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CFD Trading

WHAT ARE CFDS (CONTRACTS FOR DIFFERENCE)?

A CFD is a contract on an underlying asset (for example, a share, commodity or currency) to pay or receive the difference between the opening price and the closing price of the asset.

In many ways, CFDs are very similar to the underlying assets on which they are based (e.g. shares). The difference is the leverage, which means movements are magnified.

CFDs: The Main Benefits and Features

  • No stamp duty due on CFDs* (currently 0.5% on UK shares, or £50 on a £10,000 position).
  • Make money if the price rises or falls (i.e. go long or short) – providing, of course, that you get it right!
  • Less initial outlay. For example, you can control £10,000 worth of Vodafone shares for £2000.
  • No contract expiry – hold the position for as long as you want.
  • Deal at market prices – no extra spread.
  • CFDs are available on a vast range of assets, from blue-chip and small-cap stocks to commodities and currencies.
  • Execute orders instantly online
  • Leverage means your profits are magnified. However, it is important to remember that your potential losses are also magnified.

* Tax treatment depends on your individual circumstances and may change.

CFD EXAMPLE

GOING LONG

In this example, an investor wishes to go long of (buy) £10,000 worth of Anglo-American shares, currently priced at £10 each. The investor believes Anglo-American’s share price is likely to rise. Accendo Markets offers Anglo-American on a 20% margin, so the investor only needs to invest £2000 (£10,000 x 20%) to open this position using CFDs.

Opening Trade
CFD Standard Shares
Initial £2000 £10,000
Total Value of Shares £10,000 £10,000
Number of shares 1,000 1,000
Stamp Duty 0 £50
Commission (0.25%) £25 £25

After a ten day holding period, the Anglo-American share price has risen to £11. The investor decides to close the position and realise a profit of £1 per share.

Closing Trade(Gain)
CFD Standard Shares
Overnight Financing Costs* £9.55 0
Commission £27.50 £27.50
Total Cost £62
(£25+£9.55+£27.50)
£102.50
(£25+£50+£27.50)
Closing Value of Shares £11,000 £11,000
Total Profit (£1000-£62)
£938
£897.50
(£1000-£102.50)
% Return on Initial Outlay 46.9% 8.97%

Alternatively, after a ten day holding period, the Anglo American share price could have fallen to £9. The investor decides to close the position and realise a loss. However, a stop-loss was placed on the position at £9.50, reducing the loss.

Closing Trade(Loss)
CFD Standard Shares
Overnight Financing Costs* £9.55 0
Commission £25 £25
Total Cost £59.55
(£25+£9.55+£25)
£100.00 (£25+£50+£25)
Closing Value of Shares £9,500 £9,500
Total Loss £559.55
(£500+£59.55)
£600

*Overnight financing is based on LIBOR, and is therefore variable.

GOING SHORT

An investor believes the price of British Telecom (BT) is likely to fall, and therefore wishes to short (sell) £10,000 worth of BT shares, currently priced at £1 each. Shorting an asset is a ‘mirror image’ of buying it.

The investor is unable to short the BT shares with a traditional stockbroker, and is therefore unable to capitalise on a price drop using traditional shares.

Opening Trade
CFD Standard Shares
Initial outlay £2000
Total Value of Shares £10,000
Number of shares -10,000
Stamp Duty 0
Commission (0.25%) £25

As expected, the BT share price falls to 90p ten days after the position is opened. The investor decides to close the position and take a profit.

Closing Trade
CFD Standard Shares
Overnight Financing Costs* £7.55
Commission £25
Total Cost £57.55
Closing Value of Shares £9,000
Total Profit £942.45
% Return on Initial Outlay 47.1%

*Overnight financing is based on LIBOR, and is therefore variable. When interest rates are low, negative overnight financing credit may occur. This means that you will pay a small amount of interest to hold a short position overnight.

This example is a profitable trade. As in the previous example, a losing trade would incur the equivalent loss.

RISK & RISK MANAGEMENT

As with all investments, there are risks involved in trading on the financial markets. We’ve tried to explain the risks as clearly as possible on this website, with the aid of examples. There are ways of mitigating your risk, such as stop losses. If you need further clarification, turn to the ‘risk warning’ section of this website or speak to an Accendo Markets representative. Of course, trading leveraged products like CFDs can be very rewarding and different trading strategies can be employed to great effect, but careful risk management is essential. Don’t forget that, although profits can be magnified using leverage, so can losses.

STOP LOSSES

‘Cut your losses, run your profits’

A ‘stop-loss’ is a pre-set order to cut a position at a certain level, therefore restricting a loss. With a CFD account you have a choice between three types of stoploss; standard, trailing or guaranteed. However, you don’t have to use them. Some traders/investors have different trading strategies, and prefer not to.

  • A standard stop-loss: An automatic order to close your position at a level pre-determined by you. Can be subject to slippage.
  • A guaranteed stop-loss: A guaranteed automatic order to close your position at a level pre-determined by you. A small ‘limited risk premium’ is payable.
  • An automatic trailing stop-loss: An automatic order to close your position at a level pre-determined by you. The order level tracks the price of the underlying asset as it moves in your favour, locking in your profits. Can be subject to slippage.

In the scenario below, we use Vodafone (long);

Vodafone Entry Price                    174p

………………………………………………………………….

Stop-Loss                                         167p

If you bought Vodafone at 174, and spotted a strong area of price support (i.e. did not believe that the price was likely to fall Vodafone Entry Price 174p Stop-Loss 167p below this level) at 167, you might set a standard stop-loss at this level. Therefore, if the price falls to 167 (and trades at your order size at this level for an appropriate length of time), the system would automatically close the position for you.

 

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I would fully recommend Accendo Markets. CP, Darlington
Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage.
Spread bets and CFDs are complex instruments and come with a high risk of losing money rapidly due to leverage. 76% of retail investor accounts lose money when spread betting and/or trading CFDs with this provider. You should consider whether you understand how spread bets and CFDs work and whether you can afford to take the high risk of losing your money.