What is a CFD?

A CFD (or Contract for Difference) is a financial product known as a derivative that exposes the investor to value changes in a given financial asset (like a share of stock) without the requirement of actually owning the asset.

What is a margin requirement?

This is the required deposit for opening a position in a CFD. Because CFDs are valued according to any underlying asset, it is not necessary to deposit the full value of that asset to have a position. The percentage of the underlying asset required to trade a CFD is the margin requirement.

How long can a CFD contract be held?

There are no expiry dates for CFDs on stock indices and shares or forex. However, option and commodity futures CFDs have expiry dates of the underlying futures or options contract. There are also CFDs called “Binary CFDs” that are yes/no trade and time-specific. They permit investors to trade the performance of a market during a specified time period.

Before getting started, it is important for investors to thoroughly understand the concept behind CFDs. One similarity between traditional trading and CFD trading is that it is desirable to “buy at the top” and “sell at the bottom”. However, the position is actually a contract, unlike conventional trading. One does not really own the underlying asset.

Risks trading CFDs

Online CFD Trading can be very profitable, but there is some risk of substantial losses because this investment vehicle is leveraged. The investor’s deposit exposes him to a larger share of the underlying asset and market than if he had directly purchased the instrument. Leverage provides the opportunity for investors to profit from markets without paying the full position value.

Managing risk

Since Online CFD Trading involves risk, it is important to effectively manage that risk to preserve capital for future trading.

Some caveats:

1. Know your market

Prior to trading, it is crucial that one has a firm understanding of various markets. This way, a trader can have a good sense of how volatile a given market will be and the odds of seeing price spikes.

2. Closely monitor open positions

This one sounds obvious, but many investors fail to carefully monitor their open positions. Markets that are highly volatile can move very quickly. Have a good working knowledge of markets is no substitute for routine account monitoring.

3. Use tools for risk management

Sometimes everyday life intrudes, and it becomes impossible to actively monitor open positions. Some online tools are available to help monitor positions to protect against unfavorable market moves.