Applications of CFDs
Hedging is another reason CFDs are such a brilliant trading product. For those who are not aware, hedging is the action of taking an equal but opposite position to mitigate or reduce risk. CFDs are ideal for hedging large equity investment portfolios, whether via an Individual, Company, Self Managed Super Fund (SMSF) or a trust account. Prior to CFDs, equity traders had no easy way of hedging these portfolios. Options or Warrants were popular for hedging portfolios however, they are expensive, have expiry dates and never provide a perfect hedge.
CFDs provide a much more effective way to hedge. Firstly, you could hedge an equity position with a short CFD position of exactly the same volume completely neutralising the value of the portfolio. Direct Market Access CFDs have a perfect correlation with the underlying, so every dollar your equity portfolio loses your CFD position will gain. What makes it even better is, with a CFD, you only have to outlay the margin of the CFD rather than the full notional value and there is no cost to hold (short CFD positions receive interest rather than pay interest). When the trader believes that the market will no longer fall but rise they can then close the CFD hedge and watch the equity portfolio continue to make gains. CFDs are a flexible and cost effective way to protect the value of your physical shares while retaining your holdings.
Diversification is a risk management technique that involves allocating funds to a variety of shares to spread the risk across a number of companies. CFDs are an ideal diversification tool due to their lower capital requirement and lower transaction costs. A diversified portfolio allows you to gain exposure to a number of positions across multiple companies, sectors and even asset classes to limit your potential risk by spreading the risk across a number of positions to enable you to achieve more stable returns. Due to the fact that margins across a lot of CFD products are so low, multiple positions can be taken with greater exposure of a traditional product such as equities.
FP Markets offers a range of Global CFDs from America, Australia, Asia, and Europe, covering products such as FX, Equity CFDs, Commodities and Indices.
Self Managed Super Funds
Following the tax ruling by the ATO (ATO ID 2007/56), CFDs can be traded within your SMSF under certain circumstances. CFDs can be used within your SMSF to protect the value of the shares held in your SMSF by Short Selling CFDs to hedge your positions and make better use of your trading capital by trading on margin. CFDs are one of the only products that is tradable in a SMSF that allow you to use leverage.
Along with this, FPM offers the ability to open trust and/or company accounts to trade CFDs as well.
CFDS are a highly geared trading instrument and due to the nature of the product it opens up a wide variety of trading styles available to traders. One of the simplest and most commonly used is scalping and this really illustrates the power of CFDs.
Scalping using CFDs is ideal due to their flexibility and low transaction fees. Cash settlement, leverage, ability to short sell and to trade off unrealised profits are just a few features of CFDs that make them flexible and ideal for scalping.
Scalping involves placing multiple trades throughout a trading session with an extremely short-term focus. Using very small price movements coupled with leverage, the idea of scalping is to keep taking small profits a multitude of times. Trades are often exited shortly after becoming profitable. Generally speaking, scalping trades are intra-day rather than long term holds so as to eliminate overnight risk from adverse market movements.
Scalping will also allow the trader to operate regardless of market conditions. The leverage provided by a CFD will allow for more effective use of capital. At a 5% margin, a $5,000 outlay will give you $100,000 exposure to the underlying security. If you wanted to scalp a $10 stock, a 10 cent move in the right direction will give you a profit of $1,000, this compares to a $50 profit if you did not use leverage.Open a Live Account NOW