How to trade financial markets
Financial markets offer a variety of opportunities to traders who prefer to take short-term, speculative positions. Discover how to trade, which markets are available to you and the steps you should take before opening a position.
What does it mean to trade financial markets?
Trading financial markets can either refer to the physical exchange of an asset, or the practice of taking a speculative position on the underlying market price.
For example, while an energy company might need to literally buy crude oil, a commodity trader might just take a position on the future oil price using derivative products.
The intention behind trading financial markets is, of course, to make a profit. There are two ways in which traders can do this:
- By accurately predicting a market will rise in price
- By accurately predicting a market will fall in price
Going long on financial markets
Going long is considered the traditional method of ‘buying low and selling high’. You would look for assets that you believe are undervalued, and then opt to ‘buy’ the market in the hope that its value increases in the near future.
The loss or gain to the position would depend on the extent to which your prediction was correct. If the market did increase in value, you would close the position and take any profits. If the market decreased in price instead, then you would make a loss.
Going short on financial markets
The traditional method of short-selling involves borrowing an asset from a broker and selling it at the current market price. If the market price falls, the asset can be bought back for a lower price and returned to the lender. The difference between the initial price and the new lower price would be your profit.
But when you trade financial markets via derivatives, rather than opting to ‘buy’ a market, you simply choose to ‘sell’ it on the deal ticket. As you don’t have to deal with the physical asset itself, you can do this without a third-party lender.
If your prediction was correct and the market did decrease in value, you’d close the position in profit. If the market increased in price instead, you’d incur a loss.
How to start trading financial markets
When you start to trade financial markets, you’ll first need to choose whether you are going to exchange the physical asset – you’d do this via a broker – or speculate on the underlying market price using derivative products.
With IG, you can start trading financial markets by:
- Using CFDs
- Choosing a financial market to trade
- Creating a live account
- Opening, monitoring and closing your first position
Alternatively, you could open a demo account to build your confidence in a risk-free environment before you start to trade.
How can you trade financial markets?
Trading financial markets is usually carried out with derivative products, which track an underlying market and enable you to take a position on the market price without ever owning the asset in question.
The reason derivative products are so popular is that if you physically owned the asset, you could be liable to pay additional costs – such as stamp duty. But as traders never take ownership of the underlying asset, there can be significant tax benefits in certain countries.1
CFD trading involves purchasing a contract to exchange the difference in price from when the position is opened to when it is closed. CFDs can be used to offset profits against losses for tax purposes – which makes them a useful tool for hedging.
To calculate the profit or loss earned from a CFD trade, you’d multiply the deal size of the position (the total number of contracts) by the value of each contract (expressed per point of movement). You would then multiply that figure by the difference in points between the price when you opened the contract and when you closed it.
Let’s say you decide to open a CFD trade to buy 10 FTSE 100 contracts at 7500. A single FTSE 100 contract is equal to a £10 per point, so for each point of upward movement you would make £100 and for each point of downward movement you would lose £100 (10 contracts multiplied by £10).
Investing vs trading
Investing and trading are two very different methods of attempting to profit from financial markets. It is important to make the distinction early on so that you can choose which best suits you.
The main differences are the timeframe over which a position is held, the means of making a profit and whether or not you take ownership of the asset.
The aim of investing is to gradually build profits over a longer period of time - often years or even decades – by buying and holding a portfolio of stocks, funds or other investment instruments. There are two main ways for investors to profit from financial markets:
- Dividend payments. If a company is particularly profitable, they might choose to pay shareholders a portion of this profit, known as a dividend. An investor can either choose to immediately cash in the payment, or to reinvest it
- Capital appreciation. If the asset increases in value, then it will generate a profit at sale. This would be calculated by taking the difference between the price at which an investor bought the asset, and the price at which it is later sold
This methodology is in contrast to that used by traders, who will open speculative positions over a much shorter timeframe in order to capitalise on smaller price movements. Positions will often achieve smaller amounts of profit each time but, as trades are opened more frequently, the capital can accumulate more quickly. For example, while investors might seek annual returns of 15%, some traders will be aiming to generate this in a month.
Being able to trade in both directions also means that traders have a much wider range of opportunities than traditional investors.
|Time frame||Short-term position||Long-term position|
|Position direction||Go long or short||Go long|
|Available markets||Shares, indices, commodities, forex, cryptocurrencies, Exchange traded funds (ETFs) and more||Shares, ETFs and investment trusts|
|Market environment||Benefits from volatility||Benefits from stable growth|
Markets you can trade
When people talk about financial markets, they are usually talking about the stock market, but there is actually a huge variety of financial markets to trade. In fact, with IG you can trade over 16,000 markets, including:
Shares are one of the most popular and well-known financial instruments. When you buy a share, you’re buying a small part – or ‘unit of ownership’ – in a company. So, if you’re considering trading shares, it’s extremely important to research both the company, as well as the industry that it’s in.
There are thousands of shares available to trade across stock markets all over the world. You can explore IG’s offering using our stock screener.
A stock index is an instrument designed to represent a group of stocks from a particular exchange. Rather than trading an individual stock, you’d be speculating on the value of a number of different companies. This means that you can gain a much larger market exposure than you could with a single position.
For example, the FTSE 100 represents the largest 100 companies traded on the London Stock Exchange (LSE). If the share prices of these companies goes up – then the FTSE 100 will rise with them. And if they fall, it will drop.
Forex – or foreign exchange – is the marketplace for the conversion of one currency into another. It is one of the most actively traded financial markets in the world, with an average trading volume of $6 trillion.
Unlike many other financial markets, forex trading doesn’t occur on a central exchange. Instead, transactions take place directly between two parties in an over-the-counter (OTC) market. This means that the forex market is open 24 hours, 5 days a week across different time zones.
Commodities are physical substances such as gold, oil and agricultural products – including wheat, sugar and soybeans.
Most commodity trading involves the purchase and sale of a physical commodity via options or futures, but derivative products enable traders to speculate on their price without having to take delivery of the goods.
This means that you won’t need to open an account with a cryptocurrency exchange or create a digital wallet, you can just get started trading with a regular CFD account.
Exchange traded funds (ETFs) are made up of a basket of assets – whether this is stocks, indices, currencies or commodities. They are designed to track the performance of an existing market or group of markets.
ETFs are popular as they enable traders to take a position on a number of assets by opening just one trade. Not only is this more cost effective, but it can open up a range of opportunities – such as being able to trade entire sectors.
Your pre-trade checklist
Once you have decided how to trade and what you will trade on, there are a few other steps that we would recommend taking before you open a position.
Carry out research
When you first start to look at financial markets there can be a lot of jargon and processes to get your head around. This is why it is important to do your research before you trade.
Not only are there different market hours and regulations, but the driving forces behind each market can be extremely varied. For example, while the stock market is largely influenced by company earnings reports, the forex market is more sensitive to political news and economic data releases.
However, there is no need to be put off if you don’t understand something as there are some great resources out there to help you hit the ground running.
IG Academy has a range of online courses that can enable you to develop your knowledge of financial markets – this includes courses on the stock market, CFDs and financial risk. Alternatively, you could look at other resources such as financial market podcasts and trading books.
But remember, understanding financial markets and how they operate isn’t an overnight process. In fact, there isn’t really an end to how much you can learn.
Create a trading plan
Before you start to trade financial markets, it is important to consider exactly what you are hoping to achieve. These targets need to be realistic: if you expect to make lots of money immediately, you might be sorely disappointed.
This is why many traders create a plan that will outline all of the parameters for their decisions going forward. It should set out exactly what you plan to trade, when you will trade and how much capital you will dedicate to each position. A trading plan should always be unique to you and your risk appetite, but there are a few things a successful plan should cover:
- Your motivation for trading
- How much time you can commit
- Your trading goals
- Your attitude to risk
- Your available capital for trading
- Your trading style and strategy
- How you will manage risk
Choose a trading style and strategy
A trading style determines how often you’ll trade and how long you’ll hold each position for. Although your style will be unique to you, there are four that have become popular:
|Description||Time frame||Common holding period|
|Position trading||Position traders focus on the overall market trend and are unconcerned with smaller price movements.||Long term||Months to years|
|Swing trading||Swing traders look at entering and exiting positions at dips and peaks within a larger move.||Short to medium term||Days to weeks|
|Day trading||Day traders will buy and sell multiple assets within a single day to take advantage of volatility.||Short term||Intraday only|
|Scalp trading||Scalpers will close trades as soon as the market moves in their favour – taking small and frequent profits.||Very short term||Seconds to minutes|
Once you’ve chosen a style, you’ll need to decide exactly how you’ll enter and exit trades – this is known as a trading strategy. Common strategies include:
- Trend trading. This strategy relies on technical analysis to identify overarching trends. Positions are held for as long as the trend lasts
- Range trading. By focusing on range bound markets – which move between support and resistance lines – short-term traders can capitalise on small oscillations in price
- Breakout trading. This is the strategy of entering a given trend as early as possible in order to profit when the price ‘breaks out’ of a range
- Reversal trading. By identifying when a given trend will reverse, traders can enter positions and capitalise on the change in market sentiment
Perform analysis: technical and fundamental
Your trading strategy will be based on fundamental or technical analysis – or a combination of both.
If you choose to look at fundamental analysis, your trades will likely revolve around macroeconomic data, company reports and breaking news. Whereas if you decide to use technical analysis, you would focus on chart patterns, historical data and technical indicators.
Let’s say a fundamental and a technical analyst were both considering trading Barclays shares.
A fundamental analyst would examine the bank’s recent earnings reports, how the entire banking sector is performing, and the health of the UK economy before deciding how much they think Barclays shares are worth.
A technical analyst would pay attention to the Barclays share price chart and use technical indicators to find patterns in historical data that could suggest where the share price might move in the future.
Build a risk management strategy
Creating a risk management strategy is a crucial step in preparing to trade. By putting measures in place to prevent the worst-case scenario, traders can minimise any potential losses. Risk management tools such as stop-losses and limit-close orders are an essential part of any trader’s toolbox.
Stop-losses instruct your provider to close a trade when the price of a market hits a specific level that is less favourable than the current price. This means that you can select a level of risk that is acceptable to you, and the stop-loss will close your position automatically when the market hits this predetermined amount of loss.
Limit-close orders instruct your provider to close a trade if the market price reaches a specified level that is more favourable than the current price. This enables you to lock in any profits.
Gain trading experience
When you first start thinking about trading financial markets, the idea of putting your capital at risk can seem daunting. However, you don’t have to throw yourself in at the deep end. You can practise trading in a risk-free environment first by using an IG demo account.
When you create a demo, you’ll be given £10,000 in virtual funds that you can use to open and close positions. This will help you build your confidence trading CFDs, and get to grips using our online platform.
If you’re confident in how to trade, you can open an account and start trading on live financial markets.
How to trade financial markets summed up
- Trading financial markets refers to the practice of taking a speculative position on the price of an underlying asset
- While some financial trading involves exchanging a physical good, most is purely speculative and does not involve taking ownership of the underlying asset
- There are two ways in which traders can profit: correctly predicting if an asset will rise in price and correctly predicting if an asset will fall in price
- Trading financial markets is usually carried out with derivative products, which track an underlying market’s price
- CFDs are popular derivative product
- There are over 16,000 financial markets to trade with IG, including shares, indices, commodities, cryptocurrencies, forex and ETFs
- There are a few steps to take before you start to trade financial markets, including carrying out research and gaining trading experience
1 Tax laws are subject to change and depend on individual circumstances. Tax law may differ in a jurisdiction other than the UK.
Publication date :
This information has been prepared by IG, a trading name of IG Markets Limited. In addition to the disclaimer below, the material on this page does not contain a record of our trading prices, or an offer of, or solicitation for, a transaction in any financial instrument. IG accepts no responsibility for any use that may be made of these comments and for any consequences that result. No representation or warranty is given as to the accuracy or completeness of this information. Consequently any person acting on it does so entirely at their own risk. Any research provided does not have regard to the specific investment objectives, financial situation and needs of any specific person who may receive it. It has not been prepared in accordance with legal requirements designed to promote the independence of investment research and as such is considered to be a marketing communication. Although we are not specifically constrained from dealing ahead of our recommendations we do not seek to take advantage of them before they are provided to our clients. See full non-independent research disclaimer and quarterly summary.