from us and reflects the cost of holding your position open.
What is the minimum contract size for a CFD trade?
CFD trades are standardised into lots, but each market has its own minimum number of contracts that aim to mimic how the asset is traded on the live underlying market.
For example, for share CFDs, the contract size is usually the equivalent of one share of the company you are trading. For forex, there are standard contracts which equal 100,000 units of the base currency, or mini contracts that equal 10,000 units of the base currency.
What are the commission rates on CFDs?
For most CFD trades, the cost of making the trade is covered in the spread. This means the buy and sell prices already include any charges. However, our charges for share CFDs are commission-based so that the buy and sell prices match the underlying market price.
Can you trade both rising and falling markets with CFDs?
Yes, with CFDs you can take a position on a market that is rising in price, and one that is falling. If you decide to buy an asset in the hope that its price will rise, this is known as ‘going long’. If you sell an asset in the hope that its price will fall, this is called ‘going short’.
Develop your knowledge of CFD trading with IG
Find out more about CFD trading and test yourself with IG Academy’s range of online courses.
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