Contract for Difference (CFDs) are financial instruments meant to mirror the prices of its underlying assets. CFD traders can realise profits or losses based on the difference between the opening and closing price of the contract. CFDs are complex instruments so anyone thinking of trading them should consider the pros and cons, as well their individual financial position very carefully. In order to trade CFDs successfully, you must have a sound appreciation of how CFDs work as well as the underlying assets they represent. The CFD provider and the trading platform also play a role in your success or failure.
The CFD Provider
When an investor decides to begin trading CFDs, they usually have to open an account with a CFD provider. Because the trader relies on the CFD provider to conduct the essential transactions associated with the trade, the trader is exposed to “counterparty risk.” If the CFD provider becomes financially insolvent they will not be able to pay what is owed to you. Also, if the CFD provider only has a handful of large clients, then any losses suffered by those clients could affect you as well. Hence it might be a good idea to inquire who may be the other clients of the CFD provider, or at least how many clients they have.
A CFD provider also has a particular business model. These models generally come in three forms: Market Maker Model (OTC), Direct Market Access Model (OTC), Exchange-traded model (ASX). In the market maker model the CFD provider sets the price of the contract to be traded. In the direct market access model the trader pays a price that is determined by the market (for the underlying asset) and in the exchange-traded model CDFs are traded much like stocks on the stock exchange.
Choosing an appropriate trading platform
When choosing a trading platform, there are some things you should look for:
Are they easy to use?
Any trading platform should be user friendly and contain a variety of control options. Your user experience should feel enhanced and pleasant. Or at least, you can focus on trading rather than on the software. There should also be step-by-step tutorial programs on how to use the software.
Access to information
Any trading platform should have all the necessary data at your finger tips to make the best trading decisions. There should be an array of research tools available for use and the trader should always be in a position to have the latest data available.
The speed and efficiency of a trading platform can be a big factor in how well you perform. It could also make the difference between a profit and a loss. Therefore choose a platform that has a large amount of trading time.
The platform you choose should be secure with firewall protection and your information should be safe from hackers. You should be able to have a diverse portfolio while maximising your profits. Many platform providers allow you a trial period to decide if it right for you.
What you need to start trading
CFD traders must pay a margin to begin trading. A margin is a percentage of the total value of the trade. You must be careful though, because if the CFD trade is not in your favour you may have to place extra funds to cover the losses. CFD providers may often monitor the account on your behalf to alert you of any margin calls, but it is really up to you to monitor your account. If you cannot pay the extra funds your account could be liquidated.
If you would like to get more information on CFD trading and trading platforms, you can check out guided platform introduction available on CMC Markets